Yum China (YUMC)

Fast-food company Yum China (NYSE:YUMC) fell short of the market’s revenue expectations in Q1 CY2025, with sales flat year on year at $2.98 billion. Its non-GAAP profit of $0.77 per share was 1.5% below analysts’ consensus estimates.

Company Overview

One of China’s largest restaurant companies, Yum China (NYSE:YUMC) is an independent entity spun off from Yum! Brands in 2016.

Traditional fast-food restaurants are renowned for their speed and convenience, boasting menus filled with familiar and budget-friendly items. Their reputations for on-the-go consumption make them favored destinations for individuals and families needing a quick meal. This class of restaurants, however, is fighting the perception that their meals are unhealthy and made with inferior ingredients, a battle that's especially relevant today given the consumers increasing focus on health and wellness.

American competitors include Burger King (owned by Restaurant Brands, NYSE:QSR), McDonald’s (NYSE:MCD), and Starbucks (NASDAQ:SBUX) while Chinese competitors comprise of Dicos, Home Original Chicken, and Real Kungfu.

A company’s long-term sales performance is one signal of its overall quality. Any business can put up a good quarter or two, but many enduring ones grow for years.

With $11.33 billion in revenue over the past 12 months, Yum China is one of the most widely recognized restaurant chains and benefits from customer loyalty, a luxury many don’t have. Its scale also gives it negotiating leverage with suppliers, enabling it to source its ingredients at a lower cost. However, its scale is a double-edged sword because there are only a finite of number places to build restaurants, making it harder to find incremental growth. To expand meaningfully, Yum China likely needs to tweak its prices, start new chains, or enter new markets.

As you can see below, Yum China grew its sales at a sluggish 4.9% compounded annual growth rate over the last six years (we compare to 2019 to normalize for COVID-19 impacts) as it barely increased sales at existing, established dining locations.

This quarter, Yum China’s $2.98 billion of revenue was flat year on year, falling short of Wall Street’s estimates.

Looking ahead, sell-side analysts expect revenue to grow 6.7% over the next 12 months. Although this projection suggests its newer menu offerings will spur better top-line performance, it is still below the sector average.

Number of Restaurants

A restaurant chain’s total number of dining locations often determines how much revenue it can generate.

Yum China sported 16,642 locations in the latest quarter. Over the last two years, it has opened new restaurants at a rapid clip by averaging 12.6% annual growth, among the fastest in the restaurant sector.

When a chain opens new restaurants, it usually means it’s investing for growth because there’s healthy demand for its meals and there are markets where its concepts have few or no locations.

Same-Store Sales

A company's restaurant base only paints one part of the picture. When demand is high, it makes sense to open more. But when demand is low, it’s prudent to close some locations and use the money in other ways. Same-store sales gives us insight into this topic because it measures organic growth at restaurants open for at least a year.

Yum China’s demand within its existing dining locations has been relatively stable over the last two years but was below most restaurant chains. On average, the company’s same-store sales have grown by 1.5% per year. This performance suggests it should consider improving its foot traffic and efficiency before expanding its restaurant base.

In the latest quarter, Yum China’s year on year same-store sales were flat. This was a meaningful deceleration from its historical levels. We’ll be watching closely to see if Yum China can reaccelerate growth.

Yum China has bad unit economics for a restaurant company, giving it less room to reinvest and grow its presence. As you can see below, it averaged a 20.6% gross margin over the last two years. That means Yum China paid its suppliers a lot of money ($79.37 for every $100 in revenue) to run its business.

In Q1, Yum China produced a 23.1% gross profit margin, up 4.8 percentage points year on year. Yum China’s full-year margin has also been trending up over the past 12 months, increasing by 1.3 percentage points. If this move continues, it could suggest better unit economics due to some combination of stable to improving pricing power and input costs (such as ingredients and transportation expenses).

Operating margin is a key profitability metric because it accounts for all expenses keeping the business in motion, including food costs, wages, rent, advertising, and other administrative costs.

Yum China has done a decent job managing its cost base over the last two years. The company has produced an average operating margin of 10.1%, higher than the broader restaurant sector.

Looking at the trend in its profitability, Yum China’s operating margin might fluctuated slightly but has generally stayed the same over the last year. This raises questions about the company’s expense base because its revenue growth should have given it leverage on its fixed costs, resulting in better economies of scale and profitability.

In Q1, Yum China generated an operating profit margin of 13.4%, in line with the same quarter last year. This indicates the company’s cost structure has recently been stable.

Free cash flow isn't a prominently featured metric in company financials and earnings releases, but we think it's telling because it accounts for all operating and capital expenses, making it tough to manipulate. Cash is king.

Yum China has shown impressive cash profitability, giving it the option to reinvest or return capital to investors. The company’s free cash flow margin averaged 6.6% over the last two years, better than the broader restaurant sector.

Taking a step back, we can see that Yum China’s margin was unchanged over the last year, showing it recently had a stable free cash flow profile.

Yum China’s free cash flow clocked in at $315 million in Q1, equivalent to a 10.6% margin. This result was good as its margin was 2 percentage points higher than in the same quarter last year, but we wouldn’t read too much into the short term because investment needs can be seasonal, causing temporary swings. Long-term trends carry greater meaning.

EPS and free cash flow tell us whether a company was profitable while growing its revenue. But was it capital-efficient? A company’s ROIC explains this by showing how much operating profit it makes compared to the money it has raised (debt and equity).

Although Yum China hasn’t been the highest-quality company lately because of its poor top-line performance, it found a few growth initiatives in the past that worked out wonderfully. Its five-year average ROIC was 30.9%, splendid for a restaurant business.

Businesses that maintain a cash surplus face reduced bankruptcy risk.

Yum China is a profitable, well-capitalized company with $1.99 billion of cash and $1.95 billion of debt on its balance sheet. This $40 million net cash position gives it the freedom to borrow money, return capital to shareholders, or invest in growth initiatives. Leverage is not an issue here.

It was good to see Yum China meet analysts’ same-store sales expectations this quarter. On the other hand, its revenue missed significantly and its EBITDA fell short of Wall Street’s estimates. Overall, this was a weaker quarter. The stock traded down 1.4% to $46.02 immediately following the results.

Updated: May 16, 2025 at 10:43 PM EDT

Before deciding whether to buy Yum China or pass, we urge investors to consider business quality, valuation, and the latest quarterly results.

Yum China has some positive attributes, but it isn’t one of our picks. Although its revenue growth was a little slower over the last six years, its new restaurant openings have increased its brand equity. Investors should tread carefully with this one, however, as Yum China’s gross margins make it more difficult to reach positive operating profits compared to other restaurant businesses.

Yum China’s P/E ratio based on the next 12 months is 16.1x. This valuation multiple is fair, but we don’t have much faith in the company. We're pretty confident there are superior stocks to buy right now.

Wall Street analysts have a consensus one-year price target of $58.30 on the company (compared to the current share price of $44.90).

Want to invest in a High Quality big tech company? We’d point you in the direction of Microsoft and Google, which have durable competitive moats and strong fundamentals, factors that are large determinants of long-term market outperformance.

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