Yum Brands And Dividend Growth

May.31.12 | About: Yum! Brands, (YUM)

How many times when watching a tennis match have you thought "Could this guy be the next legend (say Roger Federer)?" Or have you thought "Could this guy be the next Brett Favre?," during some football game? Spotting the "next big thing" is one of the best jobs within a job for sports fans as well as investors.

In a previous article of this series, we saw how a "younger" Ross Stores (NASDAQ:ROST) is poised to at least match, if not outpace, the dividend and dividend growth rate of "older" peers like Wal-Mart (NYSE:WMT). This article is about another relatively young dividend payer, Yum! Brands (NYSE:YUM). Let us take a look at YUM's dividend basics:

  • YUM's current yield is a lowly 1.6% compared to heavyweight McDonald's Corp's (NYSE:MCD) 3%.
  • YUM's payout ratio is about 35%, a number which should make it easy to maintain and increase its dividends.
  • YUM has been paying dividends since August 2004, increasing dividends each year since.
  • YUM's average dividend increase since the stock split in 2007 has been 17.5%

As in previous exercises, let us take a look at the power of dividend growth for an investor who can set aside his/her money in YUM for 10 years.

Assume you purchase 1000 shares of YUM at the recent price level of $70 for a total initial investment of $70,000. The current yield works out to 1.6% as shown in the table below.

The table assumes an average dividend increase of 15%, slightly below the actual 17.5%, so we end up on the conservative side. Notice how the dividend payments and the yield on original cost almost quadruple in 10 years, leading to $5000 in annual dividends.

We have left out the DRIP part from this piece as some investors choose to reinvest the dividends and some do not. Some DRIP during bad times to accumulate more shares and opt out of DRIP when the price per share seems to be at a fair value.

Capital gains will almost certainly contribute to the overall returns as well. YUM is still considered a growth story with its international expansion. The stock has doubled since 2007 (post split).

However, in case the price dips, turning on the DRIP will be helpful in maximizing the returns when things turn around. Inflation has been ignored in this calculation as stocks are the best hedges against inflation when compared to other assets. 10 years is a reasonable time period for this exercise as the market typically moves through many cyclical highs and lows in a decade.

Our Take: While MCD is still considered the best of breed when it comes to restaurant stocks and dividend growth, YUM is not too far behind. Perhaps it can turn out to be the perfect mix of income and growth if it maintains its dividend growth rate. While YUM appears pricey compared to, say, Darden Restaurants (NYSE:DRI), its higher dividend growth rate and capital growth potential puts it on the same category as ROST -- a stock you want to have on your watch list and get in at the right time.

Conclusion: By the looks of it, it might not be so wrong to root for the promising challengers (ROST, YUM) to overcome the big dogs (WMT, MCD) in investing as in sports. But be careful, you got real money involved here unlike sports (unless you gamble).

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Disclosure: I am long MCD, DRI.