Eagle Boys Feel Domino’s Effect

This story features DOMINO'S PIZZA ENTERPRISES LIMITED. For more info SHARE ANALYSIS: DMP

– Domino's supreme pizza chain
– Eagle Boys hold the anchovies
– Further market share opportunity
 

By Greg Peel

Deutsche Bank estimates that of the Australian “chain” pizza market, which presumably excludes your local Italian pizzeria on the corner that does the fabulous Calabrese, Domino’s Pizza ((DMP)) controls 50%. Thereafter, veteran Pizza Hut and Crust/Pizza Capers each split the balance but for a less than 10% slice (Morgan Stanley says around 6%) which Eagle Boys controls.

Press reports suggest the Eagle Boys have put their head office into voluntary administration. This will not immediately impact on the 127 franchises which will continue to operate normally until a possible sale is negotiated and/or restructuring measures are considered.

By contrast, Domino’s was operating 681 stores in Australia/NZ at the end of last year and Pizza Hut currently has around 270. The difference between 681 stores and 127 suggests Domino’s boasts the advantages of significantly larger scale when it comes to procurement, leveraging marketing spend and head office costs, Deutsche Bank notes. This is evidenced by the fact Domino’s can offer a $5 pizza.

The dominant player has also invested heavily in technology that addresses the two major issues facing the quick service restaurant (QSR) market – cooking time and delivery time. This has put more pressure on the likes of Pizza Hut and Crust but would have had a greater impact on the smaller Eagle Boys, Deutsche assumes.  

There has been speculation in the past, following franchisee dissatisfaction in the Eagle Boys camp, that Domino’s would be interested in taking over. No, was the answer, given Domino’s is not keen trying to retrain franchisees into a whole different culture. Nor would it be likely, Deutsche believes, Eagle Boys franchisees would be eager to invest the capital required to rebrand to a Domino’s, and either way, it has come to the point the ACCC might have an issue with growing Domino domination.

That said, Morgan Stanley cites a monitoring service in calculating Domino’s share is not as much as 50%. Prior to the Eagle Boys news, the broker had forecast an increased market share in Australian pizza to 37.4% in FY16 and 42.8% in FY17. Perhaps the difference is New Zealand – it’s unclear. Whatever the case, if Eagle Boys ends up closing then this would accelerate Domino’s potential market share gains, Morgan Stanley assumes. The leader could pick up lost business and accelerate store openings in existing Eagle Boy locations.

Domino’s franchisees generate 40% higher sales per stores than Eagle Boys’, the broker points out, and thus are likely far more profitable. That said, Morgan Stanley also notes, Pizza Hut appears to have managed to slow its same store sales growth decline in the June quarter, according to US owner Yum! Brands’ quarterly result. So not everything is heading Domino’s way alone.

Deutsche Bank believes that on balance, this development is positive for Domino’s. There is a risk, nonetheless, that Eagle Boys comes safely out of administration as a stronger business. Morgan Stanley sees a market share opportunity and already had Domino’s as its key consumer pick.

At $80, Morgan Stanley’s price target for Domino’s is way ahead of the pack, and justifies an Overweight rating. Deutsche’s target of $57 is well short of the current trading price, hence a Hold rating.

Four other FNArena database brokers cover the stock, for one Buy and three Hold or equivalent ratings, but none have updated their view since the first half result season in February. We may thus take targets in the range of $53.32 to $63.20 with a grain of salt. Currently the consensus database target is $61.69, suggesting 16% downside.

Domino’s will report its second half earnings on August 16.

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