The wide-moat company is one of the best ways to play the improving consumer disposable income trends in the region.
's same-store sales were the clear highlight of its first-quarter update, adding confidence to our longer-term growth assumptions and reinforcing our view that the stock is one of the best ways to play the improving consumer disposable income trends in the region. While the sharp uptick in two-year stacked comp trends--up 7% versus 2% in the previous quarter--would have been enough to alleviate investor fears heading into the quarter, it was the quality of the comps that we found particularly impressive and supportive of our wide moat rating. Comps were not driven by overly heavy discounting, but instead by a combination of new holiday-focused menu innovations, increased loyalty program engagement and targeted marketing efforts, and increased digital and delivery adoption. With the first quarter representing the most difficult comparison of the year, we fully expect that comps will remain at least in the midsingle digits for the remainder of the year, especially as more consumers enroll in the KFC and Pizza Hut loyalty programs and mobile orders (now representing almost a third of system sales) and delivery (13% of sales at company-owned locations) become more accepted.
R.J. Hottovy, CFA, is a consumer strategist for Morningstar.
Although retail tax law changes were the key driver behind the 370-basis-point increase in restaurant margins to 23% (and likely pushing full-year restaurant margins to the low to mid-16% range), we now believe the aforementioned digital and delivery initiatives coupled with other in-restaurant staffing and operational efficiencies will push longer-term restaurant margins ahead of management's 17% target. This, in turn, should fuel greater shareholder returns beyond the $300 million share-repurchase authorization (including a potential dividend).
We plan to raise our $33 fair value estimate by a dollar or two to reflect the first-quarter upside and increased top-line outlook for 2017. We view Yum China as modestly undervalued.
Morningstar Premium Members gain exclusive access to our full analyst reports, including fair value estimates, bull and bear breakdowns, and risk analyses. Not a Premium Member? Get this and other reports immediately when you try Morningstar Premium free for 14 days.