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Should Papa John’s be sold?

A sale could be the only option for the chain going forward, says RB’s The Bottom Line.
Papa John's

The Bottom Line

John Schnatter isn’t going away quietly, and that’s bad for Papa John’s.

The former founder, chairman, CEO and spokesman apparently regrets stepping down as chairman last week after acknowledging the use of a racial slur.

The Wall Street Journal reported that he sent a letter to the company’s board saying that it didn’t do enough to investigate the incident before requesting his resignation.

CNBC later reported that Schnatter had hired an attorney, Patricia Glaser, suggesting a potential board fight. Restaurant Business has since seen a letter from Glaser to the board, as well as Schnatter's letter.

This is a problem, because Schnatter is no ordinary former employee. He remains on the company’s board of directors. And he owns 30% of Papa John’s stock.

People who own nearly a third of a company don’t simply go away quietly.

Schnatter’s actions seem to be pointing Papa John’s firmly in the direction of a sale. Indeed, it’s increasingly evident that a sale could be the company’s only way out of its current mess.

Then again, the damage done to the brand in recent months could make a sale more challenging.

Papa John’s has been believed to be a potential takeover target for Burger King owner Restaurant Brands International for some time. A pizza concept would look nice alongside Popeyes and Tim Hortons, and Papa John’s would fit the pattern the Canadian company has established: find a small, franchised concept in a proven, well-established market that has a lot of growth ahead, especially in international markets.

RBI is one company willing to take a broad axe to a company’s existing culture and has taken on seemingly no-win situations before. Burger King was a mess before 3G Capital bought the chain in 2010 and turned it around, forming the base of Restaurant Brands International.

Papa John’s has a lot going for it. The 5,000-unit company has a quality positioning. Pizza is still a well-loved product, and the company is making significant efforts to take advantage of technology. In addition, weakening independents in the pizza sector could give the company a route to further growth in the U.S.

Even if it can’t, a well-established international growth plan could render moot any lack of growth domestically.

But the Papa John’s brand is damaged. The company’s reputation had already taken a hit since Schnatter’s November comments regarding NFL ratings, as we wrote last week—and which we addressed on a special edition of the RB podcast this week.

The latest problem led MLB to suspend its relationship with the chain and the University of Louisville to take the company’s name off of its football stadium. It had already lost its NFL sponsorship.

The company will probably need to change its name before it can recover. That is no easy task.

“We believe whoever owns the company will need to fully rebrand Papa John’s, requiring more than just advertising and packaging changes to alter consumers’ perception,” Stifel analyst Chris O’Cull said in a note late yesterday.

Buyers could question whether such an investment would be worth the cost, in addition to what it would take to buy the chain.

That said, investors probably don’t have the stomach for such a long-term turnaround, either, and could readily accept a sale at $60 to $65 a share, O’Cull wrote. That was unthinkable just a few months ago when Papa John’s was over $75 a share.

The value of Schnatter’s 30% of Papa John’s has fallen by $150 million since his November comments.

It’s worth noting that, in the face of Papa John’s worsening reputation, its primary competitors have been flourishing.

When Papa John’s same-store sales fell 5.3% in the first quarter, Domino’s same-store sales rose 8.3%. That’s a 1,360-basis-point gap. Pizza Hut’s same-store sales rose 4%. That’s a 930-basis-point gap.

Papa John’s is facing a long, hard road to get back into customers’ good graces. It has to change its advertising and marketing. It probably has to rebrand its company, replace signs and other materials in addition to pizza boxes, in 5,000 locations.

It has to do this in the most competitive sector in the world’s most competitive industry. And it must do this, potentially, with its largest shareholder and the person responsible for your brand’s reputational decline making noise from the sidelines.

That kind of revitalization might best be done as a private chain.

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