NEW YORK (TheStreet) -- Fast food chains and mass market restaurants can provide insightful indications on the global economy, its strengths and weaknesses. To that end, one of the most insightful companies reported Wednesday night. The owner of well-known franchises KFC, Pizza Hut and Taco Bell, Yum! Brands (YUM), announced mixed second-quarter numbers, disappointing market expectations. As a result, on Thursday shares were down nearly 6% at midday.
What does this tell us about the global investment environment?
Yum! Brands is listed in the U.S. However, it is its China division, with more than 6,000 restaurants, that made more money than any other division in any other part of the world. There is a clear advantage in growing within a country that enjoys a 7%-plus economic expansion when other western countries have an economic growth under 2%. In China, Yum! reported a 15% same-stores sales rise, which compares nicely with a 3% decline at the ex-China Pizza Hut division or with the 2% sales increase at the ex-China Taco Bell and KFC division over the same period.
Does this suggest you should buy companies with China exposure?
Hold on a second. For Yum! Brands, comparisons with a year ago were easy. In 2013, same-store sales were down 20% after some food hygiene scandals reported by the Chinese media kept consumers away. China is a good growth market, but it is not a flawless market.
How about elsewhere in the world?
Apart from Taco Bell, Yum! Brands are not seeing any same-store sales growth in the United States. Consumers are still cautious in their spending and held back by concerns for their health and by the high level of competition. Pizza Hut,which seems the worst impacted, is considering improving its offering. Its results are largely boosted by the emerging countries. Pizza Hut, a new division that includes all Pizza Hut results outside China and India, saw a 2% decline in the U.S., but a 4% increase in emerging markets. The same is true at KFC.
So does this suggest one should buy companies with emerging market exposure?
Judging by the Yum! Brands results, this seems a reasonable call -- at least for the products that the company is offering.
What could go wrong? One aspect to worry about is down in the company's earnings release: Second-quarter "food and paper" costs rose by 10% year on year. That matched the global revenue growth for the whole company. Operating profit went up, thanks to better cost control elsewhere in the business. In short, the company managed to absorb input cost rises.
So where does this leave us? Emerging markets are probably offering more growth than developed markets like the U.S. -- but watch for individual country issues and challenges. In addition, keep an eye on a company's ability to offset cost increases. Yum! Brands managed to do this to its credit -- even if it failed to hit the market's expectations.
Even companies with good growth opportunities have hurdles to overcome. It is not easy out there.
That's the fast food message from Yum! Brands.
At the time of publication, the author held no positions in stocks mentioned.
This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.
TheStreet Ratings team rates YUM! BRANDS INC as a Buy with a ratings score of A-. TheStreet Ratings Team has this to say about their recommendation:
"We rate YUM! BRANDS INC (YUM!) a BUY. This is based on the convergence of positive investment measures, which should help this stock outperform the majority of stocks that we rate. The company's strengths can be seen in multiple areas, such as its revenue growth, increase in stock price during the past year, increase in net income, good cash flow from operations and expanding profit margins. We feel these strengths outweigh the fact that the company has had generally high debt management risk by most measures that we evaluated."
Highlights from the analysis by TheStreet Ratings Team goes as follows:
- The revenue growth came in higher than the industry average of 7.3%. Since the same quarter one year prior, revenues slightly increased by 7.5%. Growth in the company's revenue appears to have helped boost the earnings per share.
- The stock has risen over the past year as investors have generally rewarded the company for its earnings growth and other positive factors like the ones we have cited in this report. Turning our attention to the future direction of the stock, it goes without saying that even the best stocks can fall in an overall down market. However, in any other environment, this stock still has good upside potential despite the fact that it has already risen in the past year.
- The net income growth from the same quarter one year ago has exceeded that of the S&P 500 and greatly outperformed compared to the Hotels, Restaurants & Leisure industry average. The net income increased by 18.4% when compared to the same quarter one year prior, going from $337.00 million to $399.00 million.
- Net operating cash flow has increased to $570.00 million or 42.14% when compared to the same quarter last year. The firm also exceeded the industry average cash flow growth rate of -3.17%.
- 37.19% is the gross profit margin for YUM! BRANDS INC which we consider to be strong. It has increased from the same quarter the previous year. Regardless of the strong results of the gross profit margin, the net profit margin of 14.64% trails the industry average.
- You can view the full analysis from the report here: YUM! Ratings Report