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Domino’s Pizza vs. Retail Food Group: Which business is better?

Domino’s Pizza Enterprises (ASX: DMP) and Retail Food Group (ASX: RFG) have both been outstanding investments for shareholders, as the chart below shows.

Domino’s, through its keen focus on rolling out its take-away pizza format across Australia, New Zealand and Europe, has excelled in creating shareholder value which has not just resulted in share price growth but also dividends and capital returns. Retail Food Group (RFG), on the other hand, has created value for shareholders by expanding the number of brands it manages to include Crust Pizza, Pizza Capers, Donut King, Brumby’s Bakeries and Michel’s Patisseries (and the list goes on!).

So while Domino’s is primarily focussed on the pizza and dinner market, RFG offers an array of food and drinks across different mediums and at different times of day. Perhaps the more important difference between the two business models is that Domino’s owns a large number of its stores as well as franchising some while RFG focuses on being a franchisor and creating supply chains to its franchisees.

Broker Goldman Sachs is forecasting that Domino’s will produce a net profit after tax in financial year (FY) 2014 of $36.5 million, earnings per share (EPS) of 52.2 cents and dividends of 37 cents per share (cps). On Goldman’s figures this implies EPS growth of 15.7% in 2014. Domino’s also produces a very healthy return on equity (ROE) of 33% and has a conservative balance sheet with net debt to equity standing at 22%.

Meanwhile Morningstar is forecasting RFG to hit EPS of 30.9 cents and pay dividends of 21.8 cps in FY2014. This implies a growth rate in EPS of 12% above Morningstar’s FY2013 expectations. RFG’s ROE is not as impressive as Domino’s but is still healthy at 16.8%. With net debt of $86.7 million at the half year, the balance sheet is in reasonable shape with a net debt to equity ratio of 37%.

pizzachart

Source: Google Finance

It’s hard to say whether on balance the current economic climate works against or in favour of the markets Domino’s and RFG services. It is interesting to note that a recent report by global research firm NPD Group found that in the first quarter of 2013 only Australia, Canada and China posted traffic growth at restaurants and foodservice outlets with the other seven countries tracked by NPD (France, Germany, Italy, Japan, Spain, UK and USA) all registering declines.

Foolish takeaway

From a valuation perspective, Domino’s is trading on a FY 2014 price-to-earnings (PE) ratio of 22.5 times. With earnings expected to grow at roughly 16%, this doesn’t look cheap. On the other hand Retail Food Group is currently trading on a PE of 13.6 times and is forecast to grow at around 12%.

Domino’s business model and potential to continue to grow its earnings at double-digit rates as it expands further throughout Europe certainly deserves a premium to RFG valuation given RFG is more likely to reach ‘saturation point’ in its Australian and New Zealand markets sooner. While it is often worth ‘paying up for quality’ at current prices RFG looks like the it could be the tastier investment option.

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Motley Fool contributor Tim McArthur does not own shares in any of the companies mentioned in this article.

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