NBS BAFC | Investment Research Group

Yum China Holdings, Inc. (NYSE: YUMC) 31 July 2022

Into the belly of the dragon
GICS Sector: Consumer Discretionary
BUY: USD 59.11 (+21.3%) Industry: Hotels, Restaurants & Leisure

Research Team Executive Summary

Andrew Tan Jin Chew We initiate coverage on Yum China Holdings, Inc. (“YUMC” or “the Company”) with a buy
Research Director recommendation and a 12-month price target of USD 59.11, based on a blended
valuation of Discounted Cash Flow (DCF) Analysis and Comparable Analysis. The price
Jannes Koriaidi target represents a 21.3% upside from the last close price of USD 48.71 on 31 July 2022.
Research Analyst
2Q22 Earnings Highlights
Victor Lim Wei Jie ▪ Total revenue decreased from USD 2.45bn in 2Q21 to USD 2.13bn, due to temporary
Research Analyst store closures and same-store sales (SSS) decline from COVID-19 disruptions.
▪ SSS was reduced by -16% y-o-y due to COVID-19 disrupting dine-in operations.
Parry Tan Jun Kai ▪ Restaurant margin shrank by -3.7%, pressured by sales deleveraging and cost
Research Analyst inflation, amongst other factors.
▪ Net new stores saw resilient growth of 53 units, as management reiterates its
conviction of 1-2k full year net opening guidance underpinned by healthy store
Stock Data payback.
Target Price (USD) 59.11
Investment Thesis
Last Close (USD) 48.71 ▪ Increasing shift towards food delivery and expansion into lower-tier cities, accelerated
by consumer trends of China’s growing affluence will drive YUMC’s top-line growth.
Potential +/- 21.3% ▪ Dedicated investment towards digital innovation and astute management allow YUMC
to diversify offerings and sales channels, a significant edge in the current VUCA world.
Market Cap (USD bn) 20.46
▪ Through close partnerships with its suppliers and labour force, YUMC is able to
Shares O/S (mn) 420.00 sustain growth and maintain cost margins despite the inflationary macroenvironment.

52-Week High (USD) 63.45 Catalysts

52-Week Low (USD)
Avg 3M Daily Vol (mn)
LTM P/E
Source: S&P Capital IQ, IRG estimates
▪ Policy shift towards reopening and economic recovery in China will uplift business
33.55
outlook, boosted by a supportive government and accommodative financial conditions.
3.02 ▪ Announcement of store expansion plans and target achievement by management will
boost investor sentiment and signal confidence in the Company’s outlook.
27.6x ▪ Transition towards food delivery and digital payment solutions (e.g. catering apps) will
build revenue resilience and attract consumers due to preferences for convenience.

12M Price Performance

Investment Risks
▪ New COVID-19 outbreaks will negatively impact YUMC’s sales, especially in stores
80
which are located at transport hubs and tourist attractions.
70
▪ Rising prices of key commodities and raw materials (e.g. flour, oil, vegetables, poultry)
due to worsening inflation will increase input costs and put a damper on profit margins.
60
▪ Changes in Chinese political, economic and social conditions may adversely impact
50
YUMC’s business; US-China geopolitical tensions may also impose delisting risks.
USD

40
30
20
10
Financials Summary
0
Jul-21 Oct-21 Jan-22 Apr-22 Jul-22 FY end 31 Dec 2020A 2021A 2022F 2023F 2024F
YUMC S&P 500 (rebased) Revenue (USD mn) 8,263.0 9,853.0 9,922.3 11,429.5 13,198.0
Source: S&P Capital IQ
y-o-y Growth (5.8%) 19.2% 0.7% 15.2% 15.5%
Major Share Ownership (%) Net Income (USD mn) 784.0 990.0 (92.7) 240.8 644.5
Invesco Ltd 9.71 Net Margin 9.5% 10.0% (0.9%) 2.1% 4.9%
BlackRock, Inc 7.62 Diluted EPS (USD) 1.95 2.28 (0.21) 0.55 1.49
MFS Investment 4.22 y-o-y Growth 6.1% 17.0% (109.4%) 359.7% 167.7%
Management, Inc
ROA 8.8% 8.2% (0.7%) 1.9% 4.9%
Primavera Capital Group 3.90
ROE 20.0% 19.3% (1.9%) 4.3% 11.3%
J.P. Morgan Asset 3.81
Management, Inc D/E 0.37 0.36 0.33 0.33 0.33
Source: S&P Capital IQ Source: YUMC, IRG estimates

Nanyang Business School | Banking & Finance Club 1

 Fig 1. F&B Brands Under BUSINESS DESCRIPTION
YUMC’s Restaurant Network
Company Overview
YUMC owns, operates, and franchises restaurants in China. Incorporated in 2016 after
being spun off from Yum Brands (NYSE: YUM), its flagship brands include KFC and Pizza
Hut (“PH”), as well as other emerging brands such as Little Sheep, Huang Ji Huang, COFFii
& JOY, Taco Bell, and Lavazza (Fig 1). Altogether, YUMC specializes in chicken, pizza, hot
pot cooking, Chinese food, Mexican-style food, specialty coffee, simmer pot and Italian
coffee. It also operates online food delivery services and a mobile e-commerce platform.

As of 31 March 2022, YUMC operated 12,117 restaurants in approximately 1,700 cities.

Currently, the company has grown to become the largest restaurant company in China in
terms of system sales, which represent the total sales of all outlets that use all the
Source: YUMC franchised brands owned by one franchisor.

Fig 2. Business Milestones Business Milestones

In 2017, YUMC focused on developing delivery and digital capabilities, which ultimately
yielded strong growth in delivery sales with more than 5,000 stores offering delivery services
Digital & Launched Record in 900 cities. In 2018, the company launched COFFii & JOY, a standalone coffee brand. In
Delivery YUMC sales and
growth Pay net profit
2019, the Company rolled out YUMC Pay as an expansion to their Super Apps to build
stronger brand loyalty and ecosystem. In July 2020, YUMC reached a milestone of 10,000
restaurants across China and abroad; the firm built on this feat with its rapid expansion of
2017 2018 2019 2020 2021 store count from 7,562 in 2016 to 11,788 in 2021, at a solid 9.3% CAGR.

In 2021, YUMC achieved record sales and net income of around USD 9.9bn and USD
Launched Opened
COFFii & 10,000 990mn respectively, demonstrating its resilient business model despite headwinds from
JOY stores the COVID-19 pandemic. Currently, the Company aims to achieve 1,000 – 1,200 net new
units in 2022 as it remains optimistic about the long-term opportunities in China, driven by
continued urbanization, rising incomes and lower store penetration than in mature markets.
Source: YUMC
Revenue Segments
Fig 3. YUMC 2021 Revenue Mix As of 31 December 2021, YUMC owns and operates approximately 85% of restaurants, with
the remaining 15% contributed by franchisees. Franchisees contribute to the Company’s
overall revenue through upfront franchise fees and on-going royalties based on a
4.9%
percentage of sales, as well as payment for other transactions with the firm. Currently, the
main revenue drivers stem from the two flagship brands KFC and Pizza Hut, with each
22.0%
brand accounting for 73.1% and 22.0% respectively (Fig 3).

KFC primarily earns revenue through sale of food in-store, with recent focus shifting to off-
premise sales due to the emergence of COVID-19 and subsequent containment measures.
This shift in the business model for KFC has resulted in the opening of more small-format
restaurant units, with average capex per KFC/PH store dropping from RMB 3.0mn in 2020 to
73.1% under RMB 2.5mn in 2021. KFC remains one of the most popular quick-service restaurant
(QSR) brands in China, with over 8,100 restaurants in over 1,600 cities; the fried chicken
KFC Pizza Hut Others brand contributes heavily to YUMC’s performance (Fig 4), accounting for the largest
revenue segment (USD 7.0bn) and the highest operating margin (11.8%).
Source: YUMC
Pizza Hut also adopts a similar business model to KFC, such as shifting from full-fledge
Fig 4. Historical Revenue by dining in-stores to smaller satellite stores with a focus on food delivery. Pizza Hut is one of
Segments (2017 – 2021) the leading casual dining restaurant (CDR) brands in China, with over 2,500 restaurants in
over 600 cities in China; it is the second largest revenue driver for the firm, generating
7,000 USD 2.1bn in revenue though with a slighter operating margin of 5.3%.
6,000
Revenue (USD mn)

While the remaining brands account for only 4.9% of revenue in 2021, YUMC has seen
5,000
encouraging progress with its coffee business; COFFii & JOY saw same-store sales growth
4,000 (SSSG) of over 30% whereas Lavazza has grown to 58 stores since its inception in 2020.
3,000
2,000 2Q22 Earnings Highlights
The Company has seen a challenging start to 2022 as China faced another COVID-19
1,000
outbreak since early March, leading to partial or complete lockdowns in multiple cities.
0 Several stores under YUMC suspended dine-in or were temporarily closed, although an
2017 2018 2019 2020 2021 agile shift to off-premise has provided substantial support to store sales.
KFC
Pizza Hut SSS slid by -16% y-o-y, whereas total revenue similarly fell by -16% from lower same-store
All Other Segments sales and temporary closures. Still, margins took a heavy hit as operating profit and net
Corporate and Unallocated income dropped by -65% and -54% respectively.

Source: YUMC Restaurant margin was down by -3.7% y-o-y in 2Q22, due to few factors such as 1) sales
deleveraging, 2) cost inflation in commodities, wage and utility, 3) increased rider cost
associated with the rise in delivery volume and 4) FX currency effects.

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 Fig 5. Consumer Foodservice INDUSTRY OVERVIEW
in China Forecast 2022 – 2026
China Foodservice Industry
CAGR 5.1% In 2021, the consumer foodservice industry in China accumulated approximately USD 757
1,200 billion in sales value, a strong recovery of 19.0% y-o-y from the pandemic in 2020. The
969
Sales Value (USD bn)

1,000 888 921 country saw great easing of social restrictions during 2021, which allowed consumers to
805 849
757 return to restaurants and dine-out. More recently this year, China again faced a pandemic
800 resurgence which led to the return of containment measures (regional lockdowns, travel
600 restrictions etc.) as per the government’s zero COVID-19 policy.
400 Nevertheless, the consumer foodservice industry is still projected to recover and exceed
200 pre-pandemic sales levels, as China adopts prudent measures to control infections and
steer the economy back to robust growth. Coupled with demographic tailwinds and the
0 digitalization shift, the industry is expected to grow at a 5.1% CAGR for the forecast period
of 2022 to 2026, eventually attaining sales value of USD 969 billion by 2026 (Fig 5).

Source: Euromonitor International

1. Independent foodservice providers gradually phasing out
The consumer foodservice industry is highly fragmented, with the presence of many regional
Fig 6. Chained vs Independent chained players and local small independent players. Local players make up most of the
Foodservice (% of Sales Value) market with a major 81.7% share of sales value (Fig 6), including both Chinese cuisine
brands (e.g. China Quanjude (Group) Co. Ltd) and independent western cuisine players.
100% 87.0% 86.2% 85.3% 84.4% Chained players include Yum China, which currently holds the lead in the chained consumer
82.4% 81.7% foodservice market (Fig 7), as well as other popular global brands such as McDonald’s and
80% Starbucks. Chained consumer foodservice relates to the sale of F&B for instant
consumption, takeaway and home delivery, such as fast-food restaurants and convenient
60%
foodservice.
40%
13.0% 13.8% 14.7% 15.6%
17.6% 18.3% Although chained foodservice players own a minor share relative to independent players,
20% the COVID-19 pandemic provided a tailwind towards chained consumer foodservice. While
many independent players lack the financial resources to weather the crisis, chained players
0%
2016 2017 2018 2019 2020 2021
were more resilient and continued to rapidly expand store networks in the past 2 years,
resulting in their market share edging up from 13.0% to 18.3% across 2016 – 2021. Notably,
Chained Independent many independent players lack the capital to invest in digital capabilities and are reliant on
third-party delivery platforms, which erodes their profit margins due to increasing
Source: Euromonitor International commission rates charged by these platforms. On the other hand, chained players such as
YUMC tend to integrate more digital solutions as part of their business, giving them a
Fig 7. Market Share in Chained competitive advantage as their order process is faster and cost-efficient.
Consumer Foodservice in 2021
(% of Sales Value) Aside from their digital edge, chained players tend to have streamlined production
processes that allow for rapid expansion and economies of scale, which makes it
10% challenging for new and smaller independent players to break into the market. For instance,
7.9% chained players like YUMC and Haidilao remained undeterred amidst the COVID-19 crisis
8%
and continued to expand their operations, opening a record 1,165 stores and 400 stores
6% respectively in 2020.
3.4% 3.1%
4% 2.7% 2. Single’s Economy drives shifts toward food delivery and customer experience
2% 1.2% Generation Z refers to the group of consumers born between 1995 – 2009, who will shape
Chinese consumption trends in the future. Key characteristics of Generation Z individuals
0% are: 1) more individuals living alone (most voluntarily) and 2) having a more
sophisticated demand for food products.

The average size of a mainland Chinese household has declined from 3.44 to 2.62 across
2000 – 2020, due to the demographic impact of China’s one-child policy and rapid economic
Source: Euromonitor International development. As families become smaller, this results in a few lifestyle trends among the
younger generation: they become more used to living alone due to the freedom afforded in
Fig 8. Eat-In vs Off-Premise doing so; many individuals tend to be single as marriages are only occurring later and less
Foodservice (% of Sales Value) frequently etc. These trends result in the “Single’s Economy” as this consumer group is likely
to look for greater convenience in eating and other aspects of their daily lives.
100% 85.6% 84.0% 82.7%
79.4%
72.8% 70.4% This can be seen in a survey conducted by the China Hospitality Association, where
80%
respondents indicated 3 key reasons for ordering food online as compared to dining-in or
60% taking away. They are 1) being lazy to go out and wanting to save time (66.9%) 2) more
choices available (31.7%) and 3) to reward themselves with better food (28.8%). The desire
40% 27.2% 29.6% for increased convenience will continue to drive the shift towards online delivery;
20.6%
14.4% 16.0% 17.3% coincidentally, off-premise sales has more than doubled in market share from 14.4% to
20%
29.6% across 2016 – 2021 (Fig 8), driven by increasing digital adoption by Chinese
0% consumers looking for food delivery or pick-up options.
2016 2017 2018 2019 2020 2021
Shift towards delivery as compared to traditional dine-in
Off-Premise Eat-in Catalysed by the COVID-19 pandemic, Chinese consumers have shifted towards online
Source: Euromonitor International delivery and are more willing to use food delivery apps. More consumers have started using
food delivery apps, especially during lockdowns where residents are unable to leave their
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 Fig 9. Share of Respondents Who
Would Continue Using Food
Delivery Apps Post COVID-19
24%
INDUSTRY OVERVIEW
residences. As a result, more consumers will have experience using both food delivery
platforms (e.g. Meituan Waimai / 美团外卖, Ele.me / 饿了么) and proprietary food delivery
apps of individual restaurants (e.g. KFC). Even as China re-opens, approximately three-
quarters of respondents indicated that they are likely to continue using food delivery apps
post-pandemic (Fig 9). Notably, more than half of food-delivery app users in China are under
30 years old (Fig 10), which ties in with the digital-savviness of the Single’s Economy.

Strong appetite for customer experience

By 2027, the Millennials and Generation Z demographic groups are expected to make up
more than a third of China’s population. These groups are known to spend much more than
76% older generations as they grew up in a period of rapid socioeconomic growth, which leads to
a better quality of life driven by technology and digitalization. While quality still matters to
consumers, customer experience and design are of increasing importance to the younger
Yes No generations as they develop more sophisticated tastes and have higher standards in their
food choices (convenience, quality, variety), with approximately 90% of Chinese consumers
Source: Statista indicating that quality is more important than price when making a purchase (Fig 11).
Fig 10. Distribution of Food- These shifts in consumer demand have also led to the premiumization of foods and
Delivery App Users increased focus on experiences and design within marketing campaigns. For example,
within the instant food space, there has been an increasing diversification of product
35% offerings to match shifting consumer trends: while a simple range of instant noodles flavours
28.6% dominated the market previously, companies now have incorporated local traditional tastes
30%
23.6% 24.0% (e.g. Guangxi rice noodles, Haidilao’s self-heated hot pot). In terms of marketing, Chinese
25% F&B players have also stepped up their game to appeal to younger demographics, such as
20% celebrity endorsements (e.g. livestreaming) and creative advertising across different
mediums (e.g. variety shows), thus allowing them to better engage and enhance their brand
15%
9.8% 10.8% perception in a younger consumer base.
10%
3.2% 3. Rise of lower-tier cities in China set to expand Total Addressable Market (TAM)
5%
In recent years, China’s domestic market saw emerging growth from lower-tier cities (Fig
0% 12), which are key drivers in fuelling China’s next stage of consumer growth. In Chengdu
< 18 18 - 24 25 -29 30 - 39 40 - 49 > 50 (with a population of 16 million), capital of Sichuan province, average retail sales growth hit
11.6% across 2013 – 2017, compared to 7.4% in Beijing which has a population of 22
Source: Statista million. This growth differential is largely attributable to:
Fig 11. Factors Behind Population growth due to net migration and higher fertility rates
Consumption Decisions A large proportion of China’s population now lives in lower-tier cities, with 75% of the urban
population coming from Tier 3 cities and below. Rural-urban migration as well as movement
Marketing from Tier-1 to lower tier cities contribute to population growth, due to the lifting of the
Technological sense “Hukou” system from Tier 2 and 3 cities in China. Fertility rates also tend to be higher in
lower-tier cities due to cheaper living costs as compared to their counterparts in Tier-1 cities.
Brand crossover
Packaging/Design Improving accessibility set to unlock demand in smaller cities
Showcase personality Improving infrastructure and accessibility in smaller cities allow more goods and services to
be delivered efficiently, catering to pent-up consumer demand. With the rollout of longer-
Quality/Experiences
distance high-speed rails, this opens more job opportunities and leisure options for
0% 20% 40% 60% 80%100% inhabitants of lower-tier cities, incentivising them to stay there. In addition, improvements in
communication infrastructure increases online penetration and access to customer products
Pre 95s Post 95s for residents in lower-tier cities.
Source: Goldman Sachs Global Investment
Altogether, rising growth and increasing urbanization of lower-tier cities contribute to
Research
widening the consumer foodservice TAM, which provides broad opportunities for both
Fig 12. Chinese Cities by Tier independent and chained players to capture revenue potential.
Classification
4. Impact of containment measures and inflationary forces on industry players
Tier 1: Beijing, Shanghai, Guangzhou COVID-19 has remained a recurring nuisance to the consumer foodservice industry, as
and Shenzhen social distancing restrictions and city lockdowns stem crucial footfall – both for independent
and chained players with physical outlets. However, independent foodservice players have
been impacted more than chained players, due to their smaller scale and fundamentally
Tier 2: Mainly provincial and sub-
provincial capitals (Chengdu, Xi’an etc.) weaker balance sheet to ride out the crisis. Moving forward, chained players such as YUMC
stand to widen the gap, due to nimble business models and mass market positioning.

Tier 3: Mainly prefecture capitals and
country-level cities (Wenzhou etc.)
Tier 4: Smaller country-level (Jieyang,
Yiwu etc.)
Source: Invesco
At the same time, high inflationary pressure globally is expected to inevitably hit on margins.
Goldman Sachs sees the sources of cost pressure to include 1) rising utility prices (+10%
y-o-y in 1Q22) 2) food ingredients (in particular, beef costs) 3) wage inflation (+5% y-o-y
in 1Q22) and higher rider costs due to increase mix in delivery. Overall, inflation in China
has been benign compared to the global trend of accelerating prices, with the latest
producer price index (PPI) print in July at +6.1% y-o-y. Falling factory-gate inflation reflected
easing cost pressure on middle and downstream manufacturers, while slowing domestic
demand caused by zero-COVID policy has also moderated driving forces behind consumer
inflation.
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 Fig 13. YUMC Store Count INVESTMENT THESIS
Growth
11,788 1. YUMC’s shift towards delivery and increased penetration of cities
12,000 10,502
9,200 in tandem with rise of China’s growing affluence
10,000 8,484 Strategic pivot towards fulfilling off-premise demand builds revenue resilience
7,983
8,000 In the long-term, YUMC aims to accelerate growth through expansion of its store footprint;
the Company previously saw rapid growth of 8.1% CAGR from 2017 to 2021, where it
6,000 opened nearly 4,000 net new stores over five years (Fig 13). YUMC’s disciplined approach
4,000 and store format innovation has enabled the firm to maintain healthy store payback periods
of 2 / 3 years for KFC and PH respectively, which supports the firm’s strategy to expand
2,000 further in existing cities and penetrate lower-tier cities.
0
2017 2018 2019 2020 2021 Besides expanding its store footprint, YUMC is keenly aware of the consumer shift towards
KFC PH Others at-home consumption and food delivery – the Company has adjusted operations and
marketing offers to better capture the growth in off-premise demand, which is
Source: YUMC reflected in the increasing proportion of delivery sales (Fig 14). By increasing store
density to improve coverage and upgrading its rider management platform, YUMC increases
Fig 14. YUMC Delivery Sales (% its accessibility to potential customers and mitigates the impact of containment measures, as
Total Sales) consumers are still able to tap on its delivery services.

40% 38% We believe that this strategy will prove a significant advantage for YUMC over its
competitors, such as local independent players who do not have the same scale of delivery
35% 32%
30% networks. While the COVID-19 lockdowns in 1H22 severely impacted Chinese catering
30% firms, YUMC was more resilient as restaurant operations continued to provide delivery and
25% 21%
takeaway services; while Goldman Sachs project SSSG to be negative in FY2022, it is
expected to be moderate at -7.2% / -7.5% for KFC and PH respectively. Moving forward, we
20%
expect a turnaround in revenue per unit (RPU) growth to reach 7.7% / 5.6% from 2023 –
15% 2026, as delivery sales play a bigger part in building revenue resilience.
10%
5% Taste of globalization in China’s growing affluence drives top-line growth
According to J.P. Morgan, YUMC’s identifies potential markets as “YUMC City”; of the total
0%
2,700 YUMC cities, KFC covers around 1,700 and PH covers 600. YUMC’s management is
2019 2020 2021 2Q 2022
confident in the long-term market opportunities in China and believes it has the potential to
Source: YUMC
grow to 20,000 stores in the mid-term, with a focus on penetrating lower-tier cities due to its
rapidly expanding middle class and continued urbanization (Fig 15).
Fig 15. Increased Penetration of
Given the low penetration rate of restaurant chains in China, especially in lower-tier cities,
Lower Tier Cities this factor is likely to help push top line growth for YUMC. For instance, lower-tier cities (Tier
3-6) made up a significant proportion of the firm’s new stores in 2Q22, reaching 60% / 50%
KFC 2Q22 New Stores PH 2Q22 New Stores for KFC and PH respectively. We believe that YUMC’s two main brands, KFC and PH, will
see incremental unit store expansion of 9.7% / 2.0% from 2022 – 2026, underpinned by
management’s conviction in its net opening guidance and untapped demand for Western
40% 50%
foodservice in China.

60% 50% Combining both unit store and RPU growth projections, we expect robust revenue growth
of 18.1% / 7.7% from 2023 – 2026 for KFC and PH respectively, which will play a major
force in driving YUMC’s overall top-line in the coming years.
Tier 1-2 Tier 3-6
2. Diversification of brands and products coupled with digitalization
Source: YUMC 2Q22 Earnings Call initiatives cater to emerging consumer base
Constant product innovation and brand acquisitions sustain business turnover and
Fig 16. YUMC Product Range drive penetration into broader foodservice market
and Brand Expansion YUMC’s management places a strong emphasis on product innovation as well as
digitalization across both front and back operations. Through the development of new
offerings (e.g. food menus, ready-to-eat retail products) and development of other brands
(e.g. joint-venture with Italian coffee manufacturer Lavazza), YUMC actively positions itself
to expand beyond its serviceable obtainable market (SOM) of fast-food chains. Although still
a small contributor to the firm’s overall sales, other brands such as Taco Bell and Lavazza
have grown at a clip as revenue rose from just USD 106mn to USD 473mn across 2017 –
2021; for instance, management has signalled guidance to target 225 new Taco Bell stores
by 2025, as they envision ample upside for store expansion opportunity in China.

YUMC’s management pays keen attention to consumer trends and customizes its product
range to cater to local tastes (Fig 16). For example, the firm expanded its KFC regional
menus to include local comfort foods which have been well-received among its consumer
base; some key introductions include Wuhan’s hot dry noodles, steamed dumplings (xiao
long bao) and hot pepper soup (hula tang) in Henan. YUMC is also keenly aware of market
demand for convenience, particularly among Generation Z; Pizza Hut recently launched a
string of frozen-food products (e.g. frozen steak) for consumers to enjoy quality food flexibly,
Source: YUMC which allow YUMC’s to broaden its product offerings beyond consumption within its
own restaurants and into the customer’s own homes.
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 Fig 17. Coffee Market in China INVESTMENT THESIS
Forecast 2022 – 2026
YUMC also diversifies beyond its core brands to develop emerging brands (Taco Bell,
3.0 CAGR 3.3% Lavazza, Little Sheep etc.), as it seeks to penetrate other sub-markets within the consumer
2.3 2.4 foodservice industry. For instance, coffee is quickly gaining popularity in China, especially
2.5 2.3
Sales Value (USD bn)

2.1 2.2 among the younger population and working professionals; the roast coffee market in China
2.1
2.0
is expected to grow at a 3.3% CAGR, increasing from USD 2.13bn to USD 2.42bn across
2022 – 2026 (Fig 17). To tap on this growing market, YUMC and Lavazza Group established
1.5 a JV in 2020, to explore and develop the Lavazza coffee shop concept in China. Since then,
the JV has seen encouraging success as they established 58 Lavazza units by end-2021,
1.0 with the ambitious goal of opening 1000 stores by 2025. Lavazza’s success thus far is
attributable to its brand image as an authentic Italian heritage and premium roasted beans,
0.5
as well as its ability to leverage on YUMC’s widespread logistics network and expertise
0.0 within the Chinese foodservice industry.
2021A 2022F 2023F 2024F 2025F 2026F
Digitalization has also been on the forefront of YUMC’s business strategy, as the Company
Source: Euromonitor International aims to build a customer-centric digital ecosystem to deliver a quality experience.
Besides its infrastructure and supply chain, the firm invests heavily in digital initiatives such
Fig 18. YUMC Digital Sales (% as mobile ordering apps and AI in delivery networks. With China emerging as a world leader
Total Sales) in the online-to-offline (O2O) market, digital online ordering technologies have seen
increasing prevalence amongst consumers; YUMC has been able to ride the digital wave as
100% 89% digital sales rose steadily from 55% to 89% of total sales across 2019 – 2Q22 (Fig 18). We
86%
80% see this as a pertinent competitive advantage which not only serves to expand the firm’s
80% outreach to consumers, but also enhance resiliency in the contingent event of
pandemic-related movement restrictions.
60% 55%

Targeted marketing towards Generation Z taps on emerging consumer base

40% YUMC periodically customizes its marketing strategy to target Gen Z consumers, in line with
the emerging Single’s Economy in China. These strategies include thematic campaigns as
20% well as collaborations with highly popular commercial brands; for example, KFC China
collaborated with miHoYo’s role-playing game Genshin Impact in March 2021, which
0% featured a brand crossover of the game to KFC’s food promotion (Fig 19). With over 60mn
2019 2020 2021 2Q 2022 active players in Genshin Impact’s gamer base, the promotion was a hit as huge crowds
were drawn to the limited edition souvenirs on offer as part of the brand promotion. We
Source: YUMC believe that YUMC’s astute sensing of Gen Z’s idiosyncrasies enables the firm to establish a
stronger brand image with this consumer base, thus giving it an edge in capturing market
Fig 19. KFC X Genshin Impact share in future.
Brand Crossover Promotion
3. Resilient supply chain capable of mitigating cost inflation
Strong capability in mitigating impact of rising food prices through prudent supply
chain management
YUMC’s emphasis on supply chain management has helped the Company to ensure the
sustainability of their business and mitigation of input costs. While YUMC’s restaurants are
large purchasers of food, paper products and other supplies, the firm has sought to partner
with over 800 independent suppliers, most of which are China-based. YUMC continuously
strives to strengthen its supply chain network, such as acquiring land to build new logistic
centres. As of end-2021, the firm utilized 32 logistic centres to distribute supplies to
Company-owned and franchised stores; management has provided further guidance to
expand its logistics network to 45 – 50 logistic centres over the next five years, which will
further bolster YUMC’s operations and mitigate the disruption impacts of COVID-19 and cost
inflation.

Source: oneesports.gg Due to the scale of YUMC’s operations, the Company is able to mitigate inflationary
pressures through its prudent supply chain management and investment in digitalization
Fig 20. COGS as % of Revenue technologies, such as diversified supplier sources and automation of key operations (e.g.
frontline service); COGS margins have been stable historically, even during the disruptive
100% 86.0% onset of the COVID-19 pandemic in FY2020 as it only increased incrementally by around
76.5% 76.2% 78.5% 30bps y-o-y (Fig 20). Hence, we expect COGS margins to peak this year at 86.0% (in
71.4%
80% view of COVID-19 disruptions in 1H22) and trim downwards in the mid-term, with an
82.2%
75.9% 78.5% 74.9% overall reduction of 710bps between FY2021 (78.5%) and FY2026 (71.4%). We believe
60% 74.9% that YUMC’s strategic management will allow the firm to achieve cost savings if not resist
cost inflation, such as seeking longer term contracts with suppliers and deployment of
40%
technology across the supply chain.
20%

0%

Source: YUMC, IRG estimates

Nanyang Business School | Banking & Finance Club 6

 Fig 21. New COVID-19 cases in CATALYSTS
China 2022 YTD
1. Policy shift towards reopening and economic recovery in China
30,000 Although China’s zero-COVID stance has hampered economic outlook, it has also allowed
25,000 the country to clamp down on any outbreaks. Hence, any loosening of restrictions and
reopening of the economy will directly benefit YUMC, as transport networks and tourist spots
20,000
garner footfall and boost sales across physical stores. Additionally, as the economy
15,000 recovers, consumers will also be able to increase spending for fast food and premium
10,000 coffee, driving increased sales for YUMC’s key brands. While China saw a spike in COVID-
19 cases earlier in 1H22, containment measures have subsequently helped to bring down
5,000 new cases tremendously (Fig 21). We believe that prudent management by Chinese
0 authorities will soon pave the way for a full-scale reopening.

Simultaneously, loosening financial conditions will stimulate consumer spending and support
business activity. Recently, Chinese officials have signalled a more dovish tone as they
implement supportive policies to jumpstart an economy that has been facing suppressed
Source: Our World in Data GDP growth. Besides comprehensive stimulus measures, the Chinese central bank cut the
5-Year loan prime rate (LPR) from 4.60% to 4.45% (Fig 22), a clear indication of
Fig 22. China Historical 5Y LPR accommodative monetary policy. In view of the benign economic outlook, we expect the
Chinese government to maintain easier conditions which will support corporate profits.
5.0%

4.8%
2. Announcements of expansion plans and target achievement
Two key components of YUMC’s business strategy are the opening up of new stores within
4.6% China, particularly within lower-tier cities, as well as expanding its delivery network. As
YUMC announces its expansion plans and reports on the opening of stores in key cities, this
4.4% is likely to raise confidence on management’s ability to achieve their targets and signals an
4.2%
optimistic outlook on the company’s growth. For instance, YUMC CEO Joey Watt mentioned
in the FY2021 annual results that the Company would look to franchisees in remote areas
4.0% such as Tibet and strategic channels like highway rest stops, as well as reiterated guidance
to open another net 1,000 – 1,200 stores this year despite COVID-related setbacks. We
believe that continuous guidance and reporting of store expansion, supported by a
consistent growth trend (Fig 23) and reduction in new unit payback, will be a major catalyst
in strengthening investor confidence.
Source: People’s Bank of China
3. Transition towards digital innovation and payment solutions
Fig 23. Net Store Growth Digital innovation is a transformational megatrend in China, especially when it comes to its
potential in streamlining B2B operations and processes. While YUMC has already integrated
(% y-o-y change)
digitalization into its frontline process and supply chain management, further development
14.2% and adoption of industrial internet of things (IIOT) can help to improve cost efficiencies
16%
through new technologies, such as blockchain-based inventory management.
14%
11.2%
12% 9.4% 9.8% At the same time, COVID-19 helped to accelerate the adoption of online and mobile
12.2%
10% payments in China, as consumers turn to online/mobile/QR payment solutions to avoid
8% 6.3% 9.3% 9.6% infection when ordering for goods and services (Fig 24). Moving forward, increasing
8.4%
6% adoption of digital payment solutions can help to drive sales growth for YUMC, which has
4% 5.6% already established itself as one of the leading players that harness digitalization in the
2% foodservice industry, such as the launch of its catering apps (e.g. KFC/Pizza Hut Super
0%
Apps) and partnership with Alipay to enhance its digital payment functionalities.

Source: YUMC, IRG estimates

Fig 24. Payment Scenarios of

Mobile Payment Users (in 1H20)

Restaurant 69.5%
Small/Convenience… 69.0%
E-commerce 65.3%
Utility Bills 59.2%
Mobile Recharges 58.2%
Public Transportation 54.5%
Large Shopping Malls 53.1%
Money Transfer 38.5%
Parking Fee 29.1%
0% 25% 50% 75% 100%

Source: Daxue Consulting

Nanyang Business School | Banking & Finance Club 7

 FINANCIAL ANALYSIS
Fig 25. Revenue Forecast
Source: YUMC, IRG estimates
Revenue Growth
YUMC has seen consistently strong growth in historical revenue
apart from a slight setback in FY2020 due to COVID-19,
increasing by nearly USD 2bn from 2017 to 2021. Due to strict
movement controls implemented in 1H22, we expect top-line
growth to be muted in FY2022 as store operations faced partial
closure and reduced footfall. Moving forward, we see a robust
recovery as YUMC emerges from the pandemic, growing from
USD 9.9bn to USD 17.7bn across 2022 – 2026, at a steady
CAGR of 12.5%. YUMC’s expansion strategy and digital
advantage will continue to be the main drivers of business sales.
Fig 26. Net Margin, ROA & ROE
Source: YUMC, IRG estimates
Profitability & Margins
Following our revenue forecast, net margin and return indicators
are expected to take a hit in FY2022 at -0.9%/-0.7%/-1.9%
(NM/ROA/ROE) respectively. After which, YUMC is projected to
return to profitability and resume solid growth assuming no further
hiccups from the pandemic. ROE is projected to make a rapid
recovery, climbing back to pre-COVID levels of 25.2% by 2026;
net margin and ROA are expected to move at a slower pace
although still reaching pre-COVID levels eventually, levelling off at
10.0%/10.8% (NM/ROA) by 2026. We expect store expansion and
RPU growth from increased delivery to bolster margins.
Nanyang Business School | Banking & Finance Club 8
 FINANCIAL ANALYSIS
Fig 27. COGS & OPEX Margins
Source: YUMC, IRG estimates
COGS & Expenses
YUMC has managed to maintain stable cost margins historically,
both in terms of COGS and operating expenses, resulting in a
steadily increasing net margin towards FY2021. As we predict
COVID-19 to slow down revenue growth in 2022, COGS and
OPEX margins are expected to spiked briefly to 86.0%/15.5%
respectively. As YUMC’s operations return to normalcy and top-
line growth picks up momentum, we expect cost margins to
subside gradually, levelling off at 71.4%/14.5% (COGS/OPEX) by
2026. We believe that YUMC’s efficient supply chain management
and dedicated investments towards digitalization/automation
should yield significant cost savings, which would help the firm to
mitigate cost inflation and cut down its COGS margin by
approximately 710bps between 2021 and 2026, whereas OPEX
will see an incremental reduction of 100bps over the same period.
Fig 29. FCFF & CAPEX Forecast
Source: YUMC, IRG estimates
Cash Generation & CAPEX
Historically, YUMC has had a consistent trend of growing Free
Cash Flow to the Firm (FCFF), supported by healthy Operating
Cash Flows (OCF) growth. While COVID-19 is expected to have
an adverse impact on OCF in FY2022 resulting in negative FCFF
from 2022 to 2023, we see YUMC rebounding quickly as FCFF
return to positive from USD 205mn to USD 1.14bn across 2024 –
2026, as earnings make a strong recovery from FY2024 onwards.
On the other hand, CAPEX is expected to increase steadily by
USD 100~200mn per annum from 2022 to 2026, as YUMC
management remains focused on achieving its mid-term targets
for store expansion across all brands, as well as constant
restaurant format innovation to improve the guest experience.
Fig 28. Liquidity & Turnover Ratios
Source: YUMC, IRG estimates
Liquidity & Turnover
YUMC has maintained healthy liquidity ratios historically, as both
current ratio and quick ratio were hovering above 1.0x, even rising
to around 2.0x in FY2020 – 2021. These demonstrate a solid
ability to meet short-term obligations (e.g. current payables) due
to sufficient liquid assets (e.g. cash, short-term investments). We
expect YUMC to maintain stable liquidity ratios in the mid-term as
the firm generates cash quickly due to its low day sales
outstanding (DSO) of average 3.5 days. In terms of inventory
turnover, we expect it to remain stable at a healthy 19.4x ratio as
occasional knocks to demand (e.g. COVID-19) is mitigated by an
efficient procurement process, whereby the Company centrally
purchases supplies for distribution to most restaurants regardless
of ownership.
Fig 30. D/E Ratio
Source: YUMC, IRG estimates
Capital Structure
In terms of capital structure, we use debt-to-equity (D/E) ratio to
evaluate the firm’s financial leverage; most notably, YUMC’s D/E
ratio stayed at a low level of around 1% across FY2017 – 2018,
before shooting to 69.6% in FY2019. This was due to the
adoption of ASC 842 accounting pronouncement, which led to the
firm recognizing approximately USD 2.2bn in lease liabilities that
were previously off-balance sheet. Subsequently, we expect the
growth in shareholder equity to match the increase in lease
liabilities, which form the primary source of interest-bearing debt
for YUMC. D/E ratio is expected to hover around 33% across
2022 – 2026, which points to moderate leverage as lease
liabilities only increase in tandem with store expansion.
Nanyang Business School | Banking & Finance Club 9
 Fig 31. Valuation Matrix VALUATION
Method Weights Price We reiterate our BUY recommendation for YUMC with a price target of USD 59.11,
(USD) presenting a 21.3% upside potential from the last close price of USD 48.71 on 31 July 2022.
Our target price was derived as the weighted average of a combination of the discounted
Discounted Cash
40% 85.70 cash flow (DCF) model [40%] and relative valuation (RV) [60%] (Fig 31); we also
Flow (DCF)
performed both sensitivity and scenario analysis to test the robustness of our models.
Perpetuity Growth
→ 20% 68.85
Method DCF Valuation
Our DCF valuation employs the Free Cash Flow to the Firm (FCFF) methodology to arrive at
Exit Multiple Method
→ 10% 106.55 the intrinsic value of the company, with an equity value of USD 85.70 per share. We applied
– EV/EBITDA
a combination of methods to determine terminal value (TV), in order to consider the
Exit Multiple Method company’s valuation from both perspectives of going concern (Perpetuity Growth Method)
→ 10% 98.54
– EV/EBIT and an eventual sale (Exit Multiple Method); the 3 Statement Model (3FS) was used to
project YUMC’s financials for the next 5 years and arrive at the FCFFs for both historical
Relative Valuation (2017A – 2021A) and projected (2022F – 2026F) periods.
60% 41.38
(RV)
Revenue
Forward P/E Multiple → 60% 41.38
We forecasted overall revenue through granular projections of each revenue driver (aka
Target Price 59.11 revenue segments – KFC/PH/Others/Corporate & Unallocated Revenue), focusing on store
unit growth and RPU growth in each segment (i.e. store units x RPU = total revenue).
Source: S&P Capital IQ, IRG estimates
We modelled a decrease in RPU growth in FY2022 to account for the adverse impact of
containment measures earlier in 1H22, although store unit growth was maintained at a
Fig 32. WACC Calculation consistent rate throughout the forecast period as we stay confident in management’s
guidance. Unit expansion rates were aligned with industry projections of 9.7%/2.0% CAGR
Cost of Equity (chained chicken QSR / chained pizza CDR) respectively; RPU growth rates are expected to
Market Risk 4.88% Aswath recover from FY2023 across the range of 5~8% CAGR in line with industry projections too.
Premium (China) Damodaran
WACC
US 10Y We estimated a WACC of 5.89% for YUMC, taking into account both its equity and debt
Risk-Free Rate 2.67%
Treasury Yield capitalization.
Bottom-Up
Equity Beta 0.70 For cost of equity, we used China’s country/market risk premium (4.88%) from Professor
Method
Damodaran’s corporate research; YUMC’s equity beta (0.70) was derived from a bottom-up
Cost of Equity 6.10% (fundamental) approach through comparable company analysis and Hamada’s equation;
Cost of Debt
lastly, we used the 10-Year US Treasury yield as a proxy for risk-free rate since YUMC is
listed in the US equity market (i.e. NYSE). From the CAPM formula, we derive YUMC’s cost
Pre-tax Cost of of equity to be 6.10%.
5.50% Company Data
Debt
For cost of debt, we used the incremental borrowing rate on YUMC’s outstanding debt,
Tax Rate 29.76% Company Data
which is derived from the imputed interest based on its lease liabilities (5.50%). As leases
After-tax Cost constitute a majority of the firm’s long-term interest-bearing liabilities, we sought to use its
3.86%
of Debt incremental borrowing rate to reflect the interest incurred by the firm. Overall, the after-tax
cost of debt was derived to be 3.86%.
Capitalization

Market Terminal Growth

Equity 90.64% Our terminal growth rate assumption of 3% is based on 1) 10-year historical inflation rate of
Capitalization
China (~2.5%) and the long-term annual inflation goal as set by the government (3%); 2)
Debt 9.36% MV of Debt projected long term real GDP growth of China (3%). Historically, China’s average annual
WACC 5.89%
real GDP growth rate has been significantly higher than 3%, therefore we feel that a terminal
growth rate of 3% for YUMC is both approximate and conservative.
Source: S&P Capital IQ, IRG estimates
Scenario Analysis
We performed a bull / bear scenario analysis to examine the impact on YUMC’s valuation in
differing economic conditions (Fig 33).

Fig 33. Scenario Analysis

Scenario Analysis Bear Base Bull

COVID-19 continues Pandemic situation Quick rebound to full

to affect business stabilizes; operations reopening and
operations; persistent return to normalcy and economic recovery;
Scenario
cost inflation weighs store expansion drives upcycle accelerates
on margins in the mid- top-line growth. consumer spending
term. and boosts growth.

Target Price (USD) 31.82 59.11 103.38

Potential +/- -34.7% +21.3% +112.2%

Probability 10% 80% 10%

Source: IRG estimates

Nanyang Business School | Banking & Finance Club 10
 Fig 34. Sensitivity Analysis
Source: IRG estimates
Fig 35. Valuation Summary
(Football Field Analysis)
Current
USD 48.71 USD 59.11
Blended Valuation
52-Week Range
VALUATION
In the bear scenario, COVID-19 cases continue to rise and containment measures remain
prevalent in China, resulting in a slowdown of RPU growth as consumer spending remains
benign; persistent cost inflation resulting from lack of progress in geopolitical and supply
chain issues will eventually expand YUMC’s cost margins. However, we see this scenario to
have a probability of 10% as we foresee positive developments in China’s pandemic
situation and inflation cooling off within the next 1-2 years.
In the bull scenario, China achieves a swift recovery over COVID-19 and reopens the
economy to a greater extent, allowing the economic machine to quickly get up to speed. We
see that YUMC will emerge from FY2022 unabated and attain even stronger RPU growth,
as there are less obstacles in the way of its store expansion strategy.
TP
Sensitivity Analysis
We analysed our DCF model’s robustness to changes in the key inputs (Fig 34), namely
WACC and Forward P/E Multiple, the latter of which plays a heavier weightage to the
blended valuation (60%) and is more applicable for public equities. Notably, a 100bps
increase in WACC combined with a lower P/E of 25.9x still yields marginal upside (USD
52.22), which gives our base valuation some flexibility for increased capital costs and
multiple contraction in the event of a market downturn.

Relative Valuation
DCF To confirm our recommendation, we conducted RV using Forward P/E Multiples of YUMC’s
peer comparables (Fig 36), deriving a valuation of USD 41.38. We compared the company
to comparable peers in the consumer foodservice industry with significant operations in
China, across various food categories such as fast-food (McDonald’s), coffee (Starbucks),
P / NTM EPS Mexican (Chipotle), hotpot (Haidilao) etc. We used the median NTM P/E multiple of the
comparable companies in conjunction with our forecasted 2024 EPS to compute the share
0 25 50 75 100 125 price of YUMC, which was slightly lower than the last closing price. We believe that macro
factors such as COVID-19 and geopolitical issues contribute to tight valuation multiples,
USD which provide a conservative estimate of YUMC’s relative valuation.
Source: S&P Capital IQ, IRG estimates

Fig 36. Peer Comparables

Market
TEV / LTM TEV / LTM TEV / LTM P / LTM
Company (Ticker) Capitalization
Revenue EBITDA EBIT EPS
(USD mn)

McDonald’s Corporation (NYSE: MCD) 194,774.5 10.17x 21.80x 26.37x 32.40x

Starbucks Corporation (NASDAQ: SBUX) 97,234.2 3.77x 12.61x 22.66x 22.61x

Chipotle Mexican Grill, Inc. (NYSE: CMG) 43,430.0 5.68x 28.05x 51.04x 58.64x

Yum! Brands, Inc. (NYSE: YUM) 34,944.0 7.04x 19.94x 22.32x 22.27x

Restaurant Brands International Inc. (NYSE: QSR) 16,553.5 5.38x 14.79x 16.31x 19.86x

Domino’s Pizza, Inc. (NYSE: DPZ) 14,070.9 4.35x 21.95x 25.80x 30.52x

Haidilao International Holding Ltd. (SEHK: 6862) 11,118.9 1.94x 16.47x 255.91x NM

Jiumaojiu International Holdings Limited (SEHK: 9922) 3,163.1 4.72x 18.35x 34.31x 60.50x

Café de Coral Holdings Limited (SEHK: 341) 883.9 1.13x 7.04x 92.56x NM

Xiabuxiabu Catering Management (China) Holdings Co., Ltd. (SEHK: 520) 461.9 0.61x 3.48x 142.82x NM

Median 15,312.2 4.54x 17.41x 30.34x 30.52x

Yum China Holdings, Inc. (NYSE: YUMC) 20,458.2 2.03x 6.88x 41.13x 27.56x

Source: S&P Capital IQ

Nanyang Business School | Banking & Finance Club 11

 Fig 37. Investment Risk Matrix INVESTMENT RISKS
Industry Risk (I1) | COVID-19 outbreaks
High

Probability: High | Impact: Moderate

I1 COVID-19 outbreaks continue to be a significant risk to YUMC’s businesses. Given China’s
I2 strict stance against COVID-19 and its zero-COVID policy, Chinese residents are likely face
harsh lockdowns and movement control restrictions in the event of any COVID-19 outbreak,
however minor. Due to the drop in sales at YUMC’s transportation and tourist locations,
Probability

YUMC’s overall revenue will be negatively impacted.

Mitigation: Moving forward, YUMC is aiming to mitigate this risk through its effort to
enhance its delivery network within China. In the event of a subsequent lockdown due to a
new viral outbreak, YUMC’s delivery service will improve its access to consumers and allow
C1
them to order even in the comfort of their homes. Additionally, given YUMC’s timely pivot
towards delivery at the start of the pandemic in early 2020, the Company will be able to
Low

ramp up its delivery services and quickly react to any containment measures.

Low Impact Industry Risk (I2) | Rising inflation costs

High
Probability: High | Impact: Moderate
Source: IRG estimates Raw Materials
YUMC’s business depends on having reliable sources of raw materials such as poultry,
Fig 38. YUMC Employee Benefits pork, beef, seafood, cheese, oil, flour, vegetables, coffee beans etc. for its restaurants.
These ingredients are required to produce YUMC’s key products (e.g. fried chicken, pizza
and coffee); these raw materials are subjected to price volatility and recently have increased
Type of Employee Benefits due to the multiple factors (e.g. Ukraine-Russia war, rise in transportation costs, energy
shortages, COVID-19 restrictions). As the prices of raw materials increase, YUMC’s profit
Reduced order margins may be negatively impacted.
density – 30% lower
than other delivery Mitigation: YUMC aims to mitigate this risk through stronger partnerships with its suppliers.
platforms By building strong relationships and signing longer-term contracts, YUMC will be able to
Delivery Riders
mitigate short-term price volatility and reduce the impact of rising commodity prices.
Low-price work
meal, resting areas
etc. Labor
As restaurant operations are highly service-oriented, YUMC’s delivery business requires a
large supply of riders. Additionally, the Chinese government (State Administration for Market
Restaurant General Insurance coverage
Managers e.g. critical illness, Regulation) also passed new guidelines in July 2021 to protect basic labor rights for riders,
for family members, including: a base income, work safety and access to insurance coverage. Therefore, an
enhanced medical increase in labor costs and labor shortages could slow YUMC’s growth and harm the
coverage for business, negatively impacting the gross profit margin.
managers
Mitigation: To mitigate this risk, YUMC aims to be one of China’s top employers, such as
Restaurant Service Family Care Fund,
Team Leaders access to certain the provision of insurance schemes, training & development for all staff (including riders)
expedited medical and continuous education opportunities (Fig 38), with the aim of developing and retaining its
services current labor force. Additionally, YUMC has sought to automate various labor-intensive
processes (AI-powered self-ordering kiosks, fully automated dessert station etc.) to reduce
Source: YUMC its reliance on human capital, which will mitigate the need to recruit more manpower
aggressively.

Company Risk (C1) | Regulatory concerns

Probability: Low | Impact: High
Although foodservice companies like YUMC may not face as much regulatory scrutiny as
industries sensitive to geopolitics (e.g. semiconductors, tech firms), recent criticism by
Chinese state media and the Chinese Consumers Association concerning food wastage has
shown that even YUMC is vulnerable (i.e. risk of negative changes in Chinese economic and
social policies). The COVID-19 pandemic also highlighted the importance of food security to
the Chinese government, hence the food wastage caused by over-zealous consumers has
led to government action. In addition, as US-China tensions continue to risk escalation,
YUMC faces a plausible risk of delisting from the NYSE in early 2024 if the SEC enforces
audit regulations on listed Chinese firms.

Mitigation: With regards to the Chinese authorities’ action against food wastage, we believe
it will only have a short-term impact. YUMC has consistently supported the government’s
policies, for example in September 2021, YUMC strengthened its commitment to promoting
balanced diets and healthy lifestyles through the launch of a new campaign. This was in line
with Beijing’s Healthy China 2030, where one of its targets was to reduce sugar, salt and oil
consumption by 2030. Additionally, the Company’s structured employee welfare and
benefits is in line with the government’s policy to push for greater income equality among the
general Chinese population. In terms of delisting risks, China is reportedly preparing a
system to sort US-listed Chinese companies into groups based on the sensitivity of the data
they hold, as it attempts to bring some firms into compliance with US listing rules. While
concessions between the two countries are still being worked out, it is a start to ongoing
discussions regarding the audit row.
Nanyang Business School | Banking & Finance Club 12
 Fig 40. YUMC Direct Scope 1 ENVIRONMENTAL, SOCIAL AND GOVERNANCE (ESG)
GHG Emissions
Fig 39. ESG Ratings of Peer Comparables
200,000
158,887 MSCI ESG Rating S&P Global ESG
Company Name MSCI ESG Rating
150,000 135,615 Distribution Rank
114,720
McDonald’s Corporation BBB Average 22
tCO2e

100,000
Starbucks Corporation BBB Average 49

50,000 Chipotle Mexican Grill, Inc. BBB Average 18

Yum! Brands, Inc. BBB Average 61

0
Restaurant Brands International
2019A 2020A 2021A BB Average 48
Inc.
Source: YUMC Domino’s Pizza, Inc. BBB Average 11

Haidilao International Holding Ltd. B Laggard 12

Fig 41. YUMC Total Water
Consumption Jiumaojiu International Holdings
BBB Average 6
Limited

30 27.6 27.3 Café de Coral Holdings Limited - - -

24.6
Xiabuxiabu Catering Management
- - -
(China) Holdings Co., Ltd.
Million Tons

20
Average - - 28

10 Yum China Holdings, Inc. AA Leader 76

Yum China Holdings, Inc. vs Better than Better than Better than
Average average average average
0
2019A 2020A 2021A Source: MSCI, S&P Global

Source: YUMC
YUMC’s ESG ratings stand out among its industry peers (Fig 39), in both relative and
absolute terms. The Company is committed to achieving many sustainability goals and
integrating ESG across the whole business, whether in its operations, management or CSR
initiatives. Testifying to its efforts, YUMC received the best score in the Restaurant & Leisure
Facilities Industry in the S&P Global Corporate Sustainability Assessment (CSA) 2021, and
was selected as a member of both Dow Jones Sustainability Indices (DJSI): World Index
(DJSI World) and Emerging Market Index (DJSI Emerging Markets).

Environmental
Emissions
Operating in the geographical region of China, YUMC is by default part of China’s plan in
peaking CO2 emissions before 2030 and achieving carbon neutrality before 2060. The
company has streamlined/achieved several goals in 2021 to reduce its environmental
impact, such as the reduction of restaurant water consumption and achieving 100%
recyclable customer-facing plastic based packaging.

Energy
Approximately 38,230 MWh of electricity was conserved through innovative equipment and
energy management, such as Value-added Technology Application (VTA) systems to
monitor and reduce air-conditioner energy consumption.

Water Usage
YUMC prioritizes the upgrading of water-saving equipment, e.g. 2,700 dishwashers were
implemented across restaurants in China, resulting in annual water savings of approximately
400,000 tons.

Food Waste
YUMC has implemented various initiatives to combat food waste, such as launching a Food
Bank program and incentivizing reduction of food waste through a green rewards program,
the latter of which led to a total carbon reduction of 145 tCO2e.

Sustainable Supply Chain

The Company strives to practice sustainable raw material procurement, such as
strengthening traceability management in upstream supply chain. An example of sustainable
milestones include 100% sourcing of RSPO-certified palm oil, which aims to support
sustainable palm oil production.
Nanyang Business School | Banking & Finance Club 13
Fig 42. YUMC Employment ENVIRONMENTAL, SOCIAL AND GOVERNANCE (ESG)
Statistics
Social
Employment YUMC has been working actively to improve the social aspect of its business. Firstly, the
Indicators 2021 firm strives to create diversity and equal opportunities for the employees; over 50% of its
employees are female, and about 1.5% of full-time jobs are offered to people with
Total No. of Employees 450,000 disabilities. As a result of their sustained efforts, the company was selected for Bloomberg
Gender-Equality Index (GEI) for the fourth consecutive year. YUMC was also certified as a
Full-Time 33%
% of “Top Employer China” for the fourth consecutive year by the Top Employers Institute.
Employees Secondly, to ensure occupational safety, YUMC provides 100% coverage of medical
Part-Time 67%
examinations for management and office staff. During the pandemic, the company also
Male 35% engaged in contactless workflow to ensure the safety of employees. Given the occurrence of
% of
Employees greater security breaches in 2020, YUMC strengthened its digital front through the
Female 65%
upgrading of its Information Security Management Platform to version 2.0.
<30 58%

% of 31-40 23%
Governance
Employees YUMC’s outstanding ‘AA’ Rating from MSCI was also driven by the firm’s exemplary
aged 41-50 16% corporate governance and was awarded a Best-in-Class score for board performance and
detailed policies on business ethics and corruption. The Company’s continued efforts and
>50 3% commitment towards good corporate governance practices remain key to facilitating its
Restaurant future growth and can be assessed based on four factors – the Board of Directors (BoD),
Turnover Executive Management, Remuneration, and Shareholders.
General 10.6%
Rate
Managers
Board of Directors (BoD)
Source: YUMC YUMC’s BoD has ten members, each with varying experience, qualifications and skills
across both public and private companies. Together with its diversity across age, gender,
Fig 43. YUMC Governance race, and ethnicity, the Board brings a diverse mix of expertise to the company which will
Structure strengthen YUMC’s position for future challenges and opportunities. In 2021, the board was
led by an independent Chairman, with 8 of the remaining 9 being independent, supporting
Shareholders unbiased value-creating decision making that align with shareholders’ interests. In addition,
30% of the board are women, a gender ratio which is far higher than peer companies; the
BoD average Board member is 56 years old. All board members are beneficial owners of YUMC
shares. The board is re-elected annually with a majority voting policy for elections of
Audit Compensation directors and proxy access for director nominees by shareholders.
Committee Committee
Executive Management
Nominating Yum China’s executive management consists of six members, of which the CEO Joey Wat
and Food Safety
Committee
is the sole female representation managing the day-to-day operations. The executive team
Governance
Committee is highly experienced and possess a diverse set of experiences, all of which contribute to
YUMC’s strategic planning and top-level management.
Executive
Management Remuneration
The Compensation Committee reviews and endorses selected performance metrics such as
Source: YUMC operating profit, customer satisfaction etc. to be used in the overall executive compensation
program, which includes both fixed and variable components. This is to reflect the
company’s emphasis on increasing profitability and revenue, enhancing customer
Fig 44. 2021 Named Executive experience and creating shareholder value; 72% of compensation mix was variable-
Officers (NEOs) excl. CEO – performance based for NEOs, while the CEO faced a greater variable mix of 87% (Fig 44).
Average Target Compensation Mix
The Compensation Committee also retains flexibility to modify the program when
circumstances warrant in order to continue to incentivise actions to drive operational
performance and long-term strategies. In 2020, due to the impact of the COVID-19
28% pandemic, the committee approved additional team performance factors in order to continue
to incentivise and reward actions designed to help the company navigate through the
pandemic and emerge as an innovative and strong market leader. The flexible performance
metric linked remuneration program aims to incentivise management to make strategic
decisions supporting long-term profitability and sustainability, aligning to shareholder
interests.
72%
Shareholders
YUMC is owned by a diversified base of institutional shareholders. The company's free float
Fixed Base Variable-Performance Base accounts for 99.7% of outstanding shares and each share carries one voting right. The
largest shareholders include reputable institutional asset managers with strong ESG
Source: YUMC mandates, like Invesco and Blackrock. Furthermore, the company gains brand premium by
having these reputable institutional investors as its largest shareholders, who tend to buy
and hold shares for the long term.

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Income Statement

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Balance Sheet

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Cash Flow Statement

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Supporting Schedules

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Blended Valuation (DCF / RV)

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 APPENDIX
Comparable Company Analysis

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