Domino's Pizza's IPO: Great Expectations, Humble Beginnings

 
July 19, 2004

July 13. David Brandon has just rung the opening bell to begin trading of Domino's Pizza on the New York Stock Exchange. Now the debonair chair and CEO of the world's second-largest pizza chain is answering a line of glib questioning from a CBS MarketWatch reporter, who asks for a food analogy to describe the company's initial public offering. With a ready smile, Brandon looks straight into the camera and says, "The best analogy I can tell you as it relates to this IPO is that this pizza is loaded."

The answer is ironic and accurate: Loaded ... with excitement ... with hope ... with massive debt ... with debatable timing ... and with strong possibilities for a future of solid investor returns.

Domino's IPO, which came in at $14 a share — a dollar shy of the low end of the company's estimated $15 to $17 range — did little to wow Wall Street. But as Brandon explained, though the stock didn't turn a lot of heads at its coming out party, it's a keeper pulled from a pond of post-recession throwbacks.

"It's far more important where we are in the future than we what we're doing at this particular hour," Brandon told MarketWatch reporter Steve Gelsi, explaining that he wasn't disappointed by the price shortfall. "We didn't know what to hope for. ... The multiple we've been assigned is right up there with the comps that we really believe we belong with ... the McDonald's, Wendy's and Yum's of the world. So we feel really good about our position."

Analysts agree

Domino's Pizza

* Units: 7,450
* Markets: 50 nations
* Production commissaries: 26
* 2003 Financials:
   Sales: $4.2 billion
   Revenue: $1.33 billion
   Profit: $39 million
* Shares offered at IPO: 24.1 million
* Shares outstanding: 65.7 million
* Offering price: $14
* Expected range: $15-$17
* Close of 1st-day trading: $13.50
* Market cap.: $911 million
* Long-term debt: $934 million
* Enterprise value: $1.84 billion

with Brandon. The stock won't come out of the box spewing huge returns, but owning a slice of a well-established, well-directed pizza company on solid footing for the future is all good. The projected annual dividend of 26 cents per share also is a selling point for the anticipated slow grower.

"The dividend, we think, is a real important part of our story because ... we wanted to come right out of the box and let our investors know that there was plenty of cash flow," said Brandon.

Carbo-loaded

Rick "Aristole" Munarriz, an analyst with the Motley Fool.com, said he was upbeat about Domino's IPO when it was announced a few months ago. But back then he thought the low-carb craze was fading and that the IPO market as a whole was improving over the past few years. The ever-changing market has proved him wrong, he said.

"This was not the ideal time for a pizza company to go public," said Munarriz, who is based in Miami. "Krispy Kreme has had its implosion, which is bad news for anyone making dough in the tactical sense. Papa John's isn't doing so incredibly well right now, either. It's all a matter of bad timing."

JMP Securities director Dean Haskell agreed that low-carb trends did Domino's no favors, but he believes pizza market woes, such as record cheese prices, played a larger role.

"Investment bankers looked at the market when this was filed in April ... and said they thought this was the appropriate filing range," said Haskell, whose firm is in San Francisco. "Since then, valuations have slid in the industry as a whole, partly as a function of higher cheese and beef prices, and the compression of margins that could occur. So they priced it a little bit below range, and there's absolutely nothing wrong with that. They've got the transaction completed and at a valuation that the market will accept."

In related published reports, some analysts voiced concerns over Domino's $934 million long-term debt, yet neither Munarriz nor Haskell seemed particularly concerned about it. Big, stable companies with strong cash flow can carry larger debt loads, Haskell said, and Domino's plan to de-leverage itself gradually will improve its earnings capacity over the long haul.

Standard & Poor's July 13 reassessment of Domino's debt from "stable" to "positive" echoed Haskell's view: "The ratings reflect the risks associated with the company's participation in the highly competitive pizza industry, a narrow product focus, a significant debt burden and weak cash flow protection measures," the ratings group said in a Reuters report. "These factors are partially mitigated by the company's established brand, simple and cost-efficient operating system, and improved profitability."

"Cash-rich companies are going to have a big advantage over leveraged ones" in the marketplace, Munarriz added, pointing to expected interest rate increases. But a large part of Domino's decision to go public was "to eradicate part of that debt," he added, and that renders the debt question about moot.

Brandon believes Domino's growth potential offsets its debt woes.

"We've got nearly 5,000 stores in the U.S., but we still have several hundred yet to build," he told CBS MarketWatch. "Our international story is a very, very impressive one in terms of the amount of stores we need to grow. We're in over 50 markets today and I'm sure that list will get longer in the years ahead. ... We think we're going to be a really significant story in the market for months and years to come."

Timing is everything

Munarriz was critical of the timing of Domino's offering, calling it "about as bad as it can get in the current climate." But given the company's aims — mainly to allow principal shareholder Bain Capital to draw some cash out of its investment and to help the chain to pay down its own debt — he said it had no alternative.

Overall, he added, the IPO is a positive move for the company, though investors may not support it immediately.

"You and I know that its earnings are not going to get worse, but right now the market doesn't agree with that sentiment," he said. "What we also know is that Domino's is a solid company, it's not going to disappear."

Munarriz said the stock's day-one price slip from $14 to $13.50 also isn't cause for alarm. The nearly 14 million shares traded on the day indicated "some panic and flipping" among investors. But by and large, he expects the majority to "hold onto it because it's a good company. Obviously people have to sell in order for other people to buy. The tighter they're willing to hold onto it will dictate where the price of the stock goes from there on."

Brandon said the inevitability of Domino's IPO kept it from getting hung up on timing the market perfectly.

"We decided early this year that we were going to move ahead and go forward based on the trend lines that were established," he said. It also was time to reward Bain for its support of the chain, he added. "Primarily this is about a private-equity firm that's been a great sponsor company and a great partner for the last five-and-a-half years. ... It's their job to monetize some of that investment and return it to their investors."

Read related Domino's stories by clicking here.


Topics: Domino's Pizza , Public Companies


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