M&C Report takes a closer look at the half-year results to 24 June 2012 from Domino’s Pizza Group.
VAT
Lee Ginsberg, chief financial officer, told M&C Report that the company had watched the Government’s u-turn on the “pasty tax” with interest. He said that the group had not ruled out approaching the Government/HMRC regarding what it sees as the unequal treatment that it receives on the tax issue.
New locations
Ginsberg said that the company continued to look at opportunities to extend its brand into new areas such as sports stadium, with a first trial site sent to come on line soon. He ruled out following Subway in exploring an opening in a school, but said that transport hubs were also on the group’s radar for possible future openings. However, he said that the company’s trial food court site at the Lakeside shopping centre was not trading as successfully as the group had hoped.
Refinancing
The group announced it had full credit approval for the refinancing of its existing £25m five-year facility and this had been increased to a £30m five-year revolving credit facility thereby giving its “additional flexibility to take advantage of further growth opportunities and returning cash to shareholders”. The new £30m facility, which is in the process of final documentation, has been refinanced at an extremely competitive 135 basis points over LIBOR. Ginsberg, told M&C Report that the group’s refinancing gave it the flexibility to look at acquisition opportunities “if and when they came up”.
Germany and further overseas opportunities
Ginsberg said that the initial success of its operation in Germany had given the group the confidence to look at further international expansion opportunities. He said: “If you had asked me last year if we would look at other opportunities overseas then I would have said it was too early, but should something right became available I think now we would consider it. Being one of the better operators we would hope to get a good look at anything that did become available.” The chain has opened a further four stores in Germany since the start of the financial year, all in the North Rhine Westphalia (NRW) area. As at 24 June 2012, it had 10 stores open, with solid sales growth in Berlin and “very strong” initial sales in the stores in the NRW area. By the year end it plans to have 18 stores in Germany and intends to open another 18 next year. It now has two UK franchisees operating in this market and more lined up to take stores. It has also had strong interest from German nationals. The company said it would be moving its head office operation from Berlin to Dusseldorf. The group will start work next year on a €4.5m (£3.5m) dough factory in West Germany, which it said will be able to serve as many as 200 stores.
Trading
Total system sales in the period grew 11.0% to £286.9m (2011: £258.4m). Group revenue, which includes the sales generated by the Group from royalties, fees on new store openings, food sales, finance lease and rental income, as well as the turnover of the stores in subsidiary undertakings, grew by 10.3% to £112.7m (2011: £102.2m). The group said that the underlying business in the UK and Ireland (excluding the early stage of our investment in Germany) had been robust and had seen strong growth in sales and profits in the period. UK like-for-like sales growth in Quarter 2 accelerated to 8.1% from 3.7% in Quarter 1. Together with tight cost control and the continuing benefits of the operational gearing in the commissaries, profit before tax, before exceptionals, for the UK and Ireland segments advanced by 15.2% in the period. Group (including Germany) operating profit, before exceptionals, was up 9.7% to £22.2m (2011: £20.2m), profit before tax, before exceptionals, was up 9.8% to £22.1m (2011: £20.1m) and diluted earnings per share, before exceptionals, was up 11.6% to 10.16p (2011: 9.11p). EBITDA before exceptionals, was up 10.6% to £24.2m (2011: £21.9m), which the group said again demonstrated the strong cash generative nature of the Domino’s business model. As a result of this strong performance, the Board increased its interim dividend by 20.0% to 6.60p.
Openings and redesigns
During the period, Domino’s opened 23 new stores and said it had a full pipeline for the coming half. Ginsberg said: “We are confident of hitting our target of 72 store openings overall and we continue to develop our store design to ensure these new stores, and any that are refitted, are the best in class for our sector. The open design allows us to show off the quality of our products and skill of our pizza makers and, combined with a strong price offer, we are seeing our carry out business rise. We have also increased our portfolio of property agents during the period, to ensure that we maintain a healthy new store pipeline.”
Food costs
Food cost inflation, excluding boxes, for the period was flat, although boxes saw a further increase in prices in January 2012. The company said it had continued its strategy of working closely with key suppliers and was to mitigate any upward pressure on commodity prices by securing longer term, fixed price contracts for a number of key product lines. The rising petrol and diesel costs in the period cost the group an additional £0.2m compared to the prior year, but it said this is set to reverse as fuel costs have reduced from the first half highs.
E-commerce
The group said that the result of its online activity, including the launch of Domigoals, an app that keeps football fans up to date with the latest results and offers the chance to win pizzas or receive voucher codes and an improvement in its 1-2-1 marketing communications, had led to a rise in e-commerce of 43.4% during the period (2011: 50.9%), taking total online sales to £121.2m (2011: £84.5m). This method of ordering now accounts for 52.4% of the group’s delivered orders in the UK (2011: 41.9%). During the period, the chain took over £1.5m in online orders in a single day for the first time. One of the group’s key initiatives during the period was its first Twitter Reverse Auction. This was promoted on Facebook and on Twitter and the more people tweeted using the hashtag #letsdolunch (UK) or #pizzalunch (ROI), the more the price of the pizza dropped. Tweets had to be made between 9am and 11am in the morning and the pizza was on sale from 12noon for a very limited time. The first auction was for a Pepperoni Passion and the company had a twelvefold increase in tweets that day.
Franchisee and service
Ginsberg said that the franchisee to store ratio currently stood at 5.7, which had stayed stable over the six months. He said: “We are still looking to creep this figure up to 10 sites per franchisee, but we continue to seek a balance between existing franchisees and new operators, who can enhance the gene pool.” The group said the first half of the year saw the launch of a “service revolution”. Ginsberg said: “We have always had the best delivery times in the business, but we are determined to make them even better. For a long time, we have been aware of the positive correlation between delivery times and order frequency and we have a new 22-minute average delivery time target. We also continue to support our franchisees with targeted workshops to help build trade and improve service. So far this year we have hosted sessions on late night trading, student marketing, dealing with the impact of the Olympics and the service revolution workshop.”
Olympics
Ginsberg said that it was hard to forecast the impact of the Olympics on trading. He said: “Apart from the opening and closing ceremonies when a lot of people traditionally huddle around their TVs, it is hard to forecast how trading will go during the event, although sporting events usually affect our volumes in a positive way. Our franchisees are certainly geared up for the Games.”
Analyst reaction
Douglas Jack at Numis said: “The H1 results are in line, with PBT up 10% to £22.1m (we forecast £22.1m). Supported by an 8.2% increase in the number of outlets, a 90bps increase in margins and 5.2% LFL sales growth, UK earnings rose 16.1%. We are holding our forecasts, which we believe have upgrade potential, based on cautious assumptions of 1% LFL sales growth and 80bps margin decline in H2. We believe new 2012E UK sites are generating £11.5k AWUS vs. a £10k historic average.
“The quality of Domino’s model is reflected in the company being able to increase (to £30m) and extend (to July 2017) its bank facility at LIBOR + 135bps. Even though the company has given up some margin to support franchisees stepping up expansion (for material medium-long term benefit), we believe there is good visibility on potential forecast upgrades.”
Simon French at Panmure Gordon said: “The group says current trading is in line with expectations and its expectations for the full-year remain unchanged and we expect no material movement in consensus estimates of £46.6m PBT (21.2p EPS). The stock trades on a 2012E P/E of 24.4x and an EV/EBITDA of 16.9x which we view as too expensive for 11-12% earnings growth per annum. We reiterate our Sell recommendation and 350p Target Price, implying c32% potential downside.”
Paul Hickman at Peel Hunt said: “Conditions – both weather and TV events – have favoured sales in H1, as well as successful product launches, and it is notable that the company has taken full advantage of these opportunities. We expect the Olympic period will continue to support trading. However, the underlying challenge remains one of turning medium-term opportunities – UK roll-out, digital marketing opportunities, and Germany – into short-term growth drivers. This has still to happen.”
Wayne Collins at Canaccord Genuity said: “We are slightly disappointed that the run-rate of new openings has not yet increased with only 19 stores in the UK and 4 in Germany having opened in the period. Management remain confident that 60 new UK and 12 Germany stores are achievable in 2012, but with this programme now heavily H2 weighted there is unlikely to be any upward revision to this target. We believe that the price / volume mix of LFL sales is evenly split but it is the volume element that is required to drive further upgrades to forecasts. Having upgraded by 4% on 22 June, we leave our forecasts unchanged.”
