Papa John's Pizza: It's Time To Make Some Dough

Prior to taking a long term position in a company I like to identify what is "new". I learned this lesson from William J. O’Neil of Investors Business Daily. His rule is to identify what is new at a particular company prior to buying it. Whether it is a new product, new management or what ever strikes you as being a potential catalyst that will make a help propel the stock of a company to new highs.

With Papa John's Pizza (PZZA) that new may have come in the form of the departure of Mike Cortino Sr. VP of Domestic Operations. One may assume that Mr. Cortino’s departure may be a result of PZZA’s earnings report which was released on January 9th. The all important same store sales of the 2,427 franchisee owned stores declined in Q4 2006 by .07 percent while the 588 company owned stores had same store sales that increased by .03 percent. CEO John Schnatter who happens to own more than 6.5 million shares has sent a message to the investment community that he has identified that problem and taken action.

Papa John’s current trades at a forward looking multiple of 17.99 which is just above the lows of its four year PE range of 15 to 30. The company currently has revenue per share of 29.657 and YoY Revenue Growth of 21.2%. Quarterly Earnings Growth has slowed to 2.8% which has not doubt Wall Street wondering if PZZA can continue the spectacular earnings growth.

The company’s shares have corrected some 30% which reflects the premium that had been built into the stock. Its competitor Domino's Pizza (DPZ) trades at a similar multiple of 16.16 yet it has earning growth of 20% on Quarterly revenue growth of -3.20%. What we can conclude from this analysis is that we are near the bottom of this correction. When looking for an entry point I like to identify previous support and draw my support line. In this instance I believe that PZZA could trade to its historical support level of $26.25 per share which would provide an entry point with the best risk to reward.

PZZA/DPZ 1-yr comparison chart

Currently 15.4% of the float are held short. If Mr. Schnatter announces a successor that Wall Street approves, the stage will be set for a short squeeze that will take 8 days to cover using the 10 day moving average. Given the profits already made on the short side I would expect to see some short covering as we near historical support. I would not chase the stock during a short squeeze rally.

For purposes of disclosure we hold no position in Papa John’s Pizza or Dominos Pizza. Although we view the current price of PZZA as reasonable it’s not quite at the bargain basement price we normally like to buy at. We do have PZZA currently on our Buy Watch list and are using historical support at $26.25 as our current entry price.

The bottom line here is this: Papa John’s has stumbled as many great stocks will. Mr. Schanatter who has a vested interest in an expanded stock multiple has taken corrective action. The key now is to have the patience to wait and buy at a price that will provide you with the best risk to reward.

Disclosure: Author has no position in PZZA or DPZ.