Domino’s Pizza, Inc.

Moat: 2.5/5

Understandability: 2/5

Balance Sheet Health: 4/5

Domino’s is a global pizza delivery and carryout chain, known for its streamlined operations, technology adoption, and franchise model.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview: Domino’s Pizza, Inc. (DPZ) is the largest pizza company in the world, with more than 19,500 locations across 90 countries as of 2023. Their business model is heavily reliant on franchising, with franchisees operating more than 95% of its locations. The company has three main segments: U.S. Stores, International Franchise, and Supply Chain. Domino’s operates on a business model focused on efficient delivery and carryout service models, leveraging technology heavily, and franchise operations, which allows them to scale with low overhead.

Revenue Distribution:

U.S. stores, which include company-owned and franchised locations, accounted for 30% of total revenue for full year 2022.
International franchise, that is royalties from international stores, accounted for 11.4% of total revenue for full year 2022.
Supply chain, a system where supply products for all of the company franchises and stores, accounted for 58.6% of total revenues.

The franchise model and the supply chain revenue is a big part of the operations, which is interesting and means that a lot of the revenues they get comes from sources other than selling the pizza directly.

Industry Trends:

Online Ordering and Digitalization: The pizza industry continues to shift towards online ordering and digital platforms. Domino’s has been at the forefront of this, with more than 80% of U.S. retail sales coming from digital channels in Q3 2023. This is higher than their peers, which are closer to 60%.
Delivery and Carryout Dominance: Pizza remains a primarily delivery and carryout business and does not have a huge in-house dinning option.
Competitive Landscape: The industry is becoming very competitive. Delivery options through third-party delivery services like Uber Eats or Grubhub has increased competition and reduced loyalty, therefore the ability of companies to build a brand has become weaker, but a company having its own distribution system still remains very desirable.
Inflation and Increased Labor Costs: The quick service restaurant industry is experiencing some input cost inflation and labor cost inflation. These factors are creating more pressure on the profitability and operations of pizza chains.
Innovation and Technology: As technology is becoming a very big factor, automation such as use of AI and robotics will likely become more prevalent for better, faster, and more optimized production and delivery.

Margins & Profitability:

Domino’s has a pretty big gross profit margin, around 40%, and net income of 10-13%.
Average unit sales has been slowly improving, which has also helped profitability.
The supply chain revenue is a huge component of Domino’s profitability, due to the fact that these revenues are much more profitable than direct sales. Also, they have the ability to maintain high supply chain margins due to their supply agreement.
Domino’s operates on a 5% royalty fee from their franchisees for their US operations, and between 3% to 7% for their international franchises. This gives a rather small, but stable recurring income.

Competitive Landscape:

The pizza segment is incredibly competitive with a lot of big companies such as Pizza Hut and Papa Johns also competing for customer market share and attention. The space is also being targeted by third-party delivery apps.
In international operations Domino’s is the largest global pizza chain in almost every market it operates in. But the competition in these markets is also increasing as international brands try to compete, and as well as locals which have more of a presence in the market.
Competition from other quick service restaurants that are offering similar delivery and takeout options is also a concern.

What makes Domino’s different?

Domino’s has an excellent and well-integrated digital ordering and delivery platform, which is one of the most efficient in the world, which is also what they are mostly known for. They have been at the front of technological innovation, and have consistently implemented these technologies.
Domino’s has a huge network of franchises that give them a large operating scale and make their business incredibly hard to reproduce by other players, especially with such established supply lines.
Domino’s focus on core delivery and takeout business model, which has proven to be resilient through turbulent times.
They have streamlined production and logistics, which means that they have very good pricing power over their products and supply chain, which leads to better profitability.

Financials:

The company has been showing consistent revenue growth, including a 1.3% growth in total revenue and an increase of 6.7% in diluted earnings per share in the latest quarterly report. For the 2022, total revenue had a 7.1% YoY growth, with net income increasing by 12.2%.
Domino’s has reported good results in their latest report for Q3 2023: total revenue was $1.07 billion and diluted EPS was $3.25. This is largely thanks to increase in their same-store sales growth.
The majority of their assets comes in the form of lease right-of-use assets and cash.
The companies long term debt seems stable and manageable, and they have more cash on hand than debt as well.
They use a lot of borrowed funds for their operations (as is the case for many companies).
Overall, the company has an acceptable to good balance sheet.
They have a good track record of generating stable earnings over the past years.

Their financial standing is quite good, especially given the current economic conditions, and although they use debt, it is well maintained and managed.

Although their financials are overall good, the financial statements can get complicated to understand, because the various revenue and earning streams.

Risks:

Competition: The increasing competition from other companies and third-party delivery services is a huge risk to the company’s long term profits. There is increased price sensitivity from consumers.
Technology Disruptions: Their heavy dependence on their online channels for the business is a risk to them as competitors can develop an alternative to their platform, which might make them obsolete, and also requires them to invest heavily to maintain it.
Macroeconomic Uncertainties: Inflation, increase labor costs, and recession can all have a profound impact on their margins and their business.
Franchise relationship risk: The franchise business model depends heavily on the franchisees, and any bad relation or bad management practices can harm profitability.
Supply Chain Disruptions: Domino’s needs an efficient and stable supply chain. Any disruption in this can seriously harm profitability. The company has a heavy supply chain division that brings in most of the revenue. This revenue and profit can get hurt badly if it does not function properly.
International Expansion Risk: As they try to focus more on international operations, problems can arise in international markets, including currency fluctuations, political/regulatory hurdles, cultural differences, and logistical challenges that could create a barrier for sustainable returns on investment.
Regulatory risks: Any changes in laws and regulations could be a material concern for them. New regulations, such as increasing minimum wages, can severely hinder profitability.
Franchise relationship: If the relationship between the franchisor and the franchisee deteriorates, that can create a massive negative impact for the company and its stakeholders, since most of their business relies on them.

Moat Rating: 2.5 / 5 Domino’s possesses a narrow moat, primarily stemming from its extensive distribution network and strong brand recognition in certain markets.

Intangible Assets (Brands): Domino’s has built a strong and recognizable brand over the last years, but this brand is not really a moat since it doesn’t have a premium attached to it. Customers are usually very price-sensitive with pizza, thus the brand has limited power here.
Network Effects: The network effect is weak for Domino’s because you are not really creating a network with having Domino’s pizza. However, a more established franchise can gain a moat through economies of scale within a certain region. It’s less applicable in the online digital space, since the only network is a bunch of servers and internet connections that the franchise uses.
Switching Costs: Switching costs are not very high for customers since pizza is readily available everywhere. Thus, there is little to none switching costs from a customer perspective. Also, third-party delivery platforms also increase the churn rate.
Cost Advantages: Domino’s strong supply chain and efficient logistics create cost advantages by allowing them to source ingredients at lower costs and distribute them efficiently. They also have good in place infrastructure, with well-organized distribution systems. They use their scale of operations to keep costs low. Domino’s has a considerable cost advantage over other businesses, but is not a completely unbeatable advantage, since other competitors can easily replicate it.

Understandability Rating: 2 / 5 While the basic concept of Domino’s as a pizza delivery business is simple to grasp, understanding the company’s financials, its supply chain economics, their intricate franchise model and their tax advantages are more complicated. The international expansion and financial engineering techniques add to the complexity, putting this business in the ‘medium-complexity’ category.

Balance Sheet Health: 4 / 5 Domino’s has a relatively healthy balance sheet, characterized by manageable debt, a significant proportion of long-term debt and a solid cash position. While the company has a lot of liabilities, most of it is long term debt, which does not put them under pressure to pay it back soon, this makes the balance sheet healthy overall.

They have also taken some steps recently to deleverage the business, which is good.

There is also some concern about the companies debt-equity ratio, and they are also quite reliant on short-term credit. However, these practices are common in the industry.

Recent Concerns:

High Inflation: Domino’s has seen increase in operational costs, including food, and these affect margins. They are passing along the price increases on customers by raising prices, however, there are consumer limitations for the price increase they can do before sales start to dip.
Recession: A recession, or the threat of it, will mean that the consumers spend less, which could also impact profitability. The recession could also impact their debt load.
Competition: Competition is still seen as a major threat. Third-party delivery apps and other competitors, are still hurting the margins of the company.

Management’s Perspective: Management has expressed confidence in the company’s ability to manage costs by increasing efficiency, improving logistics, and by also cutting down spending where possible. They emphasize their commitment to the long term health of the company and are trying to optimize the business for all types of market conditions. They believe that a long term focus with continuous reinvestment and R&D will improve the company performance in the future. They have also emphasized the importance of a strong franchise network, stating they are committed to a win-win relationship with franchisees, as these are a key part of their business. They are continuing their reinvestments in the franchise operations. Domino’s is focused on their loyalty program and will provide more offers for their customers in the future, and are also focusing on technology improvements. They also emphasized that they are taking a careful approach to international expansion, by taking a more holistic view of the markets that they target.