DP Eurasia N.V. DPEU
April 27, 2020 - 8:21pm EST by
2020 2021
Price: 40.90 EPS 0 0
Shares Out. (in M): 145 P/E 0 0
Market Cap (in $M): 60 P/FCF 0 0
Net Debt (in $M): 27 EBIT 0 0
TEV ($): 87 TEV/EBIT 0 0

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DP Eurasia is the exclusive master franchisee of Domino’s Pizza in Turkey, Russia, Azerbaijan and Georgia. The group was founded by CEO Aslan Saranga in Istanbul, Turkey in 1996 (at the age of 27). Aslan is well respected within the Domino’s ecosystem and is a member of the Domino’s Pizza General Management Council. At present, DP Eurasia has scaled to 765 locations and Aslan maintains a 5.6% ownership stake in the company – a figure that is significantly higher than comparable Domino’s CEOs. DP Eurasia has consistently been recognized as one of the best performing master franchisees globally, having received more than 10 Gold Franny Awards – the most prestigious Domino’s award given annually to the best master franchisees. In Turkey, Domino’s is the dominant operator with a network base that is 5x larger than its nearest competitor PizzaPizza. In Russia, Domino’s is the second largest operator behind local champion Dodo Pizza. Within Turkey and Russia, DP Eurasia has whitespace to more than triple their store count. DP Eurasia went public at a $400 million valuation in 2017 when they operated 571 locations. Today, the company operates 765 locations and is valued at $74 million. The table below provides an overview of DP Eurasia compared to its listed peers. 



The Domino’s Business Model

Domino’s Pizza is one of the most successful fast food brands worldwide and the strength of their business model is widely recognized. In short, scale advantages allow Domino’s to deliver great tasting pizza, at a cheaper price, and faster than the highly fragmented universe of competitors. These scale advantages manifest themselves in numerous ways. For example: marketing spend / pizza, central SG&A / pizza, rent / pizza, hourly wage of delivery driver / pizza, bulk purchases --> raw ingredient savings / pizza, store density --> improved delivery times --> more repeat orders --> more scale, R&D / pizza --> improved app experience --> more repeat orders --> more scale, … you get the idea. In addition, these scale advantages are turbocharged by a company culture that is entrepreneurial, meritocratic, and highly focused on franchisee economics. It’s been said that the best way to make A LOT of money, is not to figure out how to make money for yourself, but figure out how to make money for others. This dynamic has worked wonders for Domino’s over the last 20 years.



DP Eurasia Operations

DP Eurasia has 765 system stores in Turkey, Russia, Azerbaijan and Georgia, with its highest concentration in Turkey. With respect to Turkey, the group’s stores are located throughout the country, whereas in Russia the stores are highly concentrated in the city of Moscow. In Azerbaijan and Georgia, the group only has stores in the capital cities of Baku and Tbilisi. A typical store consists of a store manager, an assistant manager, a shift manager, three kitchen staff and six drivers. DP Eurasia has a strong focus on efficiency. Their stores do not require large preparation and eat-in areas and, as a result, the average store size is only 1,200 square feet – approximately 2/3 smaller than the typical QSR. Their delivery centric model allows the group to operate in lower footfall areas which provides significant flexibility in choosing a location and results in lower rent per square foot. DP Eurasia’s business development team has a disciplined store location selection process which is referred to as mapping. The mapping process focuses on factors like number of households, GDP per capita, local competition, regional and community acceptance, and traffic information. Proper mapping is critical to ensuring sub-franchisee success and maintaining a commitment to their 30 minute delivery guarantee (95% on time deliveries in Turkey / 90% on time deliveries in Russia).  DP Eurasia maintains a strategic balance between corporate and franchised stores (68% Franchised). The group believes corporate stores provide an important platform to develop best practices and innovate on food offerings (a shortcoming of Domino’s UK). In addition, DP Eurasia is able to establish a network of corporate owned stores in its most densely populated areas, which maximizes profitability. To achieve consistent quality of its products, competitive supplier prices and timely delivery of items to its system stores, DP Eurasia centralizes its supply and procurement function. The group owns and operates 7 commissaries which manufacture the pizza dough and supply system stores in Turkey and Russia with all ingredients and materials required. Notably, 100% of ingredients and materials are sourced domestically for both Turkey and Russia system stores, leaving DP Eurasia operationally unexposed to FX divergences. The group’s 4 commissaries in Turkey have an 850 store capacity (+300 remaining), and the 3 Russia commissaries have a 330 store capacity (+120 remaining).  DP Eurasia incurs capital expenditure primarily in relation to corporate store openings and centralized investments in technology. Consequently, with most new store openings coming from its sub-franchisees, DP Eurasia is able to grow its network in a capital efficient manner. The continued growth of the group’s network is supported by strong underlying franchisee economics. In Turkey, franchisee new store builds have 3-4 year payback rates, and in Russia franchisee new store builds have 2-3 year payback rates. This has allowed DP Eurasia to grow its store count while maintaining considerable diversification among its franchisee base (no single franchisee has more than 15 locations). DP Eurasia’s financial model consists of 4 income streams: profit on corporate owned stores, net royalty spread, food gross margin, and franchise opening fees. The group’s corporate stores operate at an average 20% store level margin, while it earns a 5-6% net royalty spread on sub-franchisee system sales. In addition, in Turkey, DP Eurasia earns a 35% gross margin on food sales to sub-franchisees and in Russia it is approximately half of this figure (margin expected to increase as Russia scales). First-time franchisees are charged $50k for opening a new location ($20k for “homegrown” domino’s employee units which are 1/3 of all new builds), and $20k for each additional location opened thereafter. In other words, each newly opened sub-franchisee location pays for approximately 1 year of maintenance expenditure for a corporate owned location. 



Turkey and Russia Convergence

In the years immediately preceding the IPO, DP Eurasia’s adjusted EBITDA margins in Turkey hockey-sticked from low single digits to the low teens as they began to fully leverage centralized costs, benefit from scale purchases, network density, and a more mature store base. Today, Russia’s adjusted EBITDA margins are in the mid-single digit range and are expected to increase (non-linearly) over the next 2-4 years and converge with Turkey’s adjusted EBITDA margins. This will happen as Russia corporate overhead is leveraged (160 Russia corporate employees for 210 locations vs 200 Turkey corporate employees for 550 locations), commissaries are fully utilized, the store base matures (18 months to fully mature store), and as Russia experiences increased benefits from scale raw ingredients purchasing (note: DP Eurasia buys half the mozzarella production in Turkey). Management has reiterated every year its confidence in margin convergence, which it expects to manifest rapidly around the 350-400 store mark in Russia.   



Digital Sales 

DP Eurasia has a strategic focus on increasing its digital sales penetration to levels generally observed across global Domino’s Pizza master franchisees (70-80%). Orders placed using the group’s online platforms have a higher customer ordering frequency, promote direct customer interaction at the corporate level, allow demand push marketing, and result in a better customer experience. Online ordering penetration has consistently grown since IPO (27% in 2016 to 49% in 2019) and is a strong driver of like-for-like growth. This endeavor allows franchisees’ to become less reliant on their own initiatives, which enables them to divert more focus to operational aspects and allows DP Eurasia greater control over features such as promotions and pricing across its system stores. Indeed, in many ways DP Eurasia is more advanced than global peers on the technology front. By January of 2019, DP Eurasia had successfully rolled out its GPS Order Tracking system across every store in Turkey which shows the location of drivers to the customer real-time and allows the group to capture and monitor delivery activity. This has improved the customer ordering experience, and DP Eurasia is already witnessing improved labor efficiency with an increase in deliveries per driver by 12%. This technology is being rolled out across the US, but is still not widely available. 



Fortressing for Growth

DP Eurasia, and other successful operators like Domino’s Pizza Enterprises, grow through employing a fortressing strategy by infilling stores in a defined mapping area to enhance its delivery proposition, increase customer satisfaction, and build strong local brand presence. This tactic of splitting stores is counterintuitive, but allows Domino’s to leverage the benefits of network density to increase market share. On the surface, it would appear that the bigger the market per location, the better you would do – stores with a lot of additional households would receive more orders. However, in a delivery model with a large territory, many orders actually earn substantially less profit because you have to drive longer, which also results in customers receiving less fresh pizza, which then results in less orders. In addition, physical store presence is a form of brand marketing, and without density the marketing burden per household increases. The bottom line is that faster delivery speeds, which also results in fresher pizza, leads to happier customers who order more and increase total sales. There is, however, an optimum density and Domino’s has done a lot of research and analysis to figure out where this optimum exists – a data advantage that would be difficult for competitors to replicate. Below are a few slide from the 2019 Domino’s Pizza Enterprises Investor Day that highlight the fortressing strategy.