Domino's Japan expansion overshadows lacklustre results

Its “game changer” pizza campaign may have backfired in spectacular fashion a few months ago, but Domino's (DMP) has set investor hearts aflutter this morning with its surprise incursion into Japan.

Overshadowing a somewhat disappointing earnings announcement – which Eureka Report had flagged two weeks ago in Small cap prophets: A profit season guide – the company will purchase a 75% interest in Domino's master franchise in Japan for more than $235 million which, by its own estimates, will deliver 9% earnings a share growth.

Given the concerns about Domino's growth potential on the domestic market, the purchase is a smart move. The Japanese economy is in recovery, the yen is weak, pizza is growing food category and Domino's is a recognised and expanding brand.

The purchase – from Bain Capital Partners – will be financed through a combination of debt and new equity via a highly unusual 5 for 23 rights issue, priced at $10.20. That’s about 13% below yesterday’s closing price of $11.82.

Domino’s Pizza Enterprises, the Australian entity, will assume operational control but management of Domino’s Japan, led by 25 year veteran Scott Oelkers, has agreed to stay. Bain will retain a 25% stake.

Domino's Japan has 259 stores, only 41 of which are franchised, and Domino's local boss Don Meij has outlined an ambitious target to lift the total number of stores to 600 in the “long term”.

The purchase will lift Domino's Australia store numbers to 1,200. With the Australian dollar expected to continue sliding during the next 12 months, the purchase has been well timed, particularly given the yen has dropped sharply since Shinzo Abe’s radical monetary stimulus began earlier this year.

Domino’s has been something of a darling in recent years given its phenomenal dividend. The company announced a 30.9c final dividend this morning, taking the full year total to 73.7c and delivering more than a 6% yield.

But the result itself was underwhelming and fell well short of expectations. Growth may have been double-digit, but net profit after tax growth of 13% to $28.7 million was well below the anticipated 15% growth. It was a similar story on earnings before interest, tax, depreciation and amortisation which, while up 16%, was expected to grow 21%.

The Japan expansion should lift the growth trajectory.