Stock of the day: Domino's delivers speedy rebound

Is Pizza ‘discretionary’ or a staple nowadays?

Is Pizza ‘discretionary’ or a staple nowadays? Domino’s Pizza Group is betting that Brits will decide the latter applies, and a 21% jump in third quarter sales showed Britain’s largest pizza delivery firm may be on the right track. Shares in the master franchise of Domino’s Pizza Inc. raced as much as 15% higher as the UK firm noted “Demand for delivered food in the UK continues to be strong despite the uncertain consumer environment”. Investors had sold the stock down some 10% for the year by early August. An 8% sales slump in the half-year called into question the strategy of increasing stores in already-successful locations. Buyers piled back in on Tuesday on news that sales at UK outlets open more than a year had bounced by almost exactly the same amount.

Seasonal factors may have played a part in the summer downturn, whilst changes in pricing may have helped bring a bounce. The group’s “Dine for £9.99” campaign was officially introduced towards the end of September. And with capex now targeted at the lower end of the full-year £50m-£60m range, we see scope for the campaign to extend well into Q1. Domino’s also gained a deeper foothold in the competitive London market in Q3, acquiring 75% of a franchisee business. It comprises 25 stores, with 40 more planned. Elsewhere, the group’s more consistently positive digital trend showed a faster double-digit percentage rise at 17.4%, with new apps winning traction, including Alexa ordering, introduced in July. The group still has a planned £4m digital investment in H2 to deploy.

One sour note was the dip in online orders as a percentage of the total in the quarter—to 58% from 75%. It could still imply a loss of momentum from established outlets and would be a definitive negative if the balance of digital orders keeps slipping in later quarters. For now, the group is reiterating a full-year profit in line with market expectations around £90m, up about 9%. In fact, including the stock’s surge on Tuesday, Domino’s upwards re-rating reduces the margin for error somewhat. The shares now imply a modest beat vs. guidance. Near-redundant mature stores remain the key risk to increasingly optimistic forecasts. The question of whether Domino’s will ever expand its menu more aggressively will also persist.

It helps that international operations are maintaining a slightly faster pace than at home overall, with total system sales in Norway, for instance, up 84% in Q3 and +14.6%, like-for-like. Additionally, the group continues to throw off ample cash, even if its transitional year is set to gobble up 40% of last year’s £78.5m cash flow. That’s still better than arch rival Just Eat, which will continue to burn cash in return for growth for years. Cheaper than Just Eat, which is trading on 41 times next year’s earnings, Dominos is sure to become a taste more shareholders acquire into year end.

Domino’s technical chart suggests buyers hoping to get involved may have to do with scraps for the medium term. The stock has now consumed most available upward momentum in the current leg. Additionally, a sizeable gap that opened up on Tuesday (316p.1p-326.8p) will almost certainly be too tempting a morsel for traders to leave on the table for long. The only real meat we see for bears though would be if consolidation overshoots support around 300p in the near term—a low-probability occurrence in our view. The stock does need to confirm the end of a more than one-year decline off July 2016’s record high. This will be done by overcoming 61.8% of the down move (348.4p). The marker is in close confluence with a range seen in November and mid-December 2016, around 339p to 449p.

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