To the
CEO of Domino’s Pizza
Mr. David Brandon
Dear Mr. Brandon,
Domino’s earning announcement yesterday was a bit discouraging:
Net income was down 55.2% for the third quarter
and:
Net income was
negatively impacted versus the prior year by increased interest expense as a
result of higher borrowings under the Company’s new debt facility.
Additionally you said :
"The price increase in the pizza category .. was not implemented fast enough by [the] U.S. franchisees, who also faced lower store traffic"
Let me start with the implementation issue:
Printing new menus with higher prices takes some time and, with such slow franchisees, may not be rapid enough to keep up with the desired price increases.
Back in 1923 my German ancestors had a similar problem and developed a nifty solution. When the Reichsbank found that the paper of the freshly printed one-thousand Mark note had gained a higher value than the note’s denomination, they simply ordered the printshops to add the line ‘Eine Milliarde Mark’ (one billion mark) without reprinting the original bill.
Likewise, Mr. Brandon, you could advise these slow franchisees of yours not to reprint the complete menus, but to simply overwrite those numerics following the $ signs. That’s a quick solution for timely price increases and may prevent another 55% drop in profits.
On the issue of the higher borrowings that led to increased interest expense and lower profits I am a bit confused. Borrowing to buy what?
I’ll come back to this point.
Afore let’s look into the decision to buy-back $200 million worth of the companies own public stock.
So far the company spent $18 million for buy-backs, paying an average price of $17.08 per share. Given the current share price of $14.63 that’s a loss of some $2.7 million. Was that somehow unavoidable?
There are 63 million Domino’s shares left in circulation. The unsettled part of the buy-back will eliminate another 12 million of these ($182m / $14.63). If the company value stays constant, the ~20% decrease of share float will result in a share price increase to some $19.40 per share.
Mr. Brandon, you own some 1.16 million (FY 2006) of (yet unexercised) options of Domino’s shares to be vested at a fixed price. The buy-back, done by the company under your command, will increase your personal wealth by about $5.500.000.
Good to know that you are diligently working in the shareholders interest.
On to those higher borrowings. I am not entirely comfortable with these:
- What exactly is the company buying with the additionally borrowed money?
- If the company would borrow less, could it not avoid those higher interest payments that are lowering profits?
- How would this effect the product pricing?
Which leaves the problem of lower store traffic. My first hunch is that this has something to do with the customers value proposition.
Maybe there is a lack of olives on Domino’s products? I am sure your new expensive creative agency, Crispin Porter + Bogusky, will be able to thoroughly analyse this issue. On a second thought – could the new prices be relevant to the customer?
Pondering the above one might suggested that:
- your company borrows for generally unprofitable share buy-backs
- the short term beneficiaries of buy-backs are option owners, primarily you and the board members
- the increased debt raises costs and lowers profits
- to keep profits up prices were raised, but the implementation of this was lacadaisical
- the price increase resulted in less sales, further lowering profits
- the scheme endangers the long term health of the company
But that custom-made suit really looked good on CNBC.
With best regards
Ascrew D. in Vestor