Papa John’s Pizza by Michael Suchy & Eric Utne

How We Found Papa John’s Taking a bottom-up approach, we ran a stock screen using a minimum 15% ROE, 1 year and 5 year 15% earnings growth and a maximum market cap of $5 billion. Papa John’s fits the client’s portfolio objectives like a glove. It is a growth company with a market capitalization of only $750 million.

Company Background In 1985 current CEO John Schnatter opened opened the first Papa John’s restaurant in Jeffersonville, IN. In 1986, the first Papa John’s franchise was opened. The company went public in In 1997 Frank Carney, co-founder of Pizza Hut, teams with Papa John’s to become a major franchisee of the company.

Background Continued In 1999 Papa John’s had operations in 47 states, the District of Columbia, and five international markets such as Mexico and Puerto Rico. At 1999 fiscal year end, there were 2,280 Papa John’s restaurants in operation; of these, 573 were company owned. Through the acquisition of Perfect Pizza Holdings Limited in the U.K., Papa John’s increased its international presence by an additional 206 stores, 12 of which are company owned.

Background Continued Papa John’s Board of Directors has authorized the repurchase of $150 million worth of common stock through December 31, The share repurchase will be funded through existing cash and investments, operating cash flows, and a $100 million line of credit. The Board feels that Papa John’s shares are currently trading at a deep discount.

How Papa John’s Makes Money Roughly 50% of all Papa John’s revenue comes from sales of menu items at company owned restaurants. About 6% of revenues come from franchise royalties, franchise fees, and development fees. 40% of Papa John’s revenues come through commissary sales to both company and franchised stores. The remaining revenues come from equipment and other sales.

The Secret to Their Success Papa John’s has experienced phenomenal success by doing what they do best: Making Pizza. The only items Papa John’s offers on its menu are pizza, bread sticks and cheese sticks. The company prides itself on the use of only the finest ingredients including fresh dough (not frozen), 100% real cheese, and canned, vine-ripened tomato sauce (not concentrate). The company only offers carry-out and delivery service, allowing the focus of each store to be solely concentrated on making their products.

American Customer Satisfaction Index

2000 R&I CHOICE IN CHAINS

Don’t Fear Pizza the Hut On August 12, 1998, Papa John’s was sued by its largest competitor, Pizza Hut, Inc. Pizza Hut claimed that the slogan “Better Ingredients. Better Pizza.” constitutes false and deceptive advertising, a violation of the Lanham Trademark Act. On January 3, 2000 the United states District Court for the Northern District of Texas found Papa John’s guilty as charged and ordered Papa John’s to cease use of the slogan in all its advertising. The costs incurred during litigation and complying with the court order are estimated at $12 - $15 million, of which $6.1 million was charged against 1999 pre-tax earnings.

However…. Papa John’s has appealed the decision, and oral arguments pertaining to the appeal have begun this month. If the appeal is successful, costs due to the trial should be impacted favorably. We believe that Pizza Hut’s suit was a defensive tactic to combat Papa John’s astonishing growth. We also believe that Papa John’s chance for a positive outcome in the appellate court is likely because the slogan is merely puffery, and doesn’t constitute a violation of any laws.

Where Does the Papa Go From Here? Papa John’s is a growth company, and it plans on living up to its classification. The company plans to open 35 more company restaurants this year and acquire from 60 from existing franchisees. Additionally, the company expects franchisees to open nearly 375 restaurants new restaurants this year.

Domestic market expansion is planned for the upper Northeast Coast, West Coast and Rocky Mountain regions. The company also plans on further penetration of existing markets in the U.S. Internationally, Papa John’s is focused on Mexico, Puerto Rico, Venezuela, Costa Rica, Guatemala, Saudi Arabia, Canada, Iceland and the United Kingdom. Regarding expansion in the U.K., restaurants may be opened under the name of either Papa John’s or Perfect Pizza, but within three years all of the Perfect Pizzas will converted to Papa John’s stores.

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Recent Stock Info Last Trade:$29 52 Week High:$45 52 Week Low:$21 P/E Ratio:18.74 Beta:1.00 Market Cap:$734.4M

In Conclusion….. Papa John’s is a relatively small growth company that fits the investment policy statement like a glove. The company has a superior product and more focused strategy than its competition. The company has been reporting positive financial results since its inception, yet is currently undervalued.

So we recommend…. Buying 400 shares at the market. This strategy gives us the opportunity to get are feet wet with the company without committing the maximum dollar amount.