Domino’s share price has fallen significantly over the last three months but rising COVID cases will temper the slow down in sales growth. Consequently, we stretch out our anticipated slow down in sales, particularly in Japan.
Rising COVID cases in most key markets for DMP means we can expect a more moderate slow down in sales. Demand for pizzas generally rises when COVID-19 cases are increasing.
Japan’s same store sales trajectory is a key share price driver for the stock. TableCheck visitors to restaurants for dinner (an online booking system) for most of 2021 was down 50-70% but improved from October onwards. As COVID cases are rising rapidly in Japan due to Omicron, dining out will again be substituted by home meal deliveries. This will soften the sales decline in Japan but the challenge for DMP is that SSSg may remain negative for two years until operating conditions normalise.
A further issue emerging in Japan is the risk of sales dilution from new store openings. Average sales per store per week could be lower in FY23f than it was in FY18 which might reduce the franchisee’s incentive to open new stores.
The situation in Europe is more balanced. Delivery dominates in Germany, dine-in is more popular in the Netherlands while carryout is prevalent in France. Overall, mobility is better across Europe compared to previous waves of COVID outbreaks. Unlike Japan, we think SSSg can remain positive in Europe for the next few years.
Raw material costs are also on the rise. Wheat, cardboard and mozzarella prices are all up 10-20% in the last 12 months – all relevant to pizza businesses. DMP faces a risk that a squeeze on profitability for franchisees may reduce new store openings. Burger joints may face even tougher cost pressure which might fortuitously hand some market share to the pizza guys.
Investment view
DMP is a good business but is too expensive just now considering the slow down in SSSg over the next two years. DMP’s PE ratio premium to the market has a strong correlation to its SSSg. Although rising COVID cases is seeing a reprieve for slowing sales growth, we think the longer term forecast for SSSg is falling. This implies a smaller PE relative for DMP.
A potential positive catalyst for DMP might be an entry into a new geography, perhaps South Korea. DMP can also exercise a call option on Germany after 31 December 2021 that would be positive for earnings.
Consensus earnings forecasts have been coming down for DMP but we think they still look a little chunky.
Our revised recommendation is now a Hold.
