Who’s Up for Pizza? Investors!

by Lawrence Meyers | May 11, 2012 10:54 am

I know the Italians invented pizza, but it’s really an all-American comestible at this point. My kids will only eat cheese, but I like mine loaded with extra sauce, super crispy New York-style thin crust, and lots o’ meat.

If I can sprinkle some green on it — in the form of stock market profits from pizza companies — so much the better.

You don’t have quite a wide variety of choices in pizza stocks as you do toppings, but all three might deserve a place in your portfolio.

Domino’s Pizza (NYSE:DPZ[1]) was unknown to me before my days of scholarship at Cornell University. Back then, it was a default choice because nobody else delivered, and the jokes about just putting the toppings on top of the cardboard box were de rigeur. Well, Domino’s has come a long way. It not only makes a decent pizza now (although not like they do back home in NYC), but offers a lot of specialty ones as well.

Domino’s has ever so slightly expanded beyond the college campus, to a mere 10,000 stores across 70 countries. The company sits on $300 million in cash, $1.5 billion in debt, and generated $119 million in free cash flow over the trailing 12 months. Domino’s is looking at 12%-15% growth going out a few years, and trades at a 17x multiple. It’s a bit pricey here, but worth looking at.

Or you might prefer Papa John’s International (NASDAQ:PZZA[2]). After all, it got the cooler ticker symbol. Papa John’s has almost 4,000 stores across 32 countries, and I’ll confess as to never having had a slice of its product.

PZZA has an advantage in that it barely carries any debt ($50 million), so Papa John’s isn’t coughing up the $91 million in annual interest that Domino’s does. PZZA also is generating some very fine free cash flow — $87 million over the TTM. Shareholders also are much more aligned with management’s interests, as insiders own 24% of the company vs. only 6% at Domino’s, although Domino’s has the edge on net margins by about 100 basis points. On a valuation basis, Papa John’s is trading at 20x earnings with the same 12%-15% growth rate, so you are paying up for this slice.

Of course, pure plays are not for the faint of heart. That’s why I always suggest diversified plays, such as Yum! Brands (NYSE:YUM[3]). Yum! owns Pizza Hut, as well as Taco Bell and KFC. Yum! holds twice the debt Domino’s does, yet pays less than twice the interest, and its free cash flow is like an ATM machine gone wild — $1.2 billion over the TTM. However, you also are paying a lot for that cash flow at 15%-16% annualized growth. The stock trades at almost 22x earnings, although it does pay a 1.6% dividend.

I don’t think there are any bad choices here. I think of pizza like I think of oil — the world needs it, the world wants it, and it isn’t going anywhere. In fact, considering that California Pizza Kitchen was taken private, the same might happen to Domino’s and Papa John’s.

The only question is how much risk you want to take in overpaying for any of these stocks, because it’s not like you send back your shares if they mess up your crust.

As of this writing, Lawrence Meyers[4] did not hold a position in any of the aforementioned securities[5]. He is president of PDL Capital, Inc.[6], which brokers secure high-yield investments to the general public and private equity. You can read his stock market commentary at SeekingAlpha.com[7]. He also has written two books[8] and blogs about public policy[9], journalistic integrity[10], popular culture[11] and world affairs[12].

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