Saturday, March 6, 2010

The Inevitable Bankruptcy of Domino's Pizza

I happened to get a stock tip that Domino's Pizza (DPZ) was undervalued and was both shocked and appalled at what I saw after further analysis. Over the past 10 years, Domino's Pizza has had increasing negative stockholder's equity, a situation which I thought was only theoretical and seen in business books. Alas, here it is in the flesh.

For those of you with limited accounting background, stockholder's equity appears on the balance sheet. Every company has assets with a certain total worth and the money that the company used to obtain those assets can come from three main sources: borrowing, purchase of stock from investors, or retained earnings (from business operations).

So what we have here on the balance sheet is that domino's assets in total are worth $453 million. But it has borrowed over $1.7 billion dollars! This results that should the company default, the stockholders will owe the creditors an extra $1.2 billion dollars* (and that's excluding the interest on those loans!)! I have never seen this in practice before, never mind in a company with such huge brand equity such as Domino's.

But wait! There's more! In 2008, Domino's Pizza recapitalized its debt by issuing long term notes at about 6%, due in 2037, in order to pay off its current loans. This is the equivalent of paying off your student loans with credit cards. Smart move...

So as Domino's reaches terminal velocity falling down the black hole of debt, it looks like its just a matter of time until it splatters on the bottom. My question is, who the heck are these analysts issuing "buy" ratings for Domino's (here)?! These people need to be reevaluated by their respective firms for not being able to read an annual report. Shame on you Wall Street...

*Of course, due to the laws of incorporation, shareholder's would not be personally liable for these liabilities. See the value of being incorporated? ;o)