Collins Foods (ASX:CKF) is Australia’s largest KFC franchisee with around 190 stores throughout the country. CKF currently faces a unique opportunity. KFC’s parent company, Yum! Brands (NYSE:YUM), is looking to divest 98% of its global store network as it transitions away from day-to-day operational functions and focuses on strategy, marketing and regional supply chain management. As one of the largest, most sophisticated and best capitalised KFC franchisees in the world, CKF is one of a select few preferred partners in the ongoing divestment process.
In 2015, CKF surprised the market by announcing their intention to acquire 11 KFC stores in Germany, marking their entry into the European market. Less than six month later, CKF accelerated its European expansion through the acquisition of 16 Dutch KFC stores. In both regions, KFC is relatively underpenetrated as a brand, a legacy of YUM’s restrictive franchising policies in Europe and its historical focus on Asia. As a result, Europe has had very few large, corporate franchisees with enough capital to expand the store footprint. With Collins part of a select group of such entities now entering the market, that is all about to change. Over the next five years, CKF intends to increase its European footprint to 75-85 stores by which time we believe the business will have over 300 KFC stores worldwide.
Population (in ‘000 people) per KFC store
Figure 1 & 2. Expanded footprint in Europe, Population (in ‘000 people) per KFC store
Source. CKF presentation

To get to that mark, we believe CKF will acquire a further 20-30 stores in Australia within the next 12-18 months. YUM still owns 150 stores nationwide, and is looking to bring that number down to 50. Collins current capital structure cannot support an acquisition of that size and therefore we believe it will again be in part funded via new equity. Assuming historical multiples are maintained and net debt doesn’t exceed 2.1x (proforma) EBITDA, around $30 million will likely need to be raised.
CKF store roll out
Figure 3. CKF store roll out
Source: CKF reports, Clime estimates
 

Outside Australia, we do not expect CKF to make any further acquisitions. It has established a sufficient pipeline for growth in two distinct regions into which it can grow organically. Increasingly, we will be looking to see how management executes its roll out, and whether it is able to run the stores more efficiently, cutting costs or otherwise increasing margins. CKF’s previous track record suggests it will, but operating in foreign regions can pose hitherto unforeseen challenges. That being said, in our opinion CKF has been quick to assemble a talented European management team, led by former YUM executives.
Whilst all eyes remain on the KFC expansion, it is worth noting that Sizzler, the group’s secondary brand, continues to be wound down. Un- and marginally profitable stores are being closed as their lease expiry runs out, and those with stronger profitability are being retained. We expect the bulk of the stores to be closed within three years, though a small number could be kept for the foreseeable future. In Asia, where CKF owns the master franchise agreement but does not operate directly, Sizzler continues to thrive. It is expected to see another six stores opened in FY17 and high demand appears sustainable. In our view, CKF needs to decide whether Sizzler Asia is a core brand, deserving of greater attention, or if not, should sell its rights to further fund the KFC expansion.

CKF is at a pivotal point in its growth aspirations. A rare opportunity to acquire large numbers of stores from the franchisor is compelling CKF to expand rapidly, both within and outside of Australia. Management’s ability to navigate this period effectively, will determine the fortunes of the business for many years to come. CKF is a simple, scalable business with attractive growth opportunities and the means to seize them. With consolidation in Australia and conquest in Europe, we believe CKF has its work cut out for it. If it continues to execute well, strong growth will follow for the foreseeable future.