Yum Brands And The China Chicken Contraction

A shortage of chicken supplies in China posses a risk for Yum! Brands, Inc. YUM given its high level of exposure to the country.

In a research report published Wednesday, Jeremy Scott of CLSA pointed out that the USDA Beijing Bureau is expecting a "more significant" contraction in commercial broiler production in China. The analyst added that production is expected to fall 11 percent throughout 2016 and contract even further by 21 percent in 2017.

Meanwhile, China has a ban on grandparent stock from the US and France so there is "little visibility as to when supplies could rebound." The analyst stated that further analysis of China customs data indicate alternative sources of breeder stock "haven't been nearly sufficient to cover the gaps."

As such, chicken prices in China are "already on the move upwards" but the supply contractions are merely "starting to roll into the market." Since chicken costs represent 10 to 12 percent of restaurant sales for Yum China, its restaurant margins "could be at risk."

Scott also added that Yum China's restaurant margins have benefited from around 450 basis points of food-cost tailwinds since 2011 driven by chicken but now this is "set to reverse."

Bottom line, Scott believes the supply dynamics of chicken will result in "significant and persistent" food-cost headwinds through fiscal 2018.