Let's set aside for a moment that people think that an IPO is a failure if it doesn't generate some big rise on the first day of trading. That's complete and total silliness. The purpose of an IPO is to raise money for the company. Period. Those dot-com-era fivefold increases on the first day: not good things. Seriously, how many of those big risers are still around at all?
At the same time, a stock closing down on its first day of trading is a pretty grim sign. That's what happened yesterday with Domino's Pizza (NYSE:DPZ), the country's largest pizza-delivery company. The company offered 24.2 million shares at a price estimated to be $15 to $17. Anemic demand led the investment banks managing the IPO, J.P. Morgan Chase (NYSE:JPM) and Citigroup (NYSE:C) to drop the offer to $14. Once the stock opened yesterday, it never reached $14 again, closing at $13.50. It's scurrying even lower in trading today.
Domino's is an institution, just like Krispy Kreme (NYSE:KKD), UPS (NYSE:UPS), and Goldman Sachs were when they came public after long histories as private companies. But there are a few elements that made investors deeply disinterested in Domino's at the price points offered. And no, it's not because Domino's franchises in India call Buffalo wings "Chicago Wings" to keep from disrespecting the religious stature of the cow among Hindus. (OK, people from Buffalo, save your email. I know, I know.)
First and foremost, investors saw Domino's IPO for what it was; not a growth company's capital raise for growth, but rather a vehicle to allow the largest shareholders, Tom Monaghan and Bain Capital, to cash out. Of the 24 million shares offered, the company only sold 9 million; the remainder came from these and other investors. Monaghan, Domino's founder, sold his controlling stake to Bain in 1998 and only held 6.3% of the company. After the IPO, he now holds .8%. If the founder uses a public offering to dump substantially his whole position, then why in the world should outside investors get excited?
Further, once Bain Capital took over, it didn't exactly treat the balance sheet with love. In 2003, Bain recapitalized the company's balance sheet, puffing up its debt to more than $940 million. This allows for the owners to cash out their stakes by replacing a large amount of equity with debt.
What this means, though, is that Domino's, which hasn't delivered much in the way of growth in the last several years, has a big debt load that it has to service -- its debt service payments in 2003 exceeded its net income. Debt that serves the purpose to leverage growth, even if it is a large amount compared to equity, can be useful when a company is growing. In Domino's case, it's just a lump, sorta the way too many slices of pizza feel in your belly.
Domino's has more than 90% of its revenues in the U.S., though it has a global presence. With the competition it has domestically from Papa John's (NASDAQ:PZZA), Yum! Brand's (NYSE:YUM) Pizza Hut, and other delivery options in what is a well-saturated market, perhaps Domino's best potential for growth comes from overseas. Spiking raw material costs also bedevil the company, lowering its gross margins. This isn't a sick business by any stretch, but it has been pretty clear that most investors saw through its motivation for going public.
For more coverage of Domino's and its competitors, see:
- Topping Domino's by Rick Munarriz
- Papa John's Russian Roulette by Rich Smith
- Pizza Toss-Up by Rick Munarriz
Bill Mann owns none of the companies mentioned in this story. Papa John's was a watchlist stock for Motley Fool Hidden Gems. Wanna see what else Tom Gardner's got in the oven? Subscribetoday!
