Options Trade – Yum! Brands, Inc. (NYSE:YUM) Calls
Monday, October 06, 2014

**OPTIONS TRADE: Buy the YUM Apr 2015 72.500 call (YUM150417C00072500) at or under $3.50, good for the day. Place a protective stop loss at $1.40 and a pre-determined sell at $6.50.

by Ian Harvey

October 06, 2014

Introduction

Yum! Brands, Inc. (NYSE: YUM), a quick service restaurant company based on number of system units, will report Q3 results after the market close on October 7, with analyst expecting earnings of $0.87 per share, up slightly from the $0.85 it earned during the same period last year. The stock is down 4.1% on the year which allows for a good opportunity for a profit from this options trade.

YUM Brands is the owner of the globally-known KFC, Pizza Hut, and Taco Bell brands that offer pizza, chicken and Mexican-type food. YUM has a huge, growing global portfolio of 40,000 restaurants in 125 countries and a strong presence in the emerging economies with over 14,000 units. Although it is facing challenges in the Chinese market, YUM is a long-term player that has the ability to resolve these issues.

Yum! Brands is coming off a disappointing second-quarter report, after which the stock dropped sharply and has yet to really recover, but the good news is that the stock appears to have built a solid level of support. The company continues to face a tough U.S. market, but internationally things seem to be going OK. Last quarter it reported company-wide same-store sales growth of 15% in China, therefore expect international growth to remain strong.

Technical Details

Yum! Brands has a 52-week low of $64.08 and a 52-week high of $83.58. The stock’s 50-day moving average is $72.11 and its 200-day moving average is $75.52. The company has a market cap of $31.469 billion and a price-to-earnings ratio of 27.12.

Earnings

Yum! Brands last released its earnings data on Wednesday, July 16th. The company reported $0.73 earnings per share (EPS) for the quarter, beating the consensus estimate of $0.72 by $0.01. The company had revenue of $3.20 billion for the quarter, compared to the consensus estimate of $3.23 billion.

During the same quarter in the previous year, the company posted $0.56 earnings per share. The company’s revenue for the quarter was up 10.3% on a year-over-year basis. Analysts expect that Yum! Brands will post $3.38 EPS for the current fiscal year.

The company also recently declared a quarterly dividend, which is scheduled for Friday, November 7th. Shareholders of record on Friday, October 17th will be given a dividend of $0.41 per share. This represents a $1.64 dividend on an annualized basis and a yield of 2.29%. The ex-dividend date of this dividend is Wednesday, October 15th. This is a positive change from Yum! Brands’s previous quarterly dividend of $0.37.

Improvements Afoot

1. Yum! has worked to combat consumers' perception of its "lower-quality" food, hiring celebrity chef Lorena Garcia in mid-2012 to craft its "Cantina" line of fresh, Chipotle-esque burritos and salads.

2. Earlier this year, Yum! even announced a new fast-casual concept of its own to be named "U.S. Taco Co. and Urban Taproom" -- a decision the company says was made after a segmentation study discovered a large demographic unlikely to use fast-food restaurants at all. In essence, this meant Chipotle wasn't necessarily stealing huge market share, but rather that Taco Bell was missing this group of potential diners in the first place.

3. Yum! is also battling to repair its image in China, where August comparable-store sales plunged 13% after a local supplier was found to be improperly handling meat destined for a significant number of Yum! Brands' more than 6,000 Chinese KFC and Pizza Hut locations.

Despite its weakness, Yum! Brands is still on pace to add another 700 new locations in China this year. That would bring its total restaurant count in the country to nearly 7,000, or just half its long-term goal of having "at least" 14,000 China locations. For perspective, McDonald's has about 14,000 locations in the U.S., the population of which represents a customer-base less than one-quarter the size of China's nearly 1.4 billion. Considering that China alone represented more than $1 billion of Yum!'s operating profit in 2012 (compared to "just" $777 million amid last year's weakness), Yum! should be poised to rebound in a big way when its China business finally takes an extended turn for the better.

4. YUM has a very low penetration in the emerging markets compared to its penetration in the US. In the US, YUM has about 58 restaurants per million people compared to only 2 restaurants per million people in the top ten emerging markets in which the company operates. This shows that there is huge penetration capacity in the emerging markets where the middle class is rapidly expanding.

That most notably includes India, where it is adding more than 100 restaurants per year but still has only 714 locations serving a potential customer base of more than 1.25 billion.

YUM is working on a plan to invest $10 billion in order to expand its emerging market presence. Through this plan, YUM will expand its chain of 14,000 restaurants located in the emerging markets to 20,000 restaurants by 2020. This expansion will allow the company to derive growth from rapidly expanding markets thereby fueling its top and bottom lines in the future.

5. Africa is an emerging consumer market that has strong growth potential. Consumer spending is expected to double by 2020 and will reach nearly $1 trillion. This is a huge growth opportunity for companies around the world and YUM is planning to capitalize on this growth opportunity. YUM's KFC brand is present in Africa. KFC has successfully developed a chain of about 985 franchisees in Africa and has a strong position in the quick-service restaurant industry in the continent.

YUM has now introduced Pizza Hut in South Africa with its first branch in Johannesburg. The company is planning to open dozens of Pizza Hut restaurants in the country in the next three years. The company also wants to expand the Pizza Hut chain to three other African countries including Angola, Zambia, and Namibia in the next few years. Expansion in Africa will open a new door for rapid growth that would fuel the company's top and bottom lines in the coming years creating value for its shareholders.

Expansion in the emerging markets makes YUM an attractive long-term investment. Investors interested in gaining exposure to the emerging market's consumer spending growth should consider investing in YUM.

6. Yum!'s ambitious road map for nearly doubling U.S. Taco Bell sales to $14 billion by 2021. Much of that growth should come from focusing on new dayparts such as breakfast, which launched earlier this year, and the "afternoon snack," of which Taco Bell currently commands a tiny ~1% slice. Even if organic growth remains sluggish -- Taco Bell comps increased just 2% last quarter -- Yum! is growing Taco Bell's restaurant count by more than a third to 8,000, many of which will be located in smaller towns.

7. The CEO of Taco Bell, Greg Creed, has successfully created Doritos Locos Tacos which have proven to be one the most successful fast food products in the industry. Greg Creed will take on the seat of CEO of YUM brands in January and this is expected to bring new zeal to product development. This change is expected to bring growth to the top and bottom lines in the long term. New products will allow YUM to differentiate itself from other fast food restaurants and allow the menu to focus on healthy ingredients to capitalize on current restaurant food trends.

Analysts Opinions

Morgan Stanley reissued their equal weight rating on shares of Yum! Brands in a research report sent to investors last Friday morning. The firm currently has a $72.00 price target on the stock.

The company has also been the subject of a number of other research reports:-

• Analysts at JPMorgan Chase & Co. cut their price target on shares of Yum! Brands from $80.00 to $71.00 in a research note on Friday, September 12th. They now have a neutral rating on the stock.

• Separately, analysts at Telsey Advisory Group reiterated a rating on shares of Yum! Brands in a research note on Thursday, September 4th. They now have a $75.00 price target on the stock.

• Finally, analysts at Barclays cut their price target on shares of Yum! Brands from $83.00 to $76.00 in a research note on Thursday, September 4th. They now have an equal weight rating on the stock.

Shares of Yum! Brands have earned an average rating of “Hold” from the eighteen analysts that are currently covering the company. Ten research analysts have rated the stock with a hold recommendation, five have assigned a buy recommendation and one has issued a strong buy recommendation on the company. The average twelve-month target price among analysts that have updated their coverage on the stock in the last year is $80.53.

Summary

• YUM is a strong business that has exposure in both the developed and developing markets.

• YUM is expanding into emerging markets where consumer spending is growing at healthy rates.

• YUM plans to expand its restaurant chains in emerging markets to 20,000 by 2020.

• YUM has opened its first Pizza Hut in South Africa and plans a chain expansion in the coming years.

• YUM’s dividend yield is higher than the dividend yield of the S&P 500.

• The consensus target price indicates that there is a good level of value at the current price.

Conclusion

YUM is expanding its operations in the emerging markets where consumer spending is expected to grow at a healthy rate. YUM plans to invest $10 billion to open 6,000 more restaurants in the emerging markets by 2020 and is investing to capitalize on growth in the rapidly growing African consumer market. YUM has increased its dividends at a double-digit rate since its inception and its current dividend yield makes it an attractive value investment. YUM is definitely diversified and is growing consumer spending of the emerging markets.

In the end, there's no shortage of opportunity for Yum! to not only improve its existing operations, but also to continue growing for the foreseeable future. All things considered, that's why Yum! Brands stock is definitely considered a good options play.

Therefore, based on the facts above the following options trade is recommended…..


**OPTIONS TRADE: Buy the YUM Apr 2015 72.500 call (YUM150417C00072500) at or under $3.50, good for the day. Place a protective stop loss at $1.40 and a pre-determined sell at $6.50.



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