To The Moon

• 2.3% dividend yield, 6.0% of shares authorized for repurchase.

• Pizza Hut’s successful pivot to value offerings, trading a 13% pricing reduction for a 17% traffic surge.

• An aggressive expansion into lower-tier cities, where approximately 70% of new stores are opening, fueled by extensive franchising which is high ROC (Return on Capital).

• For the second half of 2025, YUMC expects to return $664 million to shareholders bringing the year-end total to approximately $1.2 billion.

• $1.8 billion is remaining on shareholder return of capital into 2026.

• Chinese government stimulus on consumer spending, especially in the service sector, would likely boost same store sales growth and re-rate the stock.

Investment Thesis

$Yum China Holdings, Inc.(YUMC)$ is the largest restaurant operator in China, targeting 20,000 locations by 2026. The primary brands are those westerners are familiar, with 12,238 KFC locations and just over 3,700 Pizza Hut locations. Additionally, it operates other more local-oriented brands, making up under 7.0% of locations and revenue. 

Despite continued growth, the stock has seen a decline of 10.9% YTD. Largely, this is due to a weak Chinese consumer and a deflating RMB which have pressured the broad restaurant sector in China. However, YUMC has had flat same store sales, with continued expansion allowing for 3.0% year over year revenue growth for the first half of 2025 while operating margins have expanded 80bps year over year. Management has guided toward ‘steady same-store sales’ during the second half of the year, driven by higher number of delivery orders which have a higher average ticket and promotional activity driving volume.

YUMC pays out a dividend of 2.3% and has 6% of shares authorized for repurchase, which we expect them to use into 2026. We believe that management has strong expertise and is embracing more capital-efficient franchise openings in higher-growth cities which will offset flat or single digit contractions in same-store sales in existing cities. Overall, we believe YUMC is a buy for investors looking for Chinese growth exposure and improving profitability.

Estimated Fair Value

EFV (Estimated Fair Value) = EFY27 EPS (Earnings Per Share) times P/E (Price/EPS)

EFV = E26 EPS X P/E = $3.24 X 18.3 = $59.30

While the macro environment in China is soft, we believe the current valuation of around 17.0x is a discount to global QSR peers, and a discount to more local local brands like LKNCY (Luckin Coffee). The speed of recovery of the Chinese consumer in tier 1 and 2 cities determines the pace of P/E expansion in our view, with new store growth providing continued revenue growth with positive contribution margin.

SeekingAlpha Analyst Consensus

Market

The Chinese economy is currently in the throes of tight consumer spending and a deflating currency in the wake of the real estate crisis and COVID. The Chinese government has attempted to tackle this with a large stimulus package targeting durables, leaving out services including food and beverages. While the package did incentivize sales, it appeared to also draw more money away from other categories. The Chinese government has renewed the trade-in program and even expanded it to other consumer goods, with the government stating it will be spending more to boost consumer spending. 

Smaller restaurants appear to be hardest hit. According to analysts quoted in Reuters, the average restaurant in China has a lifespan of just 500 days, with restaurant profits plunging 88% in the first half of 2024 due to the slowdown and ongoing price war. YUMC’s margins have remained relatively solid despite this, which likely indicates a scale advantage. Overall though, inefficient businesses exiting the market is healthy and the food and beverage sector is expected to grow at marginally higher rate than GDP growth according to S&P, especially strong within the delivery sector.

Chinese cities are generally classified into 4 tiers, which are useful in comparing to western consumer behaviors. Tier 1 and Tier 2 cities are generally the largest and most economic productive cities, with consumers that are analogous to western consumers in preferences and disposable income level. These areas are generally regarded as ‘mature’ and contain many western businesses including restaurants and retail stores.

Below that are the less connected cities, which generally have higher growth prospects and cheaper operating costs. The caveat is that these lower tier cities generally have far lower pricing power and disposable income, which can make customer acquisition and retention more expensive. There is still a large amount of space to expand in these lower tier cities, with western brand penetration overall low in these areas due to the needed expertise and conformation to more localized tastes. According to the 2023 annual report, 70% of the middle class entrants are coming from third tier cities or below, with Boston Consulting Group estimating despite the economic slowdowns in consumer spending within China the middle class will continue to see double digit growth to 2030.

Business

KFC is YUMC’s largest brand, and the largest QSR brand in China with around 12,238 stores. Of all the stores, 10,536 (86.1%) of stores are company owned, with the 1702 remaining being franchised. According to management’s comments during the quarter ending June 2025, KFC will be switching toward a more franchise-heavy model for openings, targeting around 40-50% of new KFC locations being franchised. Of the 590 locations opened in the first half of 2025, 41% were franchised. The focus for franchisees is ‘lower-tier’ cities where localized expertise may be valuable, and atypical channels, such as attractive locations within food courts that corporate may not have been able to acquire on their own.

KFC is a highly profitable operation, with a segment operating margin of 15.6% for the 6 months ending June 2025, a 66bps expansion compared to 2024. Same store sales were roughly even, though the addition of more limited time menu items and restaurant-within-restaurant KCOFFEE cafés have increased ticket enough to boost sales by 1.0% on a same store basis.  Unit economics appear to be solid for the stores despite the economic slowdown in China, with the store payback period being around 2 years according to management (before corporate G&A expenses).

Pizza Hut is YUMC’s second largest brand, with 3,629 (93.9%) corporate owned stores, and 235 franchised stores. Similar to KFC, YUMC is targeting 20-30% franchised on new stores to help expand into lower tier cities and more unique locations, with 26% of new openings in the first half of 2025 being franchised. Much of the new store growth is in the “WOW” format, Pizza Hut locations have had 2–3-year paybacks according to management.

While not as profitable as KFC, Pizza Hut has exchanged ticket for transaction by offering more promotional deals and wider price range on the menus. Despite the 13% decline in tickets, volume was up 17%. Operating margin expanded 156bps to 9.2% thanks to a higher volume of higher-margin items sold.

For YUMC’s smaller brands, the strategy is so far on utilizing the large supply chain to build organic own brands. Thus far, these have not meaningfully contributed to the bottom line and generally break even on a brand level. As of the year-to-date period ending June 2025, these brands make up less than 7.0% of revenue.  It does not appear that management is attempting to up the pace on expansion of these brands as they are distinctly absent from investor materials and thus we believe they will likely remain in the background until the Chinese economic recovery begins.

We believe a substantial portion of YUMC’s continued success despite the economic slowdown in China is a huge push for digital orders, and loyalty memberships. Across all segments, only 6% of orders are processed by humans, with the rest being placed online, delivered, or a using a kiosk inside. Delivery has grown to be 45% of total company sales for the quarter ending June 2025, with restaurants offering services through their own apps and through third party aggregators. For KFC, delivery is 45% of sales, and Pizza hut it is 43%. While delivery historically has compressed margins as aggregators receive a cut and higher promotional activity, management noted that the average ticket per-delivery is usually enough to more than offset these factors making them positive or neutral to margins. 

For the first half of 2025, 64% of sales came from members. We believe this is an incredibly important tool that will help market specific deals to keep same-store sales up even if ticket falls. YUMC has pursued a similar strategy as other loyalty offerings at competitors, encouraging stickiness through repeat order promotions or exclusive deals with popular IPs within China.

Risk

The Chinese restaurant market is highly competitive. With the economic downturn, local brands and other western brands are competing for a delicate disposable income. McDonalds is targeting more than 1,000 stores per year in expansion to hit 10,000 stores by 2028. While increased competition will likely drive promotional activity that may compress margins, we believe that the large existing footprint will provide brand recognition advantage and stronger domestic supply chains.

The Chinese government has been embarking on programs to stimulate consumer spending such as rebates, which if these extend to services could provide a solid boost to the top line. However, we believe that YUMC is stable even in the current environment.

Currency risk is more present with YUMC, reporting earnings in USD and being domiciled in the United States. All of the company’s revenues and most of its expenses are in RMB. Per disclosures, if the RMB were to depreciate by 10%, operating margins would compress by around 118bps.

Financials

For the first 6 months of 2025, YUMC’s total company revenues grew 3.0% excluding the impact of foreign exchange, driven by new store openings. For the full year 2025, management expects company-wide sales growth to be roughly at this pace. Typically, there is a moderate level of seasonality, with peaks in the first quarter due to the Chinese New Year Holidays.

Company-wide operating margins expanded 80bps to 12.2%, driven by favorable commodity prices and efficiency gains from continuing digitization which is a trend management expects to continue through the end of the year. The gains were partially offset by higher delivery mix, which we expect to increase, and increased promotional activity. Unlike the US, wage inflation in China is relatively muted and we do not expect it to increase given the RMB’s deflation and government policy position of stimulating spending through vouchers.

YUMC has a $2.1 billion cash position, with no long-term debt. The largest liability is capital leases, and we believe given the 2-year payback on KFC and 2-3 year on Pizza Hut are likely very comfortably covered on a restaurant level.

For the trailing twelve months ending June 2025, YUMC generated $834 million in free cash flow, or around a 90.8% conversion rate from net income. For 2025, Capex guidance has been lowered to $6-700 million, from the previous $7-800 million, however based on management’s reported lower average cost to open a store, we believe that this is due to efficiency improvement rather than a decrease in planned units.

Currently, YUMC pays out a dividend of 2.3%, or $0.96 annually at a payout ratio of 33%. Currently, the share repurchase authorization has $936 million remaining or approximately 6.1% of outstanding shares. For the second half of 2025, YUMC expects to return $664 million to shareholders bringing the year-end total to approximately $1.2 billion. Based on management’s previous $3 billion 2-year target, $1.8 billion will be returned in 2026 while management maintains ‘flexibility’ on the mix between dividend increase or higher repurchase authorization.

Conclusion

While investor sentiment is cautious due to the Chinese economy is struggling with poor consumer spending, we believe that any government intervention into the service side of the economy, as they have with goods, would likely rerate the stock and adjust the outlook upward for sales.

We believe that the existing highly profitable stores in tier 1 and 2 cities provide a strong base for capital returns through the dividend and through repurchases. New stores in tier 3 and below cities are thus far meeting the historical 2-3 year payback period for new locations and have expanded operating margins and volumes despite the lower ticket. We believe that YUMC is a good buy for investors looking to gain exposure to the long-term growth of the Chinese consumer market, executed by a company with a global brands and improving profitability.

Peer Comparisons

$Yum China Holdings, Inc.(YUMC)$ $Domino's Pizza(DPZ)$ $Luckin Coffee Inc.(LKNCY)$ $McDonald's(MCD)$

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