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Earnings Preview: Yum's China performance watched

LOUISVILLE, Ky. -- Analysts following Yum Brands Inc. will be looking for signs of a profit rebound in the fast-food restaurant's key China operations when the owner of the Taco Bell, Pizza Hut and KFC chains reports third-quarter results after the markets close on Tuesday.

WHAT TO WATCH FOR: Yum has feasted on super-sized profit growth in China, but that streak ended in the second quarter. Operating profit fell 4 percent, when adjusted for currency fluctuations, in the company's most important overseas market.

The China business had strong sales growth in the quarter, but inflation ate into profits. Yum pointed to rising commodity and labor costs, plus higher start-up costs for its rapid pace of restaurant openings in China. The Louisville-based company has said the downturn would be temporary, and predicted a return to double-digit profit growth in China in the second half of the year.

Mark Kalinowski, an analyst with Janney Capital Markets, said recently he continues to maintain a "Buy" rating for Yum stock, thanks to its growth potential outside the U.S. International business accounts for about 65 percent of Yum's operating profits.

"We expect this figure to generally grow in coming years," he said.

Restaurant expansion overseas has become a crucial ingredient in Yum's profit formula, and analysts will keep an eye on the pace of store openings. Yum forecasts at least 700 new restaurant openings in China and 1,700 new international units this year.

Meanwhile, Yum's U.S. operating profit was up 26 in the second quarter as all three of its chains had stronger sales, led by Taco Bell.

The staying power of Taco Bell's momentum will be another focal point for analysts. In the second quarter, the chain had a 13 percent increase in sales at U.S. restaurants open at least a year, driven partly by the popularity of its new Doritos Locos Tacos.

Yum operates more than 37,000 restaurants in more than 110 countries and territories.

WHY IT MATTERS: Yum is a leading player in the fast-food industry, a sector that is closely watched as an indicator of spending trends among consumers still worried about jobs and the economy.

WHAT'S EXPECTED: Analysts expected Yum to report adjusted earnings of 97 cents per share on revenue of $3.65 billion for the third quarter, according to FactSet.

LAST YEAR'S QUARTER: Yum reported adjusted earnings of 80 cents per share on revenue of nearly $3.3 billion. Excluding special items, Yum posted a profit of 83 cents a share.