What’s on the menu for fast food investors?

Fast food investors Australia ASX McDonald's KFC Pizza Hut Domino's Red Rooster Oliver's
Australia’s $20 billion fast food sector has grown 1% annually for the past five years.

Australian retail investors have been prevented from taking a decent bite out of the fast food sector to date, which is a pity given its proven resilient qualities.

Market leader McDonald’s is listed in the US, but not here, while Red Rooster and Hungry Jack’s are privately owned. KFC’s ownership is more complex.

According to research house IBISWorld, the $20 billion fast food sector has grown at a steady 1% per annum over the last five years, with 2021 performance expected to dip 0.8 per cent as a result of the pandemic that crimped in-house dining.

Amid these resilient trading conditions, the menu of ASX-listed plays is likely to expand with Pizza Hut mulling a listing of its local operations.

The fast-growing Guzman y Gomez was also gearing up for a local IPO, but these plans were put on ice after funds manager Magellan took a 10% stake worth $86 million late last year. But never say never.

Pizza and fried chicken dominate ASX fast food sector

Pizza Hut is a daggy name here, although baby boomers would remember the all-you-can eat dessert bars with affection.

While Domino’s Pizza Enterprises (ASX: DMP) has blitzed Pizza Hut on sales in recent years, private equity owner Allegro is renovating Pizza Hut’s operations including a streamlined menu and a tech overhaul.

But there will not be a return of the germ-incubating dessert bars in these virus conscious times.

To date investor choice has been largely limited to the all-conquering Domino’s and Collins Foods (ASX: CKF), which owns 244 KFC outlets, 152 in Queensland and 49 in WA.

Elsewhere, KFC Australia outlets are largely owned by the New York Stock Exchange listed Yum! Brands (formerly Pepsico) and the Kiwi based Restaurant Brands (see below).

In another blow for all-you-can eat nostalgia, Collins last year closed the last nine of its Sizzler’s outlets, which had survived the dining trends since the1980s but fell victim to the pandemic with its dine-in only model.

Collins retains 64 Sizzlers outlets in Thailand and Japan – where the brand remains popular – and also has 13 Taco Bell outlets, 10 of them in Queensland.

KFC and Red Rooster face-off over fried chicken offering

For the time being, Collins’ fortunes hinge on KFC’s success, with the chain facing elevated competition from key rival Red Rooster.

Owned by Craveable Brands, Red Rooster has introduced a fried chicken menu that is more aligned to KFC’s – despite KFC changing its name from Kentucky Fried Chicken some years ago.

(Red Rooster, by the way, used to be an awkward appendage of the Coles Myer empire).

In the mid of a pun-based advertising war that so far has avoided “fowl” play, it remains to be seen which customers will be the most “satisfried” by KFC or Red Rooster.

With nine to 12 new KFC outlets planned for the current year and 66 by 2028, Collins can’t be accused of playing chicken in the perennial fight for the wallets and stomachs of price sensitive consumers.

In a pre-Christmas update, Collins reported a hearty 12% in same-store sales for the 24 weeks to 18 October. Revenue rose by 11% to $500 million, but its reported profit slid 19% to $16.5 million after $3.3 million of Sizzler closure costs were taken into account.

Despite KFC’s solid showing, Collins shares have marked time over the year, with the company valued at $1.15 billion (including net debt of $170 million). The stock listed in August 2011 at $2.50 a share and closed out Wednesday this week at $9.46.

Domino’s looks abroad

With an increasingly international focus, Domino’s is scheduled to report its first (December) half numbers on 17 February.

At its November 30 strategy day, Domino’s key “takeaway” message for investors was improving profitability for its underperforming Japanese operations and also better profitability in Germany and France on the back of increased average orders.

In Germany, online order sizes have averaged €22-25 ($34-39), compared with only €9 for pick-up orders.

“When a large franchise has strong momentum and franchisee profitability is strong this leads to an increased appetite for new stores – Domino’s largest growth driver,” noted broker Morgans.

A key threat for Domino’s is rising cheese prices which can cost a motza (rella), given the processed dairy derivative is the chain’s biggest ingredient cost.

Valued at a hearty $15 billion, Domino’s consistently has trade on elevated earnings multiple – currently around 33 times expected current year earnings. The company has had its glitches along the way but has delivered for customers as well as investors: the shares listed in May 2005 at $2.20 each.

Restaurant Brands overlooked

Auckland based, but dual-listed Restaurant Brands (ASX: RBD) is often overlooked in the pantheon of quick service restaurant plays, but is fast expanding from its home base.

The company’s original remit was acquiring the NZ rights to KFC and Pizza Hut. But the company picked-up 63 KFC outlets in NSW and then in December 2019 shelled out US$73 million ($95 million) for 70 KFC (or combined KFC/Taco Bell stores) in southern California.

The company’s December half performance was virus affected, with revenue down 13% to NZ$383 million ($358 million) and net profit declined 43% to NZ$11.4 million.

The company derived just under half of its revenue from its home turf and roughly one quarter from Australia and the US: a balanced diet in investor terms.

Oliver’s redemption

Unlike its unhealthier fast food peers, Oliver’s Real Food (ASX: OLI) hasn’t benefited from the pandemic because its stores are located on the main arterial highways.

Lockdowns equal no traffic, except for burly truckies who aren’t exactly Oliver’s target market.

Oliver’s has not been a healthy choice for investors, having listed in June 2017 at $0.20 a share and plunged as low as $0.02 in mid-2019.

The company’s redemption lies in a licencing agreement with EG, by which the service station owner stocks Oliver’s fare at its outlets, with discrete shelving and signage under the Oliver’s Food to Go banner.

In March last year, EG lobbed a $0.10 a share takeover offer for Oliver’s as a whole, but the unfolding pandemic put paid to that.

Oliver’s retains the IP and benefits from any uptick in goodwill from this “franchise in a fridge” arrangement which has so far been implemented at 114 EG servos.

The dire effect of the bushfires and the pandemic meant that Oliver’s reported a $17.5 million loss in the 20019-20 year.

But as chairman Jason Gunn told holders at last Friday’s virtual AGM, an underlying loss of a mere $70,000 was the “best possible outcome”

Management didn’t take a punt on current-year guidance. But in the short-to-mid-term, Oliver’s should be in a better spot with its organic, vegan, gluten free alternatives so beloved of millennials.

We’re not so sure what travelling toddlers will think of the green bean ‘chips’, though.

Oliver’s is currently valued at $20 million.

The stock is well worth keeping on the investment menu, assuming it can emulate Collins’ turnaround experience.

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