Domino's Pizza, Inc. (NYSE:DPZ) has been on a tear over the past year putting up some solid growth numbers and handily outperforming its rivals. The company has been growing both the top and bottom lines with the most recent earnings report showing quarterly YoY revenue growth of over 8.5% and earnings growth over 6.2%. These are nice numbers to see as we go into an earnings season that is widely expected to produce generally disappointing results and investors furiously seek something positive to hold onto.
DPZ isn't just enjoying a randomly good quarter of earnings, it's also a superior business operating in the consumer discretionary space that continues to benefit from low gas prices. With Saudi Arabia, the largest oil producer in OPEC, recently announcing that they will continue to produce oil at high levels despite the global over-supply, prices continue to decline. The more oil prices decline the more consumer discretionary spending increases. In fact, research shows that consumers in America spend up to 80% of their gas savings and the largest portion of this money is spent at restaurants. It is estimated that the average American spent over $2000 a year on gas before the decline in prices over the past year. If the statistic above is true that we spend 80% of our gas savings and most of that goes to restaurants, then the average person is spending over $1000 year at restaurants, a substantial figure.
With a total market cap of only $6 billion, DPZ has a lot of room to grow, which looks probable considering its recent results, which have largely been driven by its excellent website that makes it very easy for customers to place orders and increases the company's efficiency. So not only is DPZ performing well on its own and expanding aggressively, but it is doing so in an industry that is also continuing to expand with no end in sight. DPZ's 8.40% profit margins, which may seem relatively low for the casual observer, are actually more than double the average of 3% for the restaurant industry.
While the 1.18% dividend isn't much, it's still cash flow and with a payout ratio of only 37% it will likely be raised going forward. This cash flow has become even more important in the current market environment with a return to volatility and increased fear. Dividend paying stocks will outperform as they have historically done when the market declines as conservative investors seek the safety of dividend paying stocks, which bolsters them further and provides an earlier floor than most equities in the market when they eventually rebound. In other words, they are defensive in nature, which is the correct strategy for investors trying to preserve capital during a period of uncertainty.
The only concern with this stock is its valuation. Trading at around 27 times forward earnings, it looks a little expensive. But not many companies outside the tech space are growing at such a fast pace and trading under 30 times earnings. Starbucks (NASDAQ:SBUX), which is growing only slightly faster than DPZ trades at 32 times earnings and has roughly the same yield. But SBUX is being heralded by analysts and investors as a top pick even though it trades at a higher valuation than DPZ and both are in the consumer discretionary space even if they don't compete directly. That being said, Goldman Sach's recently upgraded DPZ to "buy" with a price target of 139, which represents over 20% near term upside from current levels.
In conclusion, as gas prices remain low there will be continued increasing sales in the restaurant sector, which DPZ is benefiting from directly. The brand is clearly resonating with consumers based on recent growth and there is no reason to expect this will not continue. The fundamentals are solid and there is a small dividend to boot. Finally, with a valuation even lower than a comparable growth stock in SBUX in the same sector, DPZ looks like a buy here.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.