Legendary investor Warren Buffett likes targeting companies that benefit from strong brands, enduring consumer demand and a proven competitive edge. So I was not surprised to hear that the ‘Sage of Omaha’ has recently bought into New York-listed Domino’s Pizza.
But an alternative way to invest in the company would be for me to buy shares in FTSE 250 share Domino’s Pizza Group (LSE: DOM). Another London-listed alternative, DP Eurasia, was taken private this year.
Clearly, Domino’s is rather a more complex company than it may initially appear. Like the long-term Buffett holding Coca-Cola, this is basically a master franchisor company. It owns intellectual property rights, runs shops in some areas, and a series of global franchisees that then sub-franchise within their regions.
The FTSE 250 firm is the company that runs the UK and Republic of Ireland business. So it sits between the ultimate global franchisor Domino’s (what Buffett has bought into) and individual franchisees that may pick up the phone when you call your local Domino’s branch with the munchies for a Margherita.
Is this a good business to invest in?
Some investors immediately take fright when they hear words like franchising or licensing. But Domino’s has outpaced the FTSE 250 over the past five years, rising 15% when the index during the same period has been flat. It yields 3.2% too.
What I see as the downside of its piggy-in-the-middle role is a lack of control. It relies on the US parent for the ultimate direction of the brand and marketing messages. But it also relies on individual franchisees to deliver the end product and manage individual customer relationships.
It tries to mitigate that by owning some operational sites itself, but that brings the additional complication of running pizza shops on top of supporting them with things like a supply chain and promotional material.
Not a cheap meal
At the moment, the FTSE 250 trades on a price-to-earnings (P/E) ratio of 18. That is markedly cheaper than the US business’s P/E ratio of 27, but I do not see it as cheap.
Earnings per share have been falling over the past several years. The company also faces the risk that a weak British economy and tightening household spending could see demand for pizzas fall. In the first half, orders were 1% lower than in the same period last year. Revenue fell 2%, while basic earnings per share crashed 45%.
The third quarter was more encouraging, with total orders up 4% year-on-year. With an ongoing push for customers to use its app and continued store openings, the company hopes to maintain that momentum.
However, I see the FTSE 250 share as fully priced given the mixed performance of recent years, a slow start to 2024 and an uncertain outlook for consumer spending.
I have no plans to add it to my portfolio at the moment.
