The Worst Is Over for Yum! Brands

NEW YORK (TheStreet) -- Back in July, shortly after Yum! Brands (YUM) reported its second-quarter earnings results, I argued that the stock -- at the time trading around $72 per share -- would not go higher than $75. Yum! investors disagreed.

Fast-forward three months later: Shares are trading right around where they were in July. Before we continue, I need to make it clear that this is not -- by any means -- a bearish thesis on Yum!. In fact, on more than one occasion, I've come to the company's defense, commending its management team for taking appropriate action to address not only the scandal involving two suppliers to the company's KFC restaurants, but also ensuring consumers that the chickens (if cooked properly) were safe to eat.

Nevertheless, while it is clear that the company continues to progress from what has been a rash of bad publicity, I still don't believe there is much value in the stock, which now seems fairly priced on the basis on long-term, free-cash-flow growth of 11% to 13%. With the company's third-quarter earnings results due out Tuesday, it will take exceptional same-store sales and better-than-expected guidance to send the shares higher. Investors should definitely not hold their breath, expecting either scenario will play out.

Although analysts will be looking for better results -- and by "better" I mean numbers that are meaningfully superior to the periodic updates provided by the company -- the good news is, given that China accounts for more than 50% of Yum!'s overall revenue, the Street already knows the full extent of Yum!'s troubles in that market.

This also means, regardless what the numbers may say, there will be very limited downside in the stock. What's more, as bad as Yum!'s results in China have been, including a 20% decline in same-store sales in the July quarter, things were never as bad as previously believed -- even though same-store-sales for the company's KFC restaurants in China was down 26% year over year.

I won't argue that the public relation nightmares were strong catalysts to the company's poor performance. It's not as if Yum! has been significantly outperformed by, say, McDonald's ( MCD), which hasn't fared any better. But, McDonald's hasn't been linked to any scandals or health concerns.

Given that China accounts for more than 40% of the company's profits, I believe the health of the overall Chinese economy will continue to play an important role in Yum!'s long-term valuation. This does not make the stock exceptionally appetizing at the moment.

The company's management, which is well aware of its over-reliance in the Chinese market, has begun to look for growth opportunities in other emerging markets like Africa and Russia. Management is hoping that these areas, will flourish by the time China fully rebounds. In the meantime, it will be the operations in the U.S. that's doing all of the heavy lifting. Overall, it's a good strategy, but it's going to take years to execute.

Make no mistake, however, China, which management expects to grow by 15% for the full fiscal year, will always remain an important market. Management recently discussed expansion plans for an additional 700 stores. The difference, though, is that management has emphasized more Pizza Hut stores than KFC, which, under the circumstances, makes plenty of sense.

Here again, this goes back to my concerns about the stock price. While management has indeed put together an excellent growth plan, it will take years of solid execution to deliver the value on that plan. And investors need to consider how long they are willing to wait, while possibly allowing better opportunities to go by. As it stands, I don't see much (if any) value in these shares.

At the time of publication, the author held no position in any of the stocks mentioned.

This article was written by an independent contributor, separate from TheStreet's regular news coverage.

Richard Saintvilus is a co-founder of StockSaints.com where he serves as CEO and editor-in-chief. After 20 years in the IT industry, including 5 years as a high school computer teacher, Saintvilus decided his second act would be as a stock analyst - bringing logic from an investor's point of view. His goal is to remove the complicated aspect of investing and present it to readers in a way that makes sense.

His background in engineering has provided him with strong analytical skills. That, along with 15 years of trading and investing, has given him the tools needed to assess equities and appraise value. Richard is a Warren Buffett disciple who bases investment decisions on the quality of a company's management, growth aspects, return on equity, and price-to-earnings ratio.

His work has been featured on CNBC, Yahoo! Finance, MSN Money, Forbes, Motley Fool and numerous other outlets.

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