Sky high margins prove franchising is a winner for Domino’s Pizza Group plc, Fevertree Drinks plc and InterContinental Hotels Group plc

Why you shouldn’t ignore asset-light, high-margin businesses such as Domino’s Pizza Group plc (LON: DOM), Fevertree Drinks plc (LON: FEVR) and InterContinental Hotels Group plc (LON: IHG).

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

Franchising may have played its part in decimating local high street shops and spreading the worst of American food across the world, but investors should love the high margins and reliable revenue streams the system provides. Look no further than Domino’s (LSE: DOM) to see how beneficial franchising can be for owners and investors alike. In 2015, Domino’s UK and Ireland boasted operating margins of 24%, which is high for most sectors, and especially so in the highly competitive and traditionally low-margin restaurant industry.

Domino’s was this profitable because the vast majority of its 931 stores are franchised out, meaning reliable revenue from licensing agreements and sales of ingredients to individual stores. Underlying operating profits jumped a full 16% last year as 65 new stores were opened and like-for-like sales at existing locations rose an impressive 11.7%. The market can’t get enough of Domino’s continued growth and shares now trade at a pricey 26 times forward earnings. Still, if the company can build on consecutive years of double-digit earnings per share growth, even today’s price could be a long-term bargain.

Long-term winner?

Next time you see a bottle of Fevertree (LSE: FEVR) tonic or lemonade at a grocery store, take a second to appreciate the impressive 29% operating margins the company makes on each bottle distributed. Fevertree can extract so much profit because it outsources the expensive and capital-intensive process of bottling and distributing to third parties. While this isn’t exactly a traditional franchise business model, it works in a similar fashion with management freed from overseeing the nitty gritty of low-margin business areas to focus on the bigger picture.

So far this has worked a charm as sales leapt 70% in the last full year and operating profits rose 113% in the same period. This growth doesn’t appear ready to slow any time soon as the company is pushing forward with rapid expansion plans and already brings in 65% of revenue from outside the UK. Last month’s trading update also brought good news with management revealing that sales were exceeding guidance and margins were also improving. While shares are valued very highly at 40 times forward earnings, Fevertree’s market dominance, high margins and growth potential all point towards a long-term winner in my eyes.

Strong strategy

Hotels have traditionally not been high margin businesses, but that’s why InterContinental Hotels Group (LSE: IHG), owner of the Holiday Inn and InterContinental brands, has moved to sell-off managed hotels to franchise partners. IHG now franchises out 84% of its hotels, which led to astounding operating margins of 83% in the last full year.

Of course, the company’s reliance on business and leisure travel means it’s still highly exposed to any slowdown in global economic growth no matter how far removed the group is from the day-to-day running of hotels. That said, very high margins, impressive geographic diversification, particularly in China, and a solid 2.6% yielding dividend makes IHG an impressive option to me.

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 assessed. Consider taking independent financial advice.

Ian Pierce has no position in any shares mentioned. The Motley Fool UK has recommended Domino's Pizza. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Mature couple at the beach
Investing Articles

6 stocks that Fools have been buying!

Our Foolish freelancers are putting their money where their mouths are and buying these stocks in recent weeks.

Read more »

Black woman using loudspeaker to be heard
Investing Articles

I was right about the Barclays share price! Here’s what I think happens next

Jon Smith explains why he still feels the Barclays share price is undervalued and flags up why updates on its…

Read more »

Investing Articles

Where I’d start investing £8,000 in April 2024

Writer Ben McPoland highlights two areas of the stock market that he would target if he were to start investing…

Read more »

View of Tower Bridge in Autumn
Investing Articles

Ahead of the ISA deadline, here are 3 FTSE 100 stocks I’d consider

Jon Smith notes down some FTSE 100 stocks in sectors ranging from property to retail that he thinks could offer…

Read more »

Young female business analyst looking at a graph chart while working from home
Investing Articles

Why I think Rolls-Royce shares will pay a dividend in 2024

Stephen Wright thinks Rolls-Royce shares are about to pay a dividend again. But he isn’t convinced this is something investors…

Read more »

Investing Articles

1 of the best UK shares to consider buying in April

Higher gold prices and a falling share price have put this FTSE 250 stock on Stephen Wright's list of UK…

Read more »

Person holding magnifying glass over important document, reading the small print
Investing Articles

The market is wrong about this FTSE 250 stock. I’m buying it in April

Stephen Wright thinks investors should look past a 49% decline in earnings per share and consider investing in a FTSE…

Read more »

Black father and two young daughters dancing at home
Investing Articles

1 FTSE 250 stock I own, and 1 I’d love to buy

Our writer explains why she’s eyeing up this FTSE 250 growth phenomenon, and may buy more shares in this property…

Read more »