Thursday, 5 June 2014

Domino's which pizza would you buy

Dominos Pizza is one of the world's largest pizza chains on average selling 1.5 million pizzas a day. Domino's is one of the best known brands in Australia ranking highly in the quick service restaurant category behind only McDonalds in top of mind awareness. Many believe Dominos (DMP) is an Australian brand because it is listed here but it is actually a master franchisee of the US listed Dominos (DPZ). Both companies are benefiting from consolidation in the pizza industry and digital pizza ordering.

Pizza company masquerading as a technology company

Historically pizza has been a nice and stable industry for both independents and large chains. But the introduction of digital ordering has boosted business for the major chains who can afford to spend on technology and mobile applications. Technology has helped Domino's to gain share overall as they sell approx 1 in 4 pizzas but online they sell 1 in 3 (see below). Globally digital sales are on a $3 billion run rate. Domino's has become a major e-commerce company. Online ordering has increased sales as customers are now able to order on the way home with their mobile. Online menus allow customers to browse the entire selection at their own pace and they typically end up ordering more. Digital orders also means more accurate orders leading to less waste and less time workers have to spend answering the phone.

Globally digital orders represent over 40% of sales for DPZ in Q4 2013 lagging Australia at 60%. DMP's goal is for digital orders to represent 80% of sales over the next three years. Smartphones and apps are helping to accelerate digital growth with mobile orders representing half of digital purchases. The largest group of employees (one third of employees) at headquarters is in the IT department.

Pizza a $90 billion market
The pizza category is ripe for consolidation. Unlike other markets a lot of the competition is still local and independent. The major chains have 40% of the pizza market this compares to 96% for hamburgers and 82% for Mexican food.

A slice of every pizza
Both Domino's earn royalties with DPZ receiving a 5.5% sales royalty from franchisees in the US and an average rate of 3% internationally they also make money in North America by selling franchisees their dough, cheese and other food. Australian DMP charges its franchisees a royalty rate of 7%, pay the US their average royalty rate of 3% and keep the spread in between.

Longer term Domino's has one of the best international opportunities in consumer brands. These goals are not even reliant on China which is seen as a massive market for many brands. According to Patrick Doyle DPZ's CEO half the toppings are standard offerings around the world but cheese seems to be an issue in China. Diary has only become a part of the Chinese diet recently. DPZ is taking it slow in China so far opening only in the markets of Shanghai and Beijing.

What pizza provides most value for money? Dominos US (DPZ)

The Dominos model is interesting as the US listed DPZ franchises out to master franchisees in each country which then sub-franchise out stores. The model is very compelling as four of the master franchisees are listed giving them ready access to capital. The equity ownership motivates management to achieve the best possible result as they are directly rewarded for the markets that they control. Dominos is listed in the UK with a market cap of $1.6 billion, Jubilant Foodworks market cap of $1.3, Alsea market cap of $2.4 billion and Dominos Australia with a market cap of $1.8 billion. Note both Jubilant and Alsea operate multiple brands. Because of the fact that franchisees are listed DPZ can grow faster than other food brands. From 2008-2012 DPZ has grown its international store count by 43% compared to 23% growth from Yum Brands and McDonalds at 13%.

The combination of digital growth and market consolidation means both Domino's can do well operationally. But as an investment we prefer the listed DPZ in the US as it is the cheaper stock with global exposure and less penetrated digitally at 40% versus Australia's 60%. For Australian investors DPZ allows you to benefit from the local story (they pay royalties to the US parent) as well as benefiting from the longer term international opportunity at a lower multiple of earnings.


Disclosure: Decisive has no position in Dominos stock but DPZ is on our watchlist
The material in this article is for informational purposes only and in no way constitutes a solicitation of business or investment advice. The material has been prepared without regard to any client's or other person's investment objectives. Before making an investment decision you should consider the assistance of a financial adviser and whether any investment or service is appropriate in light of your particular investment needs.