Regardless of whether you think Papa John’s really uses better ingredients to produce better pizzas, and despite what you might think about founder, CEO, president, chairman, cheerleader, pitchman, chief cook and bottle washer John Schnatter’s prediction that the Affordable Care Act will cause the world’s third-largest pizza chain to bump up pizza prices an average of 14 cents each per pie, there’s no denying the 4,000 unit company is an exceptionally well-run money maker.
I can’t recall the last time I bought Papa John’s pizza or even snagged a slice at a kids’ function. But I darn sure hope I’ve got a slice of its stock in my retirement portfolio (which likely amounts to the value of an empty Papa John’s box). It is a solid performer whose value has doubled in the past two years, and its operations are the industry’s gold standard for pizza chains.
Here’s why I like it: In the fourth quarter of 2012, Papa John’s reported what one analyst called “robust” same-store sales. In the currently cut-throat pizza market, I’d call its performance butt-kicking.
Same-store sales (a measure of units open at least a year) at North American company-owned stores rose a jaw-dropping 6.9 percent, North American franchised outlets jumped 4.6 percent, and sales at international locations leapt 7 percent.
It can’t be overlooked that these are numbers just three years removed from a recession when restaurant sales were so bad, industry analysts joked, “Hey, minus 1 percent is the new plus 2!”
And while a genuine “Bravo!” is due Team Papa, the company reported that some 2012 challenges hurt earnings per share (EPS) slightly (74 cents per share, which is a penny or two short of Wall Street’s hopes) and that 2013 will bring its own unique headwinds, not the least of which is the task of exceeding 2012’s numbers.
According to Janney restaurant analyst Mark Kalinowski, Papa John’s higher than expected Q4 G&A expenses accounted for the EPS shortfall. Whether those expenses will recur this year remains to be seen.
What will recur—without cessation—is stiff competition at every level of the pizza business. Not only are industry leaders Pizza Hut and Domino’s Pizza doing all they can to eke out increased market share, chains smaller than Papa John’s are doing all they can to claim a larger bite of a pie whose overall growth is glacial at best. Here’s what I mean by competition:
Davids Pissing Off Goliaths: Regional chains, such as Toledo, Ohio-based Marco’s Pizza, is growing quickly, adding nearly 100 stores in the past two years and more than doubling in size in 10 years. Jack Butorac, president of Marco’s Franchising (a Louisville resident who commutes weekly to Toledo), expects unit numbers to double again in less than five years.
Romeo’s Pizza, an even smaller Ohio chain, has grown from one to 31 units—mostly through the acquisition of underperforming independent pizzerias that are converted to Romeo’s—in only eight years. That kind of expansion may seem small compared to chains that add hundreds of stores each year, but left unwatched, smaller players’ constant nipping at the heels of larger competitors can become a cancer that eats up markets once dominated by chain players.
Big Chains Bullying Each Other: There is no love lost between any of the top four chains (Little Caesars is No. 4 nationally). Each spends millions slashing prices in hopes of slashing the others’ throats to gain a little market share. That means pizza profits are nowhere near what they were 25 years ago — even five years ago. Papa John’s typically resists competing on price, insisting its quality draws customers, not low prices. Yet that position works less than ever to its advantage.
Pizza Hut (No. 1 nationally) seems content to keep prices low and value high (i.e. its $10 Dinner Box deal) and God only knows what kind of a piddling margin it gets from that. Domino’s Pizza (No. 2 nationally) is attempting to coax more consumers to stores to see their pizzas being made, and to reduce delivery costs. But let’s face it, a seat on a bench in a chain pizzeria isn’t exactly scenic, no matter how high the pizza maker tosses your dough.
And speaking of delivery, it’s astonishingly expensive for operators. Every time a delivery driver leaves the store, it costs the owner about $4.50 in fuel reimbursement and non-owned auto insurance. There is NO SUCH THING as free delivery for them or for you.
Which is partly why carryout only and take-and-bake pizza chains, such as Papa Murphy’s Take ‘N’ Bake Pizza, continue to convert customers who like a freshly baked pizza at home, rather than a steamed pie from a delivery bag. Industry analyst Darren Tristano predicts this style of pizza will continue growing and solely at the expense of delivery chains.
Another problem for Papa John’s is even better quality is coming from the independent segment and emerging brands bringing the fast-casual Subway-like, “tell us how to top it” experience to pizza. If you want to see what I’m talking about, the lone example of that here is Uncle Maddio’s on Bardstown Road at Grinstead. Multiple concepts like it are growing all around the country, bringing a much better pizza experience — albeit less convenient since you have to haul your carcass to the restaurant — and product to consumers whose tastes are increasingly sophisticated. This is a trend with exceptionally long legs.
Truly Better Taste from Better Ingredients, Artisan Pizza: Like Coals Artisan Pizza in St. Matthews? Then you’ll be glad to know three coal-fired pizza chains are growing in the southern half of the country.
And while small, artisan players (in addition to Coals, the best example here is Garage Bar’s brilliant Neapolitan-style pizza) continue to grow in number because adults, especially, have discovered “real pizza” and have no problem spending the extra dough to get the authentic stuff.
Will all this combine to send Papa John’s stock price down in the coming years?
Probably not, but mostly because PJ’s (and Pizza Hut and Domino’s) have huge customer bases here, and all three are enjoying strong growth in foreign markets. Still, the battle on the home front will worsen as changes in pizza, pizzerias and pizza preferences shift toward the more premium end of the spectrum and, consequently, erode market share.
Does that mean I’m selling my Papa John’s stock? Not at all. But these newcomers to the scene will only further ensure I’ll continue my streak of not eating its pizza.