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The ‘Domino’s’ Effect of the Cost of Cheese

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Key expenses

The primary cost of sales incurred by Domino’s Pizza (DPZ) are related to stores owned by the company as well as supply chain–related costs. The company consolidates the cost of food, labor, and occupancy. You can see a five-year trend in these costs in the chart below.

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Food costs

Food commodity costs increased 0.7% in 2014, affected by the higher cost of cheese. The price per pound of cheese—one of the primary ingredients in pizza—rose from $1.75 to $2.13 in 2014.

An increase in commodity costs negatively affects the supply chain segment as well as Domino’s franchises, particularly if the environment isn’t right for raising menu prices and passing on the costs to customers.

The dip in the cost of sales as a percentage of revenue in 2014 was a result of higher overall related revenues.

Occupancy and related costs

Occupancy and related costs such as rent, utilities, and communications made up 9% of related sales. When restaurant sales volume goes up, these costs remain relatively unchanged, and so the business sees a higher restaurant margin. This is called “sales leverage.”

Restaurants such as McDonald’s (MCD) and Yum! Brands (YUM), which operates Pizza Hut, KFC, and Taco Bell, began offering breakfast to take advantage of their space and increase restaurant margins.

For broader exposure to the restaurant sector, consider the Consumer Discretionary Select Sector SPDR Fund (XLY). YUM! Brands makes up 1.5% of this ETF. XLY also invests about 3% of its portfolio in Starbucks (SBUX).

Labor costs

Labor costs accounted for 28% of revenues in 2014. Bear in mind that these labor costs don’t include the labor employed at the franchise level. Franchises bear the cost of food, labor, insurance, rents, and other related costs required to run a restaurant. They also have to pay a royalty to Domino’s.

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