Before Yum Brands (YUM) reported earnings in early February, I made a prediction: Chatter about its chicken supply would blow over soon, while concerns about China were baked into its stock price.
The day after Yum’s report, I seemed wrong, as the stock shed 6% .
And then things started to turn around. Despite that initial selloff and a bumpy April, YUM has tallied an overall gain of 9% since my prediction — not as good at the broader market’s 15% gains during that period, but hardly anything to sneeze at considering the alarming Yum headlines everywhere.
I wish I could be happy about that.
Instead, things look much worse at this stage in the game. While bad news seemed baked into the stock price four months and a few reports ago, now it doesn’t seem to be baked in enough.
To start, the antibiotic chicken I talked about earlier in the year was followed by an even worse food supply scare: a bird flu outbreak.
Enter ugly numbers out of China, like the 19% drop in May same-store sales Yum reported this morning.
Sure, the company maintains — as I said about its last chicken scare — that the food supply concerns will blow over shortly. And it’s not that I don’t believe them. Today’s news was better than April’s numbers. KFC same-store sales specifically tumbled 36% in April, but “only” 25% in May.
But that recovery won’t mean growth until Q4 of this year, according to the company’s predictions. That’s still a decent ways off … and is hardly enough to justify the stock’s current premium.
Yum looks frothy, currently trading for a price over 23 times fiscal 2013 earnings and for a price/earnings-to-growth ratio of 2.
Heck, the stock is less than $2 away from analysts’ median price target of $74 as it is — hardly room for much upside.
This is worrisome … especially considering we haven’t even gotten to the biggest red flag of all. As investors get over Yum’s chicken problems, they seem to be overlooking the bigger problem: China itself.
While China is still expected to be one of the world’s fastest-growing economies — the seeming favorite BRIC emerging market that countless companies have bet big on — the possibility of a hard landing for its slowdown is becoming more and more real.
Recent PMI reports show that both the services and manufacturing sectors have been slowing, while InvestorPlace‘s Daniel Putnam reports that “China-sensitive investments are displaying weakness right now” despite “a time of unprecedented central bank support globally.” InvestorPlace Editor Jeff Reeves even thinks China’s Sky City — which will be the world’s tallest building when built — is a sign that things are about to take a turn for the worse.
Hardly good news for Yum, a company that gets half its sales from that market … and that is already facing an uphill battle with the bird flu hangover.
Plus, the impact of China’s growth — or lack thereof — extends beyond a few thousand KFC restaurants. Reeves noted that commodity stocks and automobile makers are at risk from China’s weak economy, while Putnam thinks U.S. stocks overall won’t survive without a soft landing.
With that in mind, whether you’re investing in Yum Brands or not, keep a close eye on China. Even if China’s bird flu outbreak is over, the worst may not be.
As of this writing, Alyssa Oursler did not own a position in any of the aforementioned securities. Follow her on Twitter: @alyssaoursler.