Why Domino’s Pizza is Not Worried About Rising Cheese Prices

Ever wondered why the price of your cheese-flavored pizza is getting more expensive by the day? Cheese is getting costlier, and it does not help that cheese has long been considered the most expensive ingredient for pizza. In fact, one of the top pizza companies in the U.S., Papa John’s Pizza, says cheese makes up to 40 percent of its food costs.

Bloomberg recently reported that since the start of December 2014, the price of mozzarella cheese has jumped by 16 percent while the price of cheddar cheese has climbed by about 25 percent. The rise in prices can be attributed to bad weather in New Zealand and Europe, two prime exporters of milk products. Likewise, higher feed costs have also affected the global milk production as per the agriculture news website Capitalpress.com.

Consequently, American dairies became more in-demand in 2013. Data from the U.S. Department of Agriculture showed that cheese exports rose by 17 percent compared to the previous year, so supply of cheese lowered in the United States. Most of the cheese exports went to countries like China, Mexico, and South Korea.

It does not help, too, that domestic consumption of cheese is projected to hike by 2 percent this year. By the end of the year, it is expected that cheese inventory in the United States will be at its lowest in 10 years.

Cheese Price Increase

The prices of cheese have increased to $2.2 per pound in the second quarter of the year from just $1.77 per pound as of the same quarter last year. It has also been impacted by the 2012 drought that led to the short supply of cattle feed. With farmers decreasing their cattle rearing activity, a shortage of cows has been observed.

Of course, shortage in cow means lower milk production and thus cheese shortage.

But if there’s a pizza company that is not worried by the rising costs of cheese, it has got to be Dominos. As early as this year, the firm—the second largest pizza chain in the world after Pizza Hut – had said that it won’t be affected much by the increasing costs of cheese.

During an investors’ event on January this year, Domino’s chief financial officer Michael Lawton was quoted as saying that they are projecting that they would only be down to 2 percent in sales in case the costs of cheese continue to move upwards.

Unaffected

If the latest financial statements are to be examined, it really appears that Domino’s Pizza is not at all affected by the cheese supply problem. According to its second quarter fiscal earnings report, the total revenue of the company increased by 8.8 percent compared to the same period last year. Same-store sales also rose by 7.7 percent, with international sales up by 11.7 percent.

Lawton was even quoted as saying that the company expects to have a commodity price inflation in the range of four to six percent, but he said this is manageable.
So what is the secret to Domino’s Pizza’s success?

The answer lies on the arrangement of the company and its franchisees. Domino’s Pizza sells most of the required pizza ingredients to its franchisees, who in turn, will have to shoulder all the higher costs of raw materials, including cheese.

Franchisees are required to pay a royalty fee to the parent company based on their sales, regardless if they make a profit or not. The royalty fee is usually pegged at 5.5 percent of the retail sales.

So in turn, it’s all up to the franchisee to manage the increasing costs of ingredients like cheese. In case the franchisee increases his menu prices to respond to the rising costs of ingredients, the parent company will still get its 5.5 percent royalty fee. Bear in mind that Domino’s Pizza won’t be sharing the increased cost of ingredients while still getting its royalty fee no matter what.

And because 97 percent of the 11,000 branches of Domino’s Pizza are franchise-owned, it is not hard to understand why the company is not feeling the effects at all of the rising costs of cheese.

Domino’s Pizza also passes the higher costs of commodity to consumers by jacking up menu prices in the company-owned restaurants, which only make up 3 percent of its 11,000-strong network.

The company has also been able to neutralize the high costs of ingredients with volume growth. As its chief executive officer Patrick Doyle explained to reporters, the growth of orders has allowed Domino’s Pizza to offset the increase in food costs. Volume growth has been boosted by digital ordering.

Likewise, Domino’s Pizza has the advertising and promotion platforms like mobile and television to help keep its products visible to its consumers. So no matter how alarming the rise of cheese costs may be, it is safe to say that Domino’s Pizza will be shielded against these developments.

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