Following a global search for a new CEO, Domino's Pizza Enterprises DMP appointed Mark van Dyck. He has extensive experience in the food services business, most recently spending 10 years at UK-listed Compass Group, improving its Japanese business and strategically resetting its Australian operations. Dominos shares have fallen 46% this year as investors have lost confidence in future prospects. 

Why it matters: Incoming CEO van Dyck familiarized himself with Domino's over the past 12 months as an advisor to its board. He brings a fresh set of eyes, with retiring CEO Don Meij spending over 20 years at the helm. Van Dyck appears to have the relevant experience necessary to turn around Domino's underperforming French and Japanese businesses, accounting for about 40% of its global store network. At Compass, the Asia Pacific division doubled underlying growth and increased operating margins by 300 basis points during van Dyck's tenure as regional managing director.

The bottom line: Our fair value estimate for narrow moat Domino's stands at $58. Shares screen as significantly undervalued. We think the market is extrapolating the current weakness and underestimating the massive growth of its global network. Domino's is a high-quality company with a long growth runway. We forecast a 20% earnings compound annual growth rate for the next five years, underpinned by its global store rollout.

Long view: Domino’s sales growth has been volatile, and the share price tends to reflect near-term trading conditions rather than longer-term potential. The near-term earnings outlook is uncertain and hinges on improving store economics. However, we believe the market is overly discounting Domino’s intact and significant long-term growth potential. We forecast the network to approach 6,000 stores by fiscal 2034.

Business strategy and outlook

Domino's Pizza Enterprises is the Australian master licence holder of the Domino's Pizza brand. It also has operations in New Zealand, Japan, Singapore, Malaysia, France, Germany, Belgium, Luxembourg, Taiwan, Cambodia, and the Netherlands. The stock suits investors seeking exposure to the food and beverage sector. Management is active, importing marketing strategies from the United States, or creating new ones, and applying them to local trends in individual markets. Management has adapted to market trends by refreshing the product range, including healthier ingredients and gourmet styles, and transitioning to online ordering.

As a master franchisee, Domino's has limited capital requirements, which means royalty payments it receives in the future should continue to be paid as partially franked dividends. This makes returns on invested capital very attractive. Brand and scale are key competitive advantages warranting a narrow economic moat rating, and future growth prospects are significant. Despite significant growth during recent years, Domino's is by no means a mature business. Australia can still increase its store base by about one third in the next few years, and European growth is much more substantial, with potential to more than double the existing store base to around 2,900 outlets during the next decade.

Risks include a change in consumer taste for pizza as a food category and growth execution risk, particularly with differences between Australian, Asian, and European business environments. Good management can navigate these changes. McDonald's modified its menu in response to an increasingly health-conscious society; we see this as a perfect example of a food business changing with the times.

Moat rating

Domino’s enjoys a narrow economic moat, sourced from intangible assets and cost advantages. Master franchise agreements in regions including Australia, France, Germany, and Japan give Domino’s Pizza Enterprises the exclusive rights to the Domino’s brand – an intangible asset, in our view. These MFAs are long-dated, with Europe and Japan agreements extending beyond 2040. While the Australian MFA expires sooner, in 2028. We are confident this will be renewed, with Domino’s having owned the license since 1998.

A moat-worthy brand in the quick service restaurant industry permits better-than-average price increases or traffic gains, defending its operator’s profitability during periods of inflationary pressure. On this metric, Domino’s has a favorable track record, notwithstanding some challenges in recent years. In the core Australian market, same-store sales have grown 5% per year on average in the 10 years to fiscal 2024, ahead of minimum wage and Consumer Price Index growth of 3%. In Japan, a same-store sales growth of 3% per year has outstripped inflation at 1% over the past decade. We see a similar outperformance across European markets. While menu pricing missteps, overexpansion, and cyclical pressures have recently dampened returns, we see these as temporary factors. Even so, a franchisee cash-on-cash payback period of around four years is at the lower end of the four-to-six-year industry average. Over the next decade, we forecast returns on invested capital average 16%, easily exceeding our 9% weighted average cost of capital assumption.

Intangibles also stem from internally generated intellectual property, including restaurant logistics and technology tools that build and maintain customer engagement and loyalty. Technology innovation improves convenience and quality, key drivers of NPS and hence same-store sales growth. The technological platform is shared globally and spans: a digital loyalty program enabling electronic redemption of "reward pizzas"; electronic customer profiling; geotracking of pizza being delivered to homes; and customer geotracking to have pizza ready just as they enter the store. Other innovations include high-speed ovens and a re-engineered fulfilment process that appear best-in-class. Detailed monitoring of every aspect of the ordering, cooking, fulfilment, and deliver processes means bottlenecks and downtimes are minimized, enabling Domino’s to offer faster delivery times than competitors. Delivery times in Australia average 20 minutes, with the largest competitor, Pizza Hut, reportedly sitting at around 30 minutes.

We see durable cost advantages in advertising, as Domino’s gains far greater leverage from above-the-line advertising than smaller peers. Being one of the largest operators in each market means the firm can advertise at a lower average cost per outlet than smaller competitors, keeping the brand top of mind for consumers. High brand awareness, longer trading hours, and sophisticated home delivery capabilities result in highly productive restaurants. This enables the firm and franchisees to rent stores in better locations than less productive smaller pizza restaurants. The firm's large network also gives it cost advantages in the procurement of consumables versus independent competitors, and provides closer proximity to customers, thereby improving convenience.

We view consistent market share gains, albeit assisted by acquisitions of other pizza chains and minority partner stakes, as evidence of Domino’s brand strength and cost advantage. Share of total Australian foodservice sales, including full-service and QSR dining, increased 1.3 percentage points in the 10 years to 2023, to 2.3%, per Euromonitor data. Over the same period, Domino’s took roughly 30 basis points of market share in both Japan, to 0.4%, and in France, to 0.7%. In Germany, share increased to 1.1%, from a negligible presence 10 years ago. We expect Domino’s to continue to take share in its core markets, largely at the expense of independent QSRs.

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Terms used in this article

Moat Rating: An economic moat is a structural feature that allows a firm to sustain excess profits over a long period. Companies with a narrow moat are those we believe are more likely than not to sustain excess returns for at least a decade. For wide-moat companies, we have high confidence that excess returns will persist for 10 years and are likely to persist at least 20 years. To learn about finding different sources of moat, read this article by Mark LaMonica.

Fair Value: Morningstar’s Fair Value estimate results from a detailed projection of a company's future cash flows, resulting from our analysts' independent primary research. Price To Fair Value measures the current market price against estimated Fair Value. If a company’s stock trades at $100 and our analysts believe it is worth $200, the price to fair value ratio would be 0.5. A Price to Fair Value over 1 suggests the share is overvalued.

Uncertainty Rating: Morningstar’s Uncertainty Rating is designed to capture the range of potential outcomes for a company. An investor can think of this as the underlying risk of the business. For higher risk businesses with wider ranges of potential outcomes an investor should consider a larger margin of safety or difference between the estimate of what a share is worth and how much an investor pays. This rating is used to assign the margin of safety required before investing, which in turn explicitly drives our stock star rating system. The Uncertainty Rating is aimed at identifying the confidence we should have in assigning a fair value estimate for a stock. Read more about business risk and margin of safety here.

Star Rating: Our one- to five-star ratings are guideposts to a broad audience and individuals must consider their own specific investment goals, risk tolerance, and several other factors. A five-star rating means our analysts think the current market price likely represents an excessively pessimistic outlook and that beyond fair risk-adjusted returns are likely over a long timeframe. A one-star rating means our analysts think the market is pricing in an excessively optimistic outlook, limiting upside potential and leaving the investor exposed to capital loss.