Back to top

Wendy's Didn't Want papa John's, Will Anyone Else?

Read MoreHide Full Article

Though both companies declined to comment on the matter, CNBC reported Thursday that Wendy’s (WEN - Free Report) had been in preliminary merger talks with Papa John’s (PZZA - Free Report) prior to the resignation of Papa John’s founder, John Schnatter from his position as Chairman of the Board last week amid controversy about racist language Schnatter used during a conference call with members of an outside consulting firm.

Citing an undisclosed “source familiar with the situation,” CNBC reported that the talks “cooled” after news broke about the reasons for Schnatter’s resignation.

Papa John’s stock had rallied about 5% on Wednesday on news of a possible merger or acquisition, but settled back the same amount Thursday when it was clear that a deal with Wendy’s was not in the works.

So now that we know that Papa John’s may be seeking to make a deal, will any other company be interested?

It’s difficult to speculate on the motives or desires of companies who have not made their intentions known, but Papa John’s has two distinct sets of issues that are likely to complicate any potential deal – a tarnished public image and deteriorating financials.

PR Disaster

We reported on the situation at Papa John’s after Schnatter’s resignation when they were the Zacks Bear of the Day last Friday. Read the article here>> The basic story is that Schnatter had used a racial slur while engaging in a role-playing conference call situation with the marketing firm Laundry Service - which Papa John’s had hired to help him avoid embarrassing public gaffes.

It was the second time in less than a year that Schnatter had made comments that were deemed culturally insensitive after his complaints in late 2017 about the NFL’s handling of National Anthem protests cost Papa John’s a lucrative sponsorship deal with the league and precipitated Schnatter’s resignation as CEO.

Last week, it seemed that the best way for the Papa John’s to repair the damage was for Schnatter to publicly distance himself from the company and allow management to chart the best course toward improving their reputation and reviving sales.

Unfortunately, Schnatter has done anything but disappear and instead has stayed in the news as he feuds with the existing board about pressuring him to resign and has even made a public claim that Laundry Service’s motive in discontinuing their representation of Papa John’s was to blackmail him.

In an additional blow on Thursday, Forbes – which broke the original story last week about the use of racial slurs – published an in depth piece about a history of Papa John’s management sponsoring a toxic environment at the company that included sexual harassment, confidential settlements with former employees and associates and a revolving door in the corporate suites as Schnatter and other executives summarily dismissed dissenting voices.

In addition to describing the “bro” culture at Papa John’s, the Forbes piece also quotes ex-employees complaining about the unwillingness of management to bring the company’s technology up to date.

Forbes quotes an unnamed Papa John’s franchisee as saying that the company had recently implemented more discounting than at any point in their history and that more operators than ever were positioning to sell their outlets.

A look at the business listing websites BizBuySell and Bizquest does in fact find several single and multi-unit Papa John’s franchises listed for sale by name. (It’s common for franchise owners to describe their businesses in public listings anonymously and as something like “nationally branded pizza restaurant” prior to executing a non-disclosure agreement with prospective buyers. This makes it difficult to determine whether there are actually a greater number of Papa Johns’ for sale than other similar franchises.)

McDonald’s (MCD) requires an investment of between $1 million and $2.2 million to open a new franchise and Wendy’s states that the normal investment is between $2 million and $3.5 million. On their website, Papa John’s suggests a minimum investment of $350K and is currently waiving the initial franchise fee, offering free equipment and discounting royalties for the first 6 years for new franchisees.


Dissappointing Financial Performance

Even before the most recent public relations disaster for Papa John’s, financial performance and the share price were already deteriorating at Papa John’s.  

The stock price is down 33% over the past year and almost 43% off al its all-time high, set in December of 2016.

Thanks to slumping same store sales, earnings estimates have been reduced lately with the company expected to earn $2.31/share in 2018, a decline of 12% from the $2.62/share they posted in 2017. Their last quarterly net was $0.50/share, 20% under the Zacks Consensus estimate of $0.62/share.

Because of the downward revisions, PZZA is a Zacks Rank #5 (Strong Sell).

Merger or Acquisition Target?

There are myriad reasons why companies enter into a merger with or acquire another company, including:

The ability to easily expand into markets or products where they don’t currently have exposure.

The acquisition of a brand that has value and pricing power with consumers.

The synergy of combining two similar businesses and eliminating redundant expenses to operate more efficiently.

The acquisition of intellectual property, processes and/or technology that improves the acquirer’s business.

It’s difficult to find a compelling reason why another company would want to merge with or acquire Papa John’s. While they are still the nation’s third largest pizza chain – behind Domino’s (DPZ - Free Report) and Pizza Hut, which is a division of Yum Brands (YUM - Free Report) – they don’t really offer anything to a potential partner or owner that couldn’t be built or acquired more easily. The brand has less value than ever given recent events and the processes and technology they own are considered primitive compared to their larger competitors.

There’s also the issue of Jahn Schnatter owning approximately 29% of the company’s shares. Any deal would likely require the cooperation of Schnatter and reports seems to suggest that despite his resignations from his CEO position and as Chairman, he has no intention of giving up any further control of the company.

In conclusion, the chances that Papa John’s will be acquired at a price higher than where the shares currently trade seem remote. With significant and sincere changes, the company may be able to repair its reputation and maintain its spot as the nation’s third largest pizza restaurant, but shareholders who are waiting for a merger or acquisition to improve the situation are likely to be waiting for a long time.

Will You Make a Fortune on the Shift to Electric Cars? Here's another stock idea to consider. Much like petroleum 150 years ago, lithium power may soon shake the world, creating millionaires and reshaping geo-politics. Soon electric vehicles (EVs) may be cheaper than gas guzzlers. Some are already reaching 265 miles on a single charge. With battery prices plummeting and charging stations set to multiply, one company stands out as the #1 stock to buy according to Zacks research. It's not the one you think. See This Ticker Free >>


Zacks Restaurant Recommendations: In addition to dining at these special places, you can feast on their stock shares. A Zacks Special Report spotlights 5 recent IPOs to watch plus 2 stocks that offer immediate promise in a booming sector. Download it free »

More from Zacks Investment Ideas

You May Like