Domino’s battling, Sumo Salad struggling

There is an emerging view that Dominos Pizza Enterprises may be a little overcooked.

Shares in the Brisbane-based Domino’s have been popular with analysts and investors in recent years because of the pizza chain’s growth rate, effective marketing and strong brand awareness.

The retailer has also been backed by investors because its overseas operations provide a counter balance to the Australian and New Zealand store networks and its innovation and tech savvy.

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Domino’s has also proved to be remarkably resilient in the past 12 months with its share price currently above $51 despite damaging media coverage that at one point saw the price fall to around 38 cents a share.

But now there is a little bit more caution about the stock, based on concerns about the financial implications of some of the issues around the franchise store model and competitive activity in the fast food sector that could subdue Domino’s remarkable growth trends.

While the $51 share price makes the pizza chain a solid retail stock, it is worth noting that Domino’s shares hit $80.69 in August 2016 and don’t look anywhere near recovering that much territory in the current financial year.

Analysts and investors will be taking a keen interest in the 2018 financial year results that are due to be released on August 14.

The results will quantify any financial damage that may have been incurred as a result of issues around underpayment of wages by Australian franchisees but the greater issue is likely to be on the retailer’s growth expectations.

Analysts believe Domino’s will not deliver its annual 20 per cent earnings per share growth guidance because of the fallout from the underpayment of wages as well as competition in the fast food sector as rivals develop home delivery options.

Analysts expect the adverse publicity and a higher wages bill going forward will have an impact on the FY2018 financial results but believe that the current half should see some improvement.

Domino’s has been one of the most shorted stocks on the Australian Stock Exchange with investors betting against the retailer’s ability to achieve its ambitious growth targets and an expectation of a slowdown in new store openings.

Analysts are also keen to understand if Domino’s management has been able to fix issues with store development in France that raised concerns and dented the retailers share price when the 2017 financial year results were issued.

The Japanese division has also provided some headaches.

While some analysts predict Domino’s will recover from a difficult and disappointing FY2018, the retailer is still expected to deliver revenue growth of around 10 per cent for the period.

However, lower profits are expected due to higher costs, including the introduction of award wages and conditions for all employees from January of this year as well as additional support measures for franchisees.

For the next two years, analysts actually forecast revenue growth for Domino’s of less than 5 per cent which compares with two stellar growth years for the financial years 2016 and 2017.

Apart from the increased wages bill and the reimbursement of employees who were underpaid previously and along with other franchise systems, Domino’s could face further costs going forward as a result of recommendations and legislation changes following the Senate Franchising Code of Conduct Inquiry.

Analysts anticipate the inquiry to dampen growth of retail franchise systems in Australia generally, although Domino’s has been looking more towards expansion in Japan and Europe to underpin future growth.

Domino’s has a target of 4650 stores with at least 1000 of those in Germany and France but come analysts, including Credit Suisse and Citi, are not convinced the European target can be met without an entry into other markets.

Expansion in Australia and New Zealand is also expected to fall short of the retailer’s projections for new store rollouts with cannibalising of existing stores an emerging problem and more competition in the fast food market.

The retailer’s business plan anticipates 400 more Domino’s stores around Australia and New Zealand in the next five to eight years.

However, some Domino’s stores have been struggling to survive in Australia with the set up costs of a store typically around $500,000 to $660,000 as well as an initial franchise fee of $66,000 and ongoing levies of up to 13 per cent of gross sales for royalties and national advertising.

While costs for staff and electricity have jumped markedly and hit profitability, the FY2017 financial results reported a fall in same store sales, a key metric in assessing the performance of a company.

The question financial analysts and investors will therefore be mulling over when FY2018 results are reported on August 14 is whether or not Domino’s has peaked and will be unable to maintain its sales and earnings momentum.

Despite investment in gadgetry such as drones for home deliveries, ordering apps for mobile devices and GPS tracking of delivery drivers, the retailer is encountering significant headwinds with fast food rivals introducing or expanding home delivery services.

Domino’s Pizza’s growth has been underpinned by fast and convenient home deliveries for competitively priced pizzas but technology is also assisting competitors to develop services.

Uber Eats and other delivery service companies are allowing food retailers with a wider range of food offerings to compete for customers who are keen to order in meals.

Rivals are eroding Domino’s competitive advantage. The pizza retailer has responded by cutting prices to maintain sales and defend market share but that has further sliced into bottom line profits.

Domino’s appears to have been able to ride out the controversies that have dogged the company in the past 12 months, including the whopping $37 million pay packet that made CEO Don Meij the highest paid executive in Australia last year.

Investors have largely stuck with the pizza retailer and FY2018 results may underwhelm them, the results will be far from disastrous.

The share price is likely to fall in a knee jerk reaction but the real interest in the results will be the outlook and explanations on how the company will address the headwinds.

While Domino’s has its challenges, some other food retailers are battling to survive.

Sumo Salad seeks buyer

Insolvency firm Ferrier Hodgson has been appointed as administrators for Sumo Salad Group in a bid to find a buyer for the 85 store chain.

The administrators are looking for a buyer for the business after attempts to find an investor or a buyer failed last year.

The retail chain, which has developed as a franchise network, is understood to be profitable but is struggling with legacy debt issues.

Luke Baylis, one of the founders of the Sumo Salad chain and its CEO, put one of the entities in the group into administration last year to allow it to close some underperforming stores and to renegotiate shopping centre rents.

It is understood shopping centre rentals have been a key factor in the debt levels of the retailer.

Ferrier Hodgson said Sumo Salad is a strong brand with a viable business model but needs to identify a strategic partner or potential buyer to ensure it can continue.

The current owners have developed a restructure plan that would enable them to reduce debt levels after it renegotiated leases last year with Westfield shopping centres, owned by the Scentre Group, while a division managing leases was placed in administration.

Sumo Salad Group had set a price of $50 million on the business for an outright sale last year but was unable to find a suitor or an investor to provide a capital injection.

 

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