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With Its New Debt Issue, What Happens to Domino’s High Leverage?

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Domino’s leverage

During 3Q15, Domino’s Pizza (DPZ) stated that it intends to issue about $1.5 billion of new fixed notes in the upcoming fourth quarter. Proceeds from this issue will help the company retire $551 million of its existing 2012 fixed rate notes. The company stated that it intends to use the remaining proceeds for “general corporate purposes.”

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Leverage ratio to shoot up

  • With this new issue, Domino’s net debt-to-EBITDA (earnings before interest, taxes, depreciation, and amortization) ratio will shoot up to 5.8x, compared to its current 3.6x.
  • Given the low interest rate environment and a concern that the Fed may increase the interest rates soon, this gives Domino’s a good reason to borrow from the market sooner rather than later.

High leverage ratio

  • Domino’s Pizza (DPZ) has high leverage compared to many of its competitors. Its net debt-to-EBITDA ratio of 3.6x is already high compared to an industry average of 1.7x, based on 15 restaurants.
  • Papa John’s (PZZA) has a net debt-to-EBITDA ratio of 1.26x, and Pizza Hut’s parent, Yum! Brands (YUM), has a leverage ratio of 1.08x.

The iShares US Consumer Services ETF (IYC) holds 1% of Yum! Brands (YUM), 3% of Starbucks (SBUX), and 3.3% of McDonald’s (MCD).

Why Domino’s has high leverage

  • Domino’s debt is high because it was a result of a leveraged buyout.
  • In 1998, an investment funds group associated with Bain Capital LLC completed a recapitalization deal to acquire what is now Domino’s from then-owner Thomas Monaghan and family.
  • The company debt came due in 2007, but it underwent another recapitalization transaction with the issuance of $1.7 billion in debt.
  • The last recapitalization transaction occurred in 2012, leaving the company with $1.57 billion in debt to be due in 2019.
  • On the positive side, Domino’s does have a 32% return on assets, one of the best in the industry. This means management uses Domino’s assets more effectively than others.

In the final part of this series, we will look at how Domino’s valuation has changed and where it may go in the coming quarters.

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