The Domino Pizza share price soars 10%, but here’s why I still wouldn’t buy

The surge in share price might be a red herring. This pizza chain could have problems on the horizon.

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Over the past month, the share price for Domino’s Pizza (LSE: DOM) has increased by over 10%. This surge has made me evaluate the stock.

At first glance, the stock seems appealing. The shares are down 15% and are carrying a price-to-earnings ratio of 17. The company has a strong brand, revenue in 2018 had increased, and there is a projected dividend of almost 3.5%. What’s not to like?

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Leaning tower of pizza

Recently, Domino’s Pizza has stated that it will pull out of three Nordic countries and Switzerland. Its 115 stores in Norway, Sweden, Iceland, and Switzerland will soon close, following a month and a half review of its international operations.

Domino’s reported a drop of 2.7% in its international sales. The company has struggled for some years to make a success of its business in these markets, and therefore the news does not come as a great surprise to investors, albeit it is a bit sooner than expected. Domino’s will exit these markets “in an orderly manner”. Where does this news leave its operations in the UK?

Against the backdrop of challenging market conditions, UK and Republic of Ireland system sales are up 3.9%, with 12 stores opening in Q3. Online sales now account for 90.9% of delivery sales.

Like most businesses, Domino’s is trying to mitigate potential disruption from the UK’s exit from the EU. These measures include stockpiling ingredients, such as the tomato base for its pizzas, which is imported from Portugal.

There is another problem looming for Domino’s – complex enough that outgoing chief executive David Wild doesn’t think it will be resolved in 2020. The company is in dispute with 63 of its franchisees, who run almost all of its 1,118 stores in the UK, about the share of the profits.

It is anticipated that the continued disagreement could impact future sales, with some franchisees unwilling to participate in marketing campaigns.

This is a part of the business that the incoming chief executive – whoever that maybe – will want to address sharpish. Getting its house in order is paramount for Domino’s success, as the business comes under increasing pressure from disruptors such as Just Eat and Deliveroo.

Out of dough?

This does bring forward another concern of mine. How will Domino’s fight off competition? I can’t see how the product it offers is any different from its competitors. Sure, it’s well branded and consumers are aware of the product, but is that enough in today’s competitive market?

I have further concerns about the stock. As my colleague Paul Summers noted in August 2019, Domino’s no longer holds a net cash position. Net debt was almost £239m at the end of June.

Taken in isolation, the debt probably wouldn’t have been a concern for me. But with the market conditions, Domino’s dispute with its franchisees, and wider market conditions, I would avoid buying this stock.

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T Sligo has no position in any of the shares mentioned. The Motley Fool UK has recommended Domino's Pizza. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Should you invest the value of your investment may rise or fall and your Capital is at Risk. Before investing your individual circumstances should be considered, so you should consider taking independent financial advice.

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