Collins Foods Bites Off More KFC

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Brokers are encouraged by the additional scale that the latest acquisitions bring to the Collins Foods KFC network in Australia.

-FY17 results beat expectations and sales at KFC continue to improve into FY18
-Acquisition means a KFC footprint across all states bar ACT
-Acquisition expected to improve the quality and stability of earnings
 

By Eva Brocklehurst

Brokers are encouraged by the additional scale that the latest acquisitions bring to the Collins Foods ((CKF)) KFC Australia network. The additional restaurants raise the total store count to 223.

The FY17 result also beat expectations, as operating earnings (EBITDA) were up 9% and ahead of guidance issued in March. Normalised net profit was up 40%. UBS observes the beat to expectations was largely because of a strong performance from KFC Australia and lower depreciation.

Like-for-like sales in Australia for KFC have improved in FY17 and this has continued into FY18, as the company's same-store sales for the first eight weeks suggest. Australian operating earnings margins increased 10 basis points to 16.4%.

Meanwhile the company's Sizzler chain operating earnings were down -14% and slightly weaker than UBS estimated, as six of the restaurants were closed in Australia. Canaccord Genuity forecasts no earnings contribution from the domestic Sizzler business in future periods. The broker also expects Sizzler Asia will be divested in the future when the Australian operations are sorted.

In FY18 the company expects to open 8-9 new KFC Australia restaurants and re-model 20 major and 20 minor stores. In Europe, the company plans to open 4-5 new restaurants in Germany for KFC and 4-5 in the Netherlands. Six new franchise restaurants for Sizzler Asia will open.

UBS considers the stock good value and upgrades to Buy from Neutral, increasing forecasts for earnings per share by 2% for FY18 and 8% for both FY19 and FY20. UBS is confident the company will achieve free cash flow, net of store capital expenditure, on a combination of incremental earnings from rolling out new stores and the recent acquisitions.

Nevertheless, the broker considers it unlikely the company will make an acquisition that will materially contribute to FY19 earnings and is likely to focus on integrating recent acquisitions in the near term. Management has guided to mid single digit accretion to earnings per share in FY19 and UBS includes estimates of 4%.

Canaccord Genuity notes the business generates strong cash flow with a large proportion re-invested into expansion. Given the long-dated nature of cash flow, the broker estimates valuation is heavily skewed to terminal value with a high degree of sensitivity to the cost of capital.

The broker, not one of the eight monitored daily on the FNArena database, uses a blended methodology and arrives at a price target of $6.22. Given a discount to valuation, Canaccord Genuity upgrades to Buy from Hold.

Acquisition

The company has acquired 28 KFC restaurants located across Tasmania, South Australia and Western Australia from Yum! Brands for $110m. This will be funded through a $44m non-renounceable, 1-for-11 entitlement offer at $4.55/share and $69m in debt. The acquisition is to be completed in stages later this year.

UBS estimates around 4% accretion to earnings per share in FY19. The company now has a footprint across all states except the ACT. Adjusted for non-operating stores and acquisition costs, Canaccord Genuity believes this latest acquisition improves the quality and stability of group earnings.

Deutsche Bank suggests the acquisition multiple is attractive versus the company's trading multiple of seven times FY18 operating earnings, considering the quality of the stores, which have an implied margin of 16.8%, 41 basis points higher than the company's existing portfolio.

Deutsche Bank believes these stores are a good addition to the network as they add two new states and enhance scale nationally. The broker retains a Hold rating on valuation grounds, noting the stock is currently in a critical phase of execution as it implements offshore expansions.
 

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