(Updates stock performance throughout story.)
Oct. 17 (Bloomberg) -- Fast-food restaurants are benefiting from consumer concern about another recession, as unemployment and weak confidence hurt discretionary spending.
The Bloomberg U.S. Quick Service Restaurant Index -- which includes McDonald’s Corp. and Yum! Brands Inc., owner of Pizza Hut -- has risen 4 percent this year, while the Bloomberg Full Service Restaurant Index, made up of eateries such as Cheesecake Factory Inc., has declined 9 percent.
Domino’s Pizza Inc. is among companies with higher sales, partly because of changes including a new recipe and commitment to accountability, said Malcolm Knapp, a New York-based consultant who has monitored the restaurant industry since 1970.
As its sales fell and its stock hit a record low of $2.83 a share in November 2008, the Ann Arbor, Michigan, chain spent millions in a “brutally honest” advertising campaign that said some people thought its “pizza sucks,” Knapp said. Then it offered a money-back guarantee and embraced social media and e- commerce to engage consumers.
“That was a very new proposition, but it worked because it was delivered in a marketplace where trust had evaporated,” Knapp said.
Domino’s shares have risen 75 percent this year, compared with 15 percent for Papa John’s International Inc. in Louisville, Kentucky, Bloomberg data show. Since the end of 2009, when Domino’s announced its plans, the stock has gained 233 percent, compared with 37 percent for its rival. Domino’s is scheduled to report third-quarter earnings tomorrow.
Domino’s stock and sales have risen even as Labor Department data show the U.S. unemployment rate has averaged 9.4 percent in the past 22 months, and consumer confidence in September reached its lowest level since June 2009, based on Bloomberg’s weekly Consumer Comfort Index.
Consumer spending slowed in August as incomes dropped for the first time in almost two years. Purchases rose 0.2 percent after a 0.7 percent increase the prior month as incomes fell 0.1 percent, the Commerce Department reported Sept. 30.
The slow economic recovery has caused many Americans to seek low-priced dining, as sales at U.S. McDonald’s restaurants have grown as much as 5 percent since 2010, data from the Oak Brook, Illinois, company show. Still, much of Domino’s success has come from its new marketing strategy, Knapp said. The unconventional approach “was brilliant,” particularly because Americans have lost faith in corporations, he said.
American confidence in businesses fell to 38 percent in 2009 from 58 percent the prior year, based on the Edelman Trust Barometer, an annual survey. This was the lowest credibility since the public-relations firm began collecting data in 2001, Executive Vice President Ben Boyd said.
The most important corporate-reputation factors, according to Edelman’s 2011 survey of Americans ages 25 to 64, were “transparent and honest practices,” “offers high-quality products or services,” and “is a company I can trust.” These have “demonstrably changed” during the past five years, as consumers expect more authentic transparency and accountability from businesses, Boyd said.
Domino’s began its rebranding effort by addressing the “elephant in the room” in 2008: Many consumers just didn’t like its pizza and U.S. sales were suffering as a result, Chief Executive Officer J. Patrick Doyle said in a telephone interview. Acknowledging the criticism in ads, it began using the new recipe in December 2009 after 18 months of tinkering and effectively “burned the bridge behind us,” he said. After the change, “no one thought about going back.”
‘Mea Culpa’ Campaign
When Domino’s unveiled its “huge mea culpa” marketing campaign, same-store sales were essentially flat, said Mark Smith, an analyst at Feltl & Co. in Minneapolis, who maintains a “buy” rating on the stock. While the approach seemed like a “huge risk” initially, ads stressing transparency and candor ultimately built “a lot of equity” with consumers, he said.
Sales at U.S. locations rose 14 percent in the first quarter of 2010 from a year earlier, the biggest increase in the company’s history, Doyle said. Meanwhile, sales at its two largest competitors -- Pizza Hut and Papa John’s -- were up 5 percent and down 0.4 percent in the same period, the companies reported.
Smith said he wondered at the time how long Domino’s “phenomenal” sales growth could last, especially given “tough economic times” that were prompting value-minded consumers to look for deals.
The company “started to change the conversation dramatically” with customers by acknowledging feedback and holding itself accountable, Doyle said. It established a website in July 2010 where diners could upload pictures and pledged to display only real photos of its food, without any touch-ups or enhancements.
Customers submitted more than 40,000 pictures -- an “unbelievable response,” Doyle said. Still, some pizza looked subpar, and the company broke “one of the ultimate rules of advertising,” by including “lousy-looking” food in television ads and vowing to do better, he said.
Engaging customers in quality control and offering money- back guarantees further established a dialogue, Knapp said. While these initiatives required franchise owners to address problems, they proved successful as the company reported sales growth of 12 percent in the third quarter of 2010, compared with the prior year, he said.
Domino’s also is embracing social media and e-commerce to attract younger buyers who want “their views to be known,” Knapp said. An online pizza-tracker tool allows customers to follow their order, creating another level of personalization, he said. Last month, the company introduced a line of what it calls “artisan” pizzas with feta cheese instead of mozzarella or Parmesan and Tuscan salami instead of pepperoni.
Sales have moderated as Domino’s faces difficult comparables from 2010. Same-restaurant sales rose 5 percent in the quarter ending June 19 after falling 1 percent in the three- month period ending March 27, company data show. The stock has fallen 3.6 percent since reaching a four-year high of $28.87 per share on Sept. 19. The industry is “very competitive” and consumers remain hesitant about spending in an uncertain economy, Knapp said.
Even so, Doyle says he hopes the makeover has helped redefine Domino’s -- known historically for delivery in about 30 minutes -- as a company also associated with honesty, accountability and quality.
Domino’s posted customer feedback -- good, bad and neutral, edited only for obscenities -- on a 125-foot electronic billboard in New York’s Times Square, in a campaign ending last month. Publicizing comments in the “town square of the nation,” showed it “doesn’t hide from criticism,” Doyle said.
--Editors: Melinda Grenier, Daniel Moss
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