Papa John’s Stock Moves Forward on Improved Outlook

Papa John's

An article promoting the virtues of leading pizza restaurant Papa John’s just ran on professional investor site SumZero.com. Has this info been priced in already?

Pizza maker Papa John’s is certainly a household name, as the company has spent a lot of money over the years making their presence known. Papa John’s is also a true rags-to-riches story. It got his start in 1984, when company founder “Papa” John Schnatter sold his car and used the money to buy $1600 of used pizza equipment.

He was allowed to remodel a closet at his father’s tavern, and sold his pizza to the tavern’s customers. His pizza proved to be a hit, and a year later he was able to set up his own shop next door. Papa John created several dipping sauces for the crusts and this was also a hit.

The company continued to grow and by 2003 they had gone public. They hit 500 restaurants the next year, and this has now grown to over 5.300, making Papa John’s the fourth largest pizza location in the U.S., behind only Pizza Hut, Dominos, and Little Caesars.

Schnatter no longer runs the company, being ousted as CEO, although he did manage to turn that original $1600 investment into a personal fortune now worth over $800 million.

Papa John himself ended up becoming a real liability to the company, starting with his criticism of the NFL during the time where several players refused to stand up during national anthems in protest. At the time, Papa’s was the official pizza of the NFL, and therefore siding against the league on this issue did not endear him to the NFL and this sponsorship came to an end.

The company fired him as CEO to control the damage, which actually got worse as Schnatter later was quoted using the n-word and even tried to defend himself by pointing out that Colonel Sanders often used the word as well. These things did not endear Papa John with a lot of the public, both the man and the company he represented, and the backlash and boycotts that ensued hit the company pretty hard.

It’s been almost 2 years since Schnatter was fired as CEO and stepped down as chairman. Leading up to this, the stock had already given back more than a third of its value from its peak in December 2016 when it came pennies away from $90. 2018 wasn’t a very good year either, post Papa, with the effects of the bad press and the boycott weighing even more heavily on the pizza company. The stock went from bouncing around the mid to high 50’s at the time of Papa’s ouster to break below $40 by year’s end.

2019 has been a better year in some areas at least, which started by seeing active hedge fund Starboard Value, who had turned around the Olive Garden, getting involved with a $200 million investment. A new CEO was appointed, and the company also hired former NBA superstar Shaquille O’Neil as spokesman, which was done to try to smooth over all the ill feelings that many still had against the company.

During the spring of 2019, things started looking up enough to get the stock close to $60 again, but the rally was short-lived, and by mid-August they were back down to $43. The rally since is still going on and this one looks like it might have a better chance of sticking, especially since they just took out the high of August and are now above $60 per share for the first time and are now up a very impressive 55% year to date as of Friday’s close.

Papa John’s Has Really Been on the Move Up Lately

Most of this gain has been over the last 3 months, with the stock up 44% over this brief period of time. From a trader’s perspective, this was a great time to enter, when it bounced off resistance once again. The tendency for the stock to rebound together with the improvements in business that the SumZero article discusses, and the fact that it has bounced very nicely off this level the previous two times it has been there lately made this trade even more tempting, and it has delivered once again.

Regardless of whether Papa John’s stock can go any higher right now, this has been another very profitable trade for those who were able to get most of this move. This one was better telegraphed than most dips and one where you could get in very close to the bottom with enough confidence, with a pretty tight and reliable stop.

Reading SumZero’s recommendation and looking at the chart would have traders wishing that they were in the stock much earlier, but at this point, getting in now would certainly be chasing it. We need to be wary of profit taking here and the upside right now is nowhere near as big, and it may now be seen by traders at least as a bridge too far.

The reason why it might be is that traders aren’t going to want to be around once the rally ends, and even though traders want to be out quick, you still need to give it at least some room to play a move like this. This downside tolerance represents the risk for the trader, and the upside needs to be big enough to justify taking this risk.

This doesn’t mean that this move isn’t tradeable even this far along, but the problem is that we would need to set our sell signals fairly tight and tighter than we would probably want in order to take a shot at this, which increases the risk of our getting bumped out by noise and the stock then moving up without us. This translates to this being a trade more suited to traders with well above average skills.

SumZero’s target is only $4 away, although this is a target over a longer period of time than a many traders would use, who aren’t interested in riding something up and down towards a destination like that, as we’d need to go straight there and also be able to deduct the slippage we are building in from the top to where we exit as we wait to see if it will go even higher.

The target of $65 has a shelf life of 6 months to a year, so this might require some patience to achieve.

When we look at the entire picture, Papa John’s is on the way back but they still have a way to go to restore their former glory and go for more. The $90 level that it was once at may tempt us, and they may indeed get back there, but that time isn’t now and may be a couple of years away at least.

Papa John’s Outlook Genuinely Has Improved

When we invest though, we want to play stocks that have what we could call fundamental momentum behind them as well as price momentum, which means that things are getting better and this improved outlook is finding its way into the stock price. As things continue to improve, the thinking is that this further improvement will also get priced in, and a company’s business improving without the stock market loving it or even liking it is what we really want to avoid.

This is where a lot of fundamental analysts miss the boat, as if the market doesn’t believe or care about where they think the company is headed, it won’t head there. We need both going on, but with Papa John’s, we do.

It is fair to say that all of the plusses that SumZero mentions, in considerable detail at that, is already priced into the stock, and this is how these things work. You won’t scoop anyone by looking at the past and sticking your thumb into the air, but if you are confident enough that these trends will continue, you can certainly capture the future value this creates, which is what higher stock prices in the future end up capturing.

The article mentions such things as the company faring better on social media, which is an even bigger deal given the level of animosity that they had to endure. That’s a clear plus, as is having Shaq on board, but what really matters is how their bottom line is trending, and it really is all about the bottom line when it comes to company fundamentals.

In spite of the stock suffering in 2017, earnings per share increased again, to $2.86, but 2018 was a different story. Papa John’s didn’t lose money that year, but they almost did, only earning a nickel a share.

The third quarter hasn’t been kind to Papa lately, and they just reported their earnings earlier in the week and lost 10 cents a share, which was at least an improvement over the 42 cents per share that they lost in the third quarter of 2018. They made 15 cents in the second quarter, and lost 12 cents in Q1, so thus far this year we have a net loss of 7 cents per share.

There is still a quarter to go to at least try to beat last year’s tiny profit per share, although if we remove the charges for special items, we end up with a profit of 21 cents a share for Q3, which may bode well for final quarter performance.

SumZero also sees Papa’s margins continuing to improve, as a result of their cost-cutting. The costs have presumably already been cut though, or at least mostly, and we’re still a way off from the 20% that they used to enjoy, so some of this margin loss at least seems to be more persistent and more difficult to manage, if at all.

The company getting a new CEO, Rob Lynch, former president of Arby’s, is also mentioned as a plus, and it’s hard to argue against this. Lynch brings more optimism to investors and we are already starting to see progress made, in both the business improving and investors showing more confidence in this continuing.

Being up 44% in 3 months won’t scare a lot of investors away, as 3 months is only a short time compared to the years that many investors wish to hold something for. Still though, getting in earlier would definitely have been better if they are looking to enter now, but this still might work out pretty well if things continue to get better with the restaurant.

SumZero does express some concerns about all of the new restaurants that have been brought into the delivery game with services such as Uber Eats and Grubhub, and given that Papa lives and dies with delivery, the greater competition with delivered restaurant food could pose a real problem.

It’s likely that pizza will continue to maintain a strong market share of the delivered food business, and it’s not that we don’t have a saturation of this new competition already, and Papa has continued to stand tall, and is even standing a little taller now in the face of this concern.

Even though we may wish that we invested in this stock in the earlier stages of this rally, missing out on several years of returns for the average stock in a very short time, it still may not be too late from a longer-term perspective anyway. If things go well, they may indeed break $90 this time, in time that is, and be poised to deliver at least good returns beyond that.

Robert

Editor, MarketReview.com

Robert really stands out in the way that he is able to clarify things through the application of simple economic principles which he also makes easy to understand.