Play Call for Papa John’s: Go Long
The pizza chain’s stock has been hammered by remarks from founder John Schnatter. But its efforts to distance itself from him should stabilize the business.
Last November, the pizza chain’s founder, John Schnatter, embroiled the company in the controversy over football players’ national anthem protests, blaming it for declining National Football League television viewership and for his company’s slowing sales. Mr. Schnatter, who owns 29% of Papa John’s, stepped down as CEO at the end of 2017 and the company ended its NFL sponsorship. But a report last month that he had used a racial slur during a call with a marketing agency stirred up more trouble and led to his resignation as chairman.
None of this has been good for business. Earlier this month the company reported that its North American same-store sales were down 6.1% in the second quarter from a year earlier and that its July same-store sales were down 10.5%. The company said it was a reflection of customers’ reaction to news of Mr. Schnatter’s comments.
None of this has been good for Papa John’s stock, either. The company’s shares rose 5% on Friday following a report it had hired bankers, but they remain 42% below their year-ago level. They are cheap enough that not much would need to go right for them to rebound. They might do so even if things merely don’t go any worse.
Papa John’s trades at 29 times expected earnings, according to FactSet. That high ratio is a reflection of just how weak analysts estimate the company’s earnings will be over the next year as it copes with the lower sales that have come from the controversy and as it faces higher costs from its efforts to set things right. Even so, its P/E is below industry leader Domino’s level of 33.
The decline in earnings may not be as extreme as the estimates suggest. Analysts expect domestic same-store sales will be down 10.3% in the current quarter from a year ago and that they will increase by just 0.3% in the year that follows. That amounts to a forecast that none of the customers the pizza chain has lost will come back.
Papa John’s has distanced itself from Mr. Schnatter. While he isn’t going quietly, current management appears to have the support of both franchisees and investors. On Friday, the announced it is mandating diversity training for its staff, and starting in the fourth quarter it says it will aggressively roll out a new advertising and marketing campaign aimed at rebranding itself. That ought to bring at least some customers back in the door. A lot of people seem to like its pizza—it continues to rank highly in customer satisfaction.
Moreover, a lot of the additional costs Papa John’s will incur over the next year, including financial assistance to franchisees, replacing items with Mr. Schnatter’s image on them and launching its rebranding campaign, are going to be temporary. When they fade, margins should improve.
Like a good pizza, Papa John’s could provide investors with tremendous satisfaction for the money.