Australia | Jun 17 2021
This story features DOMINO'S PIZZA ENTERPRISES LIMITED. For more info SHARE ANALYSIS: DMP
Domino’s Taiwan, Domino’s Pizza's first push outside of Japan on its way to building a larger Asian business, has potential to turbo-charge growth but patience is required
-Domino's Pizza's Taiwan acquisition offers material longer-term upside, but little in the short term
-Lessons from Domino’s Japan could help turbocharge Taiwan growth
-Brokers remain confident about structural growth path, but differ on present share price valuation
By Mark Story
Just as it has done successfully in other regions, such as New Zealand and Europe, Domino's Pizza Enterprises ((DMP)) plans to weave its magic in Taiwan, the latest country in the fast-food company’s global expansion plans. As part of plans to expand the brand’s footprint in Asia from 1500 stores to 1900 stores by 2032, Domino’s recently acquired the Domino’s Pizza master franchise Taiwan for $79m.
Completion of the Domino’s Taiwan acquisition is expected in first half FY22 and is subject to local regulatory approval.
Whilst the acquisition is small in the context of Domino's current store network, management plans more than double the current 157 corporate and franchised store network to more than 400. This in turn would lift the total group store target (FY25-33) from 5,550 to 5,950 and to over double its first half FY21 global footprint.
With 400 stores, Domino’s Taiwan would have a network around 55% greater than its largest competitor, Pizza Hut.
Despite the historically high 16.5x multiple the company is paying for Domino’s Taiwan, network sales per store and earnings (EBITDA) per store at the Taiwan franchise are materially lower, relative to Domino’s Japan, and -43% lower than previous acquisitions.
Citi believes this presents potential upside to significantly boost earnings over time. For example, in calendar year 2020 the average network sales per store was $0.5m for the Taiwan business, compared with $1.4m for Japan, while earnings/store in Japan was more than 7x earnings/store for the franchise in Taiwan.
The broker suspects the higher multiple could be a result of the lower need for store conversions in Taiwan compared to some of the European acquisitions and/or the modest capital acquisition outlay.
Domino’s Taiwan reported $4.8m of earnings in calendar year 2020 and Domino’s estimates the acquisition to be 2% earnings per share (EPS) accretive on a FY20 pro-forma basis. The transaction will have no contribution to FY21 earnings.
In FY22 Domino’s expects the Taiwan operations to have a ‘marginal’ positive contribution – due to timing on completion/synergy realisation and digital investment, including non-recurring expenses/capex of -$10-11m over the first 3 years.
While brokers recognise the strategic significance of the Taiwan acquisition in helping to expand the company’s Asian footprint, they expect it will take time to integrate the business and understand the nuances of a new market. As a result, news of the latest acquisition has done little to alter valuations or brokers’ overall outlooks on the company.
At this stage, Credit Suisse has incorporated $5m earnings from FY23 into forecasts, which doesn’t factor in potential upside from network expansion or store productivity improvements. As a result, changes to Credit Suisse forecasts are minor, and the broker maintains an Underperform rating (target price $70.71).
But if Domino’s can leverage its existing digital expertise and the infrastructure of its global operations, the broker suspects improvements in store productivity could contribute to material earnings upside over time.
Morgans expects Domino’s plans for Taiwan to be similar to the company’s other regional acquisitions. The broker believes Domino’s is as well placed as it has been in some time and remains attracted to the group’s long term opportunity via store rollout/scale benefits, strong same-store sales growth trends and future M&A upside.
Given the extremely strong first half growth from its Japanese operation, the broker expects Domino’s to deliver FY21 earnings growth of 31.6%.
However, while Morgans continues to view Domino’s global growth story favourably, following a strong re-rating in recent months and 45x FY22 PE, the broker’s rating is lowered to Hold from Add (target price $123.35).
Morgans expects the plan for Taiwan to be similar to that of Japan, and all about growing volume and stores. The broker also expects proximity to Japan to allow for synergies and shared services in functions like marketing and store operations that could potentially turbo-charge growth.
As a result, Morgans can see a clear path to higher sales/margins for Taiwan as Domino’s rolls out its typical playbook – including implementing IT infrastructure, leveraging local support structure, improving the customer offering and accelerating store openings.
Track-record of performance improvement
When considering the Taiwanese population of 23.5m, Macquarie suspects Domino’s ambition to grow the Taiwan business to 400-plus stores is conservative. Using Australia as an upside case – as Domino’s most penetrated market – the broker believes Taiwan could grow its network to 650-plus stores. But that said, Macquarie is making no EPS forecast changes at this time.
Macquarie expects the near-term benefits from this acquisition will take time to realise. The broker reminds investors that integration costs at Domino’s first deal in Germany (Joey’s Pizza in 2015) increased 30%-plus versus initial expectations. However, Macquarie notes Domino’s has indicated it now has a better handle on integration costs and acknowledges the company’s strong track-record in improving performance of its bolt-on acquisitions.
By extending best-practice localisation and pricing techniques within the region, and applying supply chain and operational synergies, Macquarie also believes there is a long-term opportunity in Taiwan to expand the top line, and boost margins. But with Domino’s trading slightly ahead of Macquarie’s price target ($108.50), the broker retains a Neutral recommendation.
Despite network sales per store at Domino’s Taiwan being 3x lower than the group and earnings to network sales being -450 bps below the group, Citi also reminds investors Domino’s has a strong track record of driving operational improvements in acquired pizza chains. The broker cites the 11% increase in network sales per store in Europe since FY16, when Domino’s acquired Pizza Sprint (France) and Joey’s (Germany).
Citi sees increased volumes as an opportunity for Domino’s to improve Taiwan sales per store and margins, while a new point-of-sale system may also improve the countries’ metrics.
The broker maintains a Neutral rating, but in light of expanding rollout opportunities Domino’s has across its markets, and higher terminal growth rate (4% from 3.25%), Citi has increased the price target to $120 from $104.50.
Bell Potter also expects an enhancement of customer offerings and transition to a high volume mentality to help lift sales/margins at Domino’s Taiwan. Based on Domino’s significant long term growth prospects and tailwinds emerging from covid, Bell Potter retains a Buy rating.
Having allowed for the acquisition, the broker has increased its target to $132 from $122.
The consensus target combining six brokers on the FNArena database currently stands at $100.42, but Ord Minnett and Morgan Stanley are yet to respond post acquisition announcement. Bell Potter is not a database broker.
Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.
FNArena is proud about its track record and past achievements: Ten Years On
For more info SHARE ANALYSIS: DMP - DOMINO'S PIZZA ENTERPRISES LIMITED