Domino's Is Rolling Again

Domino's Pizza spent the last decade delivering piping-hot growth while the rest of the pizza industry just kept things lukewarm.  But the fast-food industry's undisputed pizza champ has lost some of its luster lately. Now, with a flurry of moves aimed at reigniting its business, Domino’s is rolling again.

Here are 4 reasons why:

1)     Aggregator partnerships are incremental

2)     Revamped loyalty aimed at driving transaction growth

3)     Return to store growth after Covid interruptions

4)     Further execution of takeout opportunity

Before I dive into each, let me provide some historical context.

The Way Back Machine

Pizza was always the overlooked category in eating out.  Industry-wide lack of product differentiation and intense price competition created mediocre returns on invested capital.

However, during the depth of the GFC, Dominos’ attempt at a high-risk marketing makeover worked.  The Pizza Turnaround commercial (LINK) is now in the advertising Hall of Fame.  Not only did Domino’s invest in a better pizza, but also aggressively invested in Technology.  The business as well as stock returns post GFC speak for themselves.  

Domino’s Pizza is the undisputed winner of the past decade. 

From 2014-22, Dominos global system sales grew a cumulative 69% while the U.S. Company same-store sales grew 49%.  The U.S. pizza category, growing 1-2% annually, grew significantly less.  As a result, Domino’s grew its market share by double digits during this time frame.

Source: DPZ Investor Relations

However, every winner stumbles.  Dominos is no exception.  The Company has underperformed its restaurant peers since 2021.

Labor Shortage

While COVID-19 provided a temporary boost, the past two years exposed weaknesses in Domino's operations. An acute labor shortage and high management turnover resulted in disappointing service, as the company struggled to find enough delivery drivers - critical employees for a business reliant on timely delivery. With labor as a major bottleneck, carryout orders kept sales afloat but delivery declined 9% in 2022 and is expected to decrease another 3% in 2023. Since 60% of Domino's business is delivery, declining demand presented a challenge. The pandemic tailwinds masked underlying problems, which became evident as growth stalled over the last 24 months.

As employment trends have normalized, Domino's has addressed its staffing and capacity issues in 2023. The company is now well-positioned to meet demand.

Menu Innovation

Domino's overreliance on value messaging led to a stale, innovation-starved menu. But new product development is back on the front burner. For the first time, Domino's introduced two limited-time offerings in 2023 and plans to continue this cadence going forward.

Margins

On the profit front, margins suffered after COVID-19 as food and labor costs climbed. Domino's was slow to raise prices, hurting franchisee profitability. But recent strategic price increases on the popular Mix & Match deal (to $6.99 from $5.99) have helped restore franchisee profitability, though company-owned stores are still below pre-pandemic levels.

Heading into 2024, Domino's has two major growth initiatives ready to accelerate the business:

1)     Aggregator Partnerships

Partnerships with Uber and DoorDash (potentially in 2025) will tap into the $5 billion pizza delivery aggregator market, comprised of younger, higher-income customers. This represents an incremental $1 billion sales opportunity, conservatively adding 2.5% to same-store sales.

Source: DPZ Investor Relations

A $1 Billion Opportunity

The benefit is significant.  The Company believes a $1 billion incremental opportunity lies ahead.  I am creating a conservative case by assuming some overlap in both customer pools.  Based on the calculation below, this amounts to 2.5% of incremental SSS boost.  I believe this is a conservative calculation, and the eventual benefit could be higher.  Layering on a small menu price increase of 1% and 1-2% transaction growth, SSS are likely to grow by MSD for 2024 and 2025.  With the benefit of incremental sales and normalized operations, margins can return to pre-covid levels.

2. Revamped Loyalty Program

Dominos has 30 million engaged and 45 million disengaged loyalty members.  A revamped loyalty program with lower hurdles for free food aims to drive frequency for both delivery and carryout. While margins may dip initially, increased transactions will drive cash flow for franchisees.

Hear it from the CEO, Russell Weiner himself. 

Source: Bloomberg Transcript

3. Carry Out is a $2 Billion Opportunity

Lastly, new unit growth and fortressing are leading to faster delivery, and more convenient carry out as stores are closer and provide better service.  Based on its market share, carry-out is a $2 billion long-term opportunity for the Company.

Source: DPZ Investor Relations

4. Accelerating International Growth

80% of international units are controlled by 7 master franchisees that also happen to be public companies.  After several years of Covid and supply chain disruptions, these businesses are focused on unit growth. 

Source: DPZ Investor Relations

Dominos is targeting 1K new international franchised stores annually, amounting to a 7%-unit growth.  India and China are still in the early phases of store buildout, and the long-term store potential is substantial.  While the 5-year target is 18,500 stores, the ultimate long-term potential is significantly higher.

What does this mean for the 2024-2026 Dominos Financial Model?

1)     Sales growth of 5-6% based on SSS growth of 4%, US store growth of 3%, and international franchisee store growth of 7%

2)     Operating income growth of 8-10%

3)     Earnings growth of 10-12%

4)     Free cash flow per share growth of 10-12%

Domino’s resilient model and accelerating growth will lead to positive sales and earnings revisions.  If the economy slows, Domino’s relative attractiveness should be even greater. 

After regaining its momentum, Domino’s is rolling again.