Domino's Pizza, Inc. (NYSE:DPZ) Q2 2023 Earnings Call Transcript July 24, 2023
Domino's Pizza, Inc. misses on earnings expectations. Reported EPS is $2.82 EPS, expectations were $3.05.
Operator: Thank you for standing by, and welcome to the Domino's Pizza's Second Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions] As a reminder, today's program is being recorded. And now, I'd like to introduce your host for today's program, Mr. Ryan Goers, Vice President, Finance, Investor Relations. Please go ahead, sir.
Ryan Goers: Good morning, everyone. Thank you for joining us today for our conversation regarding the results for the second quarter of 2023. Before we begin, I would like to announce that we will hold our Investor Day on December 7, in Ann Arbor, Michigan. Chief Executive Officer, Russell Weiner, and the entire Domino's leadership team look forward to hosting you at our headquarters. Today's call will feature commentary from Russell and Chief Financial Officer, Sandeep Reddy. As this call is primarily for our investor audience, I ask all members of the media and others to be in a listen-only mode. I want to remind everyone that the forward-looking statements in this morning's earnings release and 10-Q also apply to our comments on the call today.
Both of those documents are available on our website. Actual results or trends could differ materially from our forecast. For more information, please refer to the risk factors discussed in our filings with the SEC. In addition, please refer to the 8-K earnings release to find disclosures and reconciliations of non-GAAP financial measures that may be referenced on today's call. I request to our coverage analysts, we want to do our best this morning to accommodate as many of your questions as time permits. As such, we encourage you to ask only one one-part question on this call. Today's call is being webcast and is also being recorded for replay via our website. With that, I'd like to turn the call over to our Chief Executive Officer, Russell Weiner.
Russell Weiner: Well, thank you, Ryan, and good morning, everybody. I'm going to open today with some brief remarks regarding our current focus and the momentum we're creating here at Domino's Pizza. Sandeep will then provide a high-level overview of our quarterly financial performance, followed by ample time for your questions and discussions. We are executing our plan to restore delivery growth here in the United States. Efforts to improve service and staffing and drive value and innovation will continue to make a difference, driving order counts in this important segment of our business. Our delivery service levels ended Q2 nearly two minutes better than Q2 of last year. And with the agreement we recently announced with Uber Eats, Domino's will benefit from a large and growing cohort of delivery customers.
We believe these transactions will be incremental and provide a meaningful increase in the number of customers who leverage the Domino's delivery experience. Domino's delivered one out of every three pieces in the U.S. prior to our decision to compete in the aggregator marketplace. According to Circana, aggregator sales for delivery among U.S. quick-serve pizza restaurants has grown to almost $5 billion for the 12 months ending May of 2023. We plan to get our fair share of this market over time. The opportunity represents over $1 billion in incremental sales for our U.S. business. And our research indicates that most of the transactions we gain from participating in this segment will be incremental customers and sales. This has also been supported by what we've learned from our Domino's Pizza international master franchisees who've already developed $1 billion business taking orders from aggregators.
We have here at Domino's a common sense process for making business decisions. We ask ourselves this important question: "Is it the right thing to do for the long-term growth of our brand and the business?" Our extensive evaluation indicates that by participating in the aggregator marketplace will drive net incremental orders over the long term by tapping into a new group of consumers. In addition, our contractual agreement has secured the protection that we require to maintain control over our customer data and assess the incrementality of the platform. And most importantly, orders placed through the Uber Eats platform will be delivered by Domino's delivery experts. So, we're excited to begin accepting orders through the Uber Eats channel later this year and look forward to reporting the results of this important growth initiative.
Successfully executing an aggressive plan to get our fair share of the scaled pizza distribution channel isn't new to us. We approached the carryout pizza segment in a similar manner back in 2011. Carryout pizza was a smaller percentage of our business before we took thoughtful aggressive action. And today, our carryout business is almost $2.5 billion larger than it was in 2011, making Domino's the number one carryout pizza brand in the U.S. Despite this impressive growth, our current aspiration is to drive our carryout market share even further to at least the same market share we enjoy in pizza delivery today. We need to earn an additional 10 points of market share to reach our fair share in the carryout segment, and this 10 points represents about $2 billion in additional retail sales.
Outside of the U.S., Domino's and Uber Eats operate in 27 of the same markets. Our new global deal has the potential to bring Uber Eats' customers to 70% of Domino's stores around the world with improved economics for our international franchisees. Next, I want to talk about another important initiative for us, the new and improved loyalty program that we'll be launching in the U.S. in September of this year. The program will reduce the requirements to earn and redeem loyalty points. This will positively impact our carryout customers as well as help us retain our current and new delivery customers. Finally, we have two exciting innovations that are coming to the U.S. market in the third quarter; this keeps with our stated intention of increasing the pace of innovation.
We launched Domino's Pinpoint Delivery in late June. Delivery innovation, as you know, is the core of who we are, so we're thrilled to give customers this new delivery option by allowing them to receive their order nearly anywhere just with the drop of a pin on our app. And in late August, we're going to launch Pepperoni Stuffed Cheesy Bread. Pepperoni Stuffed Cheesy Bread follows the successful launch of Domino's Loaded Tots, and it is delicious. It brings news to our Stuffed Cheesy Bread platform, which was launched over a decade ago. The stuffed cheesy bread line is a significant part of our menu mix and provides a healthy margin for franchisees. My message to you today is more; more sales in both carryout and delivery, more ways to reward customers with our new loyalty program, and more innovation, both technology and product-related.
We will drive orders with innovation and value, we'll tap into those incremental marketplace as I talked about, and then we'll bring customers back with best-in-class service and a new and improved loyalty program. This is our go-forward plan at Domino's Pizza. Our momentum will build starting in Q4 and will significantly impact the performance of our business in 2024 and beyond. As important, this momentum should drive continued EBITDA growth for franchisees. Our Mix & Match offer at $6.99, remains a strong value for customers and has helped our franchisees accelerate store-level profitability through Q2. That profitability is higher than it was this time last year despite inflationary headwinds. And I expect it to continue to grow as a result of the sales building initiatives I just outlined.
So, there are many exciting things underway here at Domino's Pizza. And now for an overview of our Q2 financial results, I will turn the things over to our CFO, Sandeep Reddy.
Sandeep Reddy: Thank you, Russell, and good morning to everyone on the call. I'll begin with updates on our actions to drive the long-term profitability of Domino's and our franchisees. First, pricing. During the second quarter, the average price increase across our U.S. system was 3.9%. We expect average pricing to be similar in the third quarter before moderating in the fourth quarter to approximately 2%, when we left the carryout Mix & Match pricing change from October 2022. Second, cost efficiencies as we continue to drive margin recovery. We drove improvement in our operating income margin, which grew by 240 basis points versus Q2 2022. This was despite foreign exchange rates having a 15 basis points negative year-over-year impact on operating income margin during the quarter.
We now expect full-year operating income margins in 2023 to reach or exceed 2019 levels. Third, positive same store sales growth excluding foreign currency impact in our U.S. and international businesses for the third consecutive quarter drove operating income improvement. Now for our financial results for the quarter. Excluding the negative impact of foreign currency, global retail sales grew 5.8% due to positive sales comps and global net store growth. U.S. retail sales increased 1.7%. International retail sales, excluding the negative impact of currency, grew 10.1%. During Q2, same store sales for the U.S. business increased 0.1%. The increase in U.S. same store sales was driven by a higher average ticket, including the pricing actions I mentioned earlier, partially offset by order count declines.
Our carryout business remained strong in Q2, with same store sales plus 5.6%, rolling over a plus 14.6% performance in 2022. The U.S. delivery business continues to be challenged. Q2 delivery same store sales declined 3.5%, rolling over a minus 11.7% in Q2 2022. We expect Q3 same store sales trends in our delivery business to be challenged similar to Q2. However, we expect a slight improvement in trend in Q4 as our updated loyalty program begins to roll out, followed by a considerable improvement in 2024 as a result of transaction growth from our Uber Eats partnership and other initiatives Russell has shared with you. Shifting to unit count. We added 27 net new stores in the U.S. with 30 store openings and three closures, bringing our U.S. system store count to 6,735 stores at the end of the quarter and our four quarter net store growth rate in the U.S. to 1.8%.
Domino's unit economics remain strong with continued EBITDA growth for our U.S. franchisees. We are on track to deliver average U.S. franchised store profitability of at least $150,000 in 2023. Moving to international. Same store sales in our international business, excluding currency impact, increased 3.6%. Our international store count increased by 170 net new stores, comprised of 223 store openings and 53 closures. Closures were driven by the closure of the Denmark market, closures in Brazil as our master franchisee there continues to optimize its store base, and some closures in Russia where the master franchisee has indicated an intention to exit the market. Domino's Pizza Enterprises, one of our publicly-traded master franchisees, recently disclosed their intention to close an additional 65 to 70 underperforming stores.
This will likely occur during our third quarter. These reductions in underperforming stores will pull down our net store growth rate in the upcoming quarter and for the full year. However, our new store builds in international continued to be robust and we anticipate returning to our full-year run rate of net store growth in 2024, once these store closures are behind us. Our additional 170 net stores brought the current trailing four quarter net store growth rate in international to 6.3%. When combined with our U.S. store growth, the trailing four quarter global's net store growth rate was 4.7%. We now expect our 2023 global retail sales growth to track between the low end and midpoint of our two to three year outlook of 4% to 8%, driven by stronger international same store sales.
And we continue to expect our 2023 global unit growth to track to the low end of our 5% to 7% two to three year outlook. Despite strong gross openings, we will be pressured by international store closures this year. Since these closures will be underperforming stores in certain challenged markets, this is not anticipated to materially impact the financial benefit of our new international store openings. Finally, the capital structure update. A debt leverage ratio of 4 times to 6 times is the appropriate leverage for our company and moves within the range depending on the level of interest rates. We have operated with this range of leverage for almost 20 years. In today's interest rate environment, you should expect us to use our free cash flow to make investments to grow the business, create strong shareholder returns through our dividend and share repurchase strategies and retire debt when it's in the best interest of our shareholders for us to do so.
As always, we will be opportunistic if credit markets warrant additional borrowing or refinancing. Thank you. We will now open the call to questions.