Small Caps | Nov 02 2016
KFC franchisee, Collins Foods, has embarked on an expansion in Europe, acquiring 11 stores in Germany. Brokers are upbeat about the potential.
-Expansion provides potential for re-pricing of the company's growth profile
-Change in Yum! Brands strategy a spur for Collins Foods' growth ambitions
-Alleviates some concern over limited Australian opportunities
By Eva Brocklehurst
KFC franchisee, Collins Foods ((CKF)), has embarked on an expansion in Europe, acquiring 11 KFC restaurants in Germany for around $18.4m. The restaurants will be acquired directly from the franchisor, Yum! Brands, as part of that company's strategy to reduce direct equity interests in KFC restaurants.
Brokers observe, with a relatively small up-front investment, the acquisition provides Collins Foods with a growth option outside of its maturing Australian market. KFC is under-represented in Germany, with just 140 KFC restaurants in a country with a population of 82m compared with around 650 KFC restaurants in Australia with a population of 23m.
In Deutsche Bank's view, the acquisition has potential to cause a re-pricing of the company's growth profile, given there are some concerns regarding an ability to expand its portfolio since the entry of Restaurant Brands into the Australian market.
The broker assumes the acquired stores generate an earnings margin of 11% pre corporate costs. The broker does not incorporate more acquisitions in Germany into forecasts but notes the potential for further margin upside from increased scale. Deutsche Bank has a Buy rating and $5.20 target.
Canaccord Genuity has upgraded FY17 and FY18 earnings per share (EPS) estimates by 10% and 11%, respectively, following the inclusion of the acquisitions in its forecasts as well as an increased contribution from Sizzler Asia. This change in ownership strategy by Yum! Brands is considered to be a significant tailwind for Collins Foods. Yum! Brands intends to increase franchise restaurant ownership to 98% by FY18, from 77% currently.
Yum! Brands has 9,978 franchised and owned KFC restaurants, providing a significant opportunity for Collins Foods to scale up, in the broker's opinion. Canaccord Genuity expects Collins Foods will benefit from compounding earnings accretion and expansion of its price/earnings ratio as the stock re-rates to a growth multiple.
Investors are expected to continue targeting companies with strong cash flows that are perceived to be defensive in relatively volatile times. The broker retains a Buy recommendation with a $5.66 target.
Moelis estimates the acquisition adds around 4% to EBITDA and 2% to EPS in FY17, with Europe making a progressively increasing contribution in subsequent years. This broker also envisages the acquisition alleviates some concern over limited growth opportunities in Australia. Evidence of a material number of new stores being added to the pipeline should provide the catalyst for further upside, in the broker's view. Moelis retains a Hold rating and $5.54 target.
UBS believes the entry into Germany will provide an opportunity to leverage the management experience of Collins Foods as well as improve margins. The broker notes that chicken-related fast food represents only 1.7% of the total market but is the strongest growing category.
The broker's initial analysis suggests accretion of around 2% on a full year basis, premised on revenue growth of 1.5% and earnings margins of 11%. Nevertheless, in the domestic market UBS suspects the weakening macro environment in Western Australia could impact like-for-like sales growth for KFC in FY17. The broker maintains a Neutral rating and price target of $4.75.
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