Yum China revs up restaurant expansion, share repurchases

The operator of the KFC and Pizza Hut chains in China spent a record $745 million on share buybacks and dividends in the first quarter of 2024

Key Takeaways:

• Yum China repurchased 17.9 million of its shares this year through April 23, well ahead of the 12.4 million shares it bought back in all of 2023 and 10.6 million in 2022
• The company recently passed the 15,000-store milestone in China and launched a new standalone coffee chain attached to existing KFCs, with plans to ramp up the model

By Doug Young

In the race for China’s fast-food market, Yum China Holdings Inc. (YUMC.US; 9987.HK) is staying well ahead of the pack. The operator of KFC and Pizza Hut restaurants in China passed a major milestone in the first quarter with its 15,000th store opening, as it boosted its presence in the many smaller cities that are home to much of country’s population.

That’s one of the top highlights from the company’s latest quarterly reportissued on Tuesday. Another shows Yum China spent a record $745 million on share buybacks and dividends, often collectively referred to as “returning money to shareholders,” in the first three months of the year. It did that by buying back more of its shares in a single quarter than in any year in its 8-year history as a publicly traded company. It also boosted its quarterly dividend to a new high.

It repaid investors as it continued with its breakneck expansion in a market that still has plenty of room to grow despite more cautious consumer spending. Among other things, it ramped up its drive into China’s smaller cities by rolling out new smaller store formats that can be opened for as little as one-third of its current average cost. It also ramped up its push into franchising, leveraging its strong know-how and operational capability and taking advantage of experienced third-party partners to expand more quickly, especially in smaller markets and harder-to-reach channels like hospitals, universities or even highway service stations.

The company also threw down the gauntlet to coffee shop operators like Starbucks (SBUX.US) and local leader Luckin (LKNCY.US), with KFC rolling out separate storefronts for KCOFFEE, its coffee segment, side-by-side with existing KFC stores, allowing for a shared kitchen and other resources that substantially reduce store investment cost while achieving greater efficiency.

“We are expanding (our) addressable market through a multifaceted approach with flexible store formats, franchising and a range of exciting products across price points,” said Yum China CEO Joey Wat on the company’s first-quarter earnings call. “With these actions underway, we believe we are well-poised to sustain strong growth and create long-term value for our shareholders.”

The report showed generally positive business trends, including solid revenue growth on a constant-currency basis. The stock is relatively undervalued compared to global peers like Starbucks, McDonald’s (MCD.US) and former parent Yum Brands (YUM.US), which is probably why the company has been buying back shares so aggressively.

Yum China said it purchased 16.6 million shares for $681 million in the first three months of the year. Its website showed it continued to aggressively buy the stock in April, with 17.9 million shares purchased this year as of April 23. To put that in perspective, the company repurchased 12.4 million shares during all of last year, and 10.6 million in 2022, the only two years when it bought more than 10 million shares during the year.

At the same time, the company also announced a quarterly dividend of $0.16 per share, up sharply from the $0.13 in each of last year’s four quarters and $0.12 per share each quarter in 2022 and 2021.

Drive to smaller cities

Next, we’ll look at some of the company’s latest initiatives, many aimed at tapping China’s smaller markets that will be critical to its goal of serving half of China’s population by 2026. The company said it opened 378 net new restaurants during the first quarter, bringing its total to 15,022. Of those new openings, about two-thirds used smaller formats that are typically better suited to tapping more price-sensitive lower-tier markets.

Management pointed out that KFC China recently rolled out a “small town mini-model” with simplified menus and optimized equipment that can cost as little as 500,000 yuan ($69,000) for each new store opening – only costing one third versus the current average of 1.2 million yuan to 1.5 million yuan. It added that Pizza Hut has also developed its own compact dine-in restaurant format. KFC accounted for about 70% of Yum China’s stores at the end of the first quarter, while Pizza Hut made up 23%, with the rest coming from its smaller chains like Little Sheep and Huang Ji Huang.

Yum China reiterated its previous target of opening 1,500 to 1,700 net new stores this year, on its way to a target of 20,000 total stores by the end of 2026.

Last year it set a goal of making 15% to 20% of its new store openings with franchising partners over the next three years. It was already in that range for KFC, and the overall proportion also reached 19% in its latest quarter.

Delivery is another area where the company is chasing expansion by recently teaming up with third-party takeaway services. Some of those partners have connected directly with the company’s ordering network, creating a more efficient system than Yum China’s previous practice of doing all deliveries with its own drivers. It said its delivery sales grew 12% in the first quarter to account for 38% of all orders for KFC and Pizza Hut combined.

On the coffee front, the company jumped into China’s recent craze for coffee with the launch of a new storefront model for its KCOFFEE segment. The brand has been part of KFC’s offerings since 2015 but is now being set up as a separate storefront attached to KFC stores. While the new KCOFFEE stores have their own separate dining spaces and menus, they run alongside existing KFC restaurants to take advantage of their kitchens and other resources. It has already opened 100 such stores in less than a year, and, with the number of KCOFFEE cups sold recording a 30% year-on-year increase in the first quarter, the company intends to “roll this model out aggressively.”

We’ll close with some of the company’s “big picture” financials, headlined by a 7% year-on-year revenue increase on a constant-currency basis to $2.96 billion, with much of the gain coming from new store openings. The bottom line was the company posted core operating profit of $396 million, up 1% year-on-year. Its net income was roughly flat at $287 million, though its earnings per share still rose 10% on a constant-currency basis due to its heavy share repurchases over the last year.

To subscribe to Bamboo Works free weekly newsletter, click here