Yum! Brands, Inc. (YUM) stock is surging in early trading on Tuesday, after the company announced it would be solving its woes in Asia … simply by spinning off YUM China.
YUM stock was up as much as 5% in premarket trading.
It’s the right move for Yum! Brands, which owns KFC, Pizza Hut, Taco Bell and other quick-service restaurant brands like a Chinese hot-pot concept called Little Sheep.
While China was once the crown jewel of YUM stock — which saw enormous success with KFC in particular in China — the rapid deceleration of the Chinese economy, as well as supply chain issues and branding problems in the wake of the avian flu scare combine to make a YUM China spinoff seem rather appropriate today.
China Had Been Too Big a Problem for Too Long
Leading up to today’s announcement, which will essentially do away with company-owned stores in China and turn Yum China into one massive royalty-paying franchisee, there was writing on the wall.
The graffiti seemed to suggest that YUM stock holders were getting sick and tired of China.
In May, activist investor Keith Meister took what amounted to nearly a 5% stake in YUM stock, and began lobbying for the company to franchise the entirety of its China business. That’s a dramatic change from how the division is currently structured. At the end of 2014, a whopping 77% of the 4,828 KFC units in China were company-owned.
Almost 100 percent of the 1,572 Pizza Hut locations in China were company owned, and Taco Bell has yet to enter the Chinese market.
Simply put, when the going gets tough, this company-owned model was bad news for YUM stock — particularly as it relates to China, which is going through some very public struggles of its own.
In August, when the U.S. stock market suffered its first 10% correction in four years due to concerns about a devaluing renminbi and decelerating economic growth, Wall Street panicked.
Personally, I didn’t know China was in major trouble until I saw the 15% to 20% drop in YUM stock on Oct. 7, after the company reported same-store sales growth of just 2% in YUM China. Wall Street was looking for 9.6%.
Those kind of misses don’t happen very often — especially not with highly liquid issues like YUM stock.
3 Things to Know About YUM Stock Going Forward
When the YUM China spinoff is completed (by late 2016, the company says), what will each independent company look like?
The press release is glad you asked:
“The Company is expected to have no significant debt, with substantial financial capacity to invest in its business. A favorite of China’s growing middle class, Yum! China has the potential to grow to 20,000 restaurants or more in the future from approximately 6,900 restaurants today.”
What about Yum! Brands itself? Happy to answer:
“Yum! Brands will become more of a ‘pure play’ franchisor over time, and is targeting having at least 95% of its restaurants owned and operated by franchisees by the end of 2017. It currently has a global base of over 41,000 restaurants, with approximately 2,000 new units being opened each year.”
How can YUM stock owners expect to be remunerated?
“Yum! Brands is committed to returning substantial capital to shareholders in conjunction with the separation. This will occur as the Company transitions to a non-investment grade credit rating with a balance sheet more consistent with highly leveraged peer restaurant franchise companies.”
Change is the only constant in life, and I applaud YUM for doing what’s best for YUM stock holders with the YUM China spinoff. It’ll de-risk the company and turn it into more of a predictable cash cow than capital-intensive emerging markets play.
As of this writing, John Divine did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @divinebizkid or email him at editor@investorplace.com.
