Papa John'S International, Inc. Business Information, Profile, and History

Company Perspectives:

Papa John's is the most quality-focused pizza company in the world with a simple formula for success: focus on one thing and do it better than anyone else. By keeping the menu simple and by using only superior-quality ingredients, Papa John's is able to focus on the quality of our products. This commitment to quality can be seen in all of Papa John's ingredients, from our fresh traditional pizza dough, to our vine-ripened fresh-packed tomato sauce, 100% real cheese and many other premium ingredients.

History of Papa John'S International, Inc.

Papa John's International, Inc. ranks as the third largest pizza chain in the United States, trailing only Pizza Hut (a division of YUM! Brands, Inc.) and Domino's, Inc. The company has built a chain of more than 2,800 pizza delivery and carry-out restaurants operating under the trademark "Papa John's" in 49 states, the District of Columbia, and 20 international markets. Approximately 570 of the outlets are company owned, with the remainder being franchised. The firm also franchises about 115 Perfect Pizza restaurants in the United Kingdom. After the opening of its first store in 1985, Papa John's grew rapidly through the late 1990s before settling in as a more mature company in the following decade. In a highly competitive segment of the restaurant industry, Papa John's has managed to carve out a highly profitable niche by offering a very limited menu consisting of pizza, breadsticks, cheese sticks, chicken strips, chicken wings, and canned or bottled soft drinks; and by using high-quality ingredients and touting them in its trademark slogan "Better Ingredients. Better Pizza." Company founder John Schnatter continues to hold about a 29 percent stake in the company.

From Broom Closet to First Papa John's

Papa John's was born in what was once a broom closet in the back of a southern Indiana tavern. The idea for the company originated in the mind of a 23-year-old entrepreneur who felt that he knew how to make a better pizza. In September 1983, shortly after attaining a business degree from Ball State University in just three years, John Schnatter returned to his hometown of Jeffersonville, Indiana, to take over the management of Mick's Lounge, a bar co-owned by his father. The tavern, noted for its fistfights and biker clientele, was physically and financially decrepit; beer dealers and other vendors even refused to give the establishment credit. In his first week, Schnatter, $64,000 in debt with a long list of angry creditors, cleaned and repainted the bar, determined to make the most of his opportunity. He lowered and simplified beer prices, while adding more pool tables and video games. In addition, he began to market the bar through promotions that resulted in word-of-mouth advertising. In just three months, he had paid off half of his debt.

Although Schnatter quickly succeeded in resurrecting the bar to profitability a month later, his ambitions extended far beyond the walls of a smoke-filled beer joint. In March 1984 he sold his business partner, Bob Ehringer, who had purchased the elder Schnatter's stake in the business, on the idea of supplementing revenues by serving pizza out of the bar's broom closet. With $1,600 worth of equipment and ingredients, Papa John's was born. Schnatter tore down a wall with a sledgehammer to make room for an eight-by-ten-foot kitchen. During those early days Schnatter and his partner worked from 9 a.m. to 1:30 a.m., sleeping in the bar so they would not miss any calls. For the first six months, the pizza business generated only $1,000 to $1,500 a week and was financially dependent on the bar. But as the fledgling establishment became better known, sales increased. By March 1985, the two partners, along with a few helpers, were making 3,000 to 4,000 pizzas a week.

With Mick's Lounge financially sound and not enough room in the "broom closet" kitchen to keep up with the growing demand for pizzas, Schnatter and Ehringer set their eyes on an empty retail space next door where they could open their first restaurant. Having gained valuable experience working in several restaurants in high school and in college preparing himself for such an opportunity, Schnatter was eager to put his ideas into practice. "One day he sat at his desk in the dorm and had a menu laid out, along with a company logo," recalled Schnatter's college roommate in Business First-Louisville. "Papa John's was on his mind even on campus."

But before the 23-year-old entrepreneur could launch his new venture, his father and top supporter died. "You're supposed to feel sorry for yourself, and I could have sat at the bar and moped," he said in Business First-Louisville. "But I'm pretty tough on myself, and I got on with it." Having inherited his father's unwavering determination, Schnatter acquired the site for his restaurant through sweat equity. With the help of his uncle, Bill Schnatter, who became a partner in charge of store layout and construction, and Ehringer, who took over operations and maintenance, Schnatter, the firm's president and chief marketer, opened his first restaurant.

In January 1986 the company was incorporated and able to stand on its own. A year later Schnatter and Ehringer sold Mick's Lounge so they could devote more time to Papa John's. The strategy that brought them such rapid success was simple: make the best pizza and sell it at a competitive price. What Schnatter had learned while working in pizza joints as a teenager and a college student was to keep his product line focused. Although other restaurants offered salad bars and chicken wings, he devoted his energy to producing the "Perfect Pizza" (a slogan that would later become a registered company trademark) and delivering it to customers in a timely fashion. Schnatter also introduced early on a signature bonus that served to signal the quality of the product: each pizza was accompanied by a container of the company's special garlic sauce and two pepperoncinis. Behind the focused strength of this strategy, Papa John's generated revenues of $500,000 in its first year and opened two more restaurants in the "Kentuckiana" region, including the first franchised outlet. (The company headquarters were shifted to Louisville, Kentucky, in 1989.)

To prepare the company for more serious expansion, the visionary Schnatter built a commissary near corporate headquarters in Louisville's Bluegrass Industrial Park to supply his stores with fresh pizza dough and spices. In the commissary, giant mixers turned bags of flour mix and warm water into dough balls of several sizes. The dough was then chilled until it was firm enough to be shipped to individual stores twice a week and shaped into pizza crusts or breadsticks. The commissary system was frequently cited by industry analysts and company officials as a key factor in the success of Papa John's. The system not only reduced labor costs and reduced waste because the dough was pre-measured; it, perhaps more importantly, maintained control over the consistency of the product. In many other restaurants, for instance, the least experienced employees were responsible for making the dough because it was such a messy job.

Not only did this centralized production facility furnish all of the Papa John's stores with the same high-quality ingredients for their pizzas, but it lowered start-up costs for new restaurants by saving them the cost of expensive equipment. From this early stage in the company's history, Schnatter made sure that he expanded the production capacity of his commissary system before he added new restaurants. Accordingly, four additions were made to the company's first commissary by the end of the decade and the opening of the 23rd Papa John's.

In 1989 Schnatter enlisted the services of pizza industry veteran Dan Holland to help the company strengthen its financial base and fashion a strategy for further growth. A former executive with Mr. Gatti's and Pizza Hut, Holland, who took over as company president in 1990, brought more than a decade of experience in the pizza business to Papa John's. That same year, which brought in $15 million in revenue, Ehringer, who did not share his partner's expansionary vision, sold his 40 percent share in the company to Schnatter.

Phenomenal Growth in the Early 1990s

During the early 1990s the company embarked on a phenomenal pattern of growth, expanding to 200 restaurants and $82 million in sales. At least part of the success was due to a surge in the overall pizza market, which grew at the fastest rate of any major segment of the restaurant industry during the mid-1980s and early 1990s. Pizza sales also benefited from the larger trend toward more off-premise food consumption; pizza was, to some extent, viewed as one of the leading replacements for the home-cooked meal and realized a greater increase in sales than other large quick-service segments, such as hamburgers and chicken. Having established itself from the beginning as primarily a delivery and carry-out restaurant, Papa John's was poised to take full advantage of this growing demand.

Another contributing factor to the company's success during this period was its ability to keep start-up costs low for new franchises during the recession of the early 1990s. Whereas some restaurant franchises cost upwards of $1 million, a Papa John's could be purchased during this period for less than $100,000. This bargain price, combined with the company's profitable history, attracted a number of high-profile franchisees into the Papa John's stable. Such restauranteurs as Rick Sherman, former president of Rally's and Church's Fried Chicken chains; Frank Carney, one of the founders of Pizza Hut; Ed Johnson, founder of Grandy's; and Jack Laughery, former chairman and CEO of Hardee's, all opened several stores.

After recording total revenues of close to $50 million in 1992, having roughly doubled its size every year since 1986, the company looked to raise money to pay off debts and finance continued expansion. In June 1993, Papa John's went public with an initial offering of 1.55 million shares at $13 a share. As evidence of the strong faith of the financial community in the company, the stock closed at $20, generating proceeds of about $12 million after costs. The stock sale helped to strengthen the company's financial base while providing capital for entrance into three new markets: Atlanta, Georgia; Orlando, Florida; and Charlotte, North Carolina.

Geographic expansion required the building of two more commissaries to supply the new stores during the early 1990s; one in Orlando and one in Raleigh, North Carolina. The commissaries, which were designed to serve a 400-mile radius, enabled the company to open its 400th store in 1993, nearly doubling the size of the company from the previous year. Total revenue, likewise, increased more than 80 percent, surpassing the $89 million mark.

Just as Papa John's was nearing the 500-store milestone in mid-1994, it was named by Business Week as the nation's best-run small business, based on three-year results in sales growth, earnings growth, and return on invested capital. The attention the company received from this report, as well as from other reports by business and industry publications ranging from Forbes to Nation's Restaurant News, helped the company to attract management talent and gain momentum in the investment community. Taking advantage of this energy, Papa John's completed two common stock offerings during the year, raising an additional $35 million and preparing the way for further expansion.

In keeping with the company's strategy of ensuring that the commissary system was developed to support the growth and geographical expansion of restaurants, Papa John's constructed its fourth commissary in Jackson, Mississippi, during 1994. The company also finalized plans to build a full-service commissary in Orlando to replace the existing dough-producing facility. The additional production capacity provided the infrastructure to serve up to 1,200 restaurants in 20 states. The timely expansion of this system, according to many industry experts, enabled the company to continue its ability to monitor and control product quality and consistency, while lowering food costs.

Papa John's, having set quality standards for all products used in its restaurants, required all of its franchises to purchase dough and spices from the commissary. What is more, virtually all of the franchises, although they were not required to do so, purchased their other supplies from the commissary as well, taking advantage of the lower prices offered. While the commissaries helped to improve quality control and efficiency by providing each individual franchise with the same products, they also facilitated the growth of the company by lowering start-up costs. With the commissary system, there was no need for franchises to purchase expensive dough-making equipment and train their employees how to use it.

Throughout Papa John's tremendous growth during its first ten years of operation, its marketing programs targeted the delivery area of each restaurant, primarily through print materials in direct mail and store-to-door couponing. In 1994, for instance, approximately 80 percent of all purchases were made using a coupon, at a savings of about 17 percent. As the company became more affluent and attempted to serve a larger geographic area, it increasingly supplemented local marketing efforts with radio and television advertising. To maximize the resources of its individual restaurants, the company also created the Papa John's Marketing Fund, Inc., a nonprofit corporation that handled market-wide marketing programs, such as radio, television, and billboards. The Marketing Fund, which was supported by required contributions from each store, also provided company-owned and franchised restaurants with catalogs and toll free numbers for uniforms and promotional items.

Late 1990s: Maintaining Focus amid Intensifying Pizza Wars

As Papa John's entered the late 1990s, it had no plans to change the simple formula that had placed it in position to become the nation's fourth largest pizza chain. Schnatter promised to keep what Bill McDowell of Restaurants and Institutions magazine called "an almost obsessive focus on the core product." No additions to the four core menu items--pizza, breadsticks, cheese sticks, and canned soft drinks--had been planned. As Schnatter stated in a 1995 letter to stockholders, Papa John's did not intend to follow the lead of its competitors who "clutter their menus with chicken wings, salads, pasta and subs." Rather, the company planned to direct its energy and resources toward "delivering the Perfect Pizza" to more people and in a larger geographical region.

More than 250 restaurants opened during 1995, and the company opened a new distribution center in Dallas in early 1996 and a full-service commissary in Denver during the latter part of 1996 to facilitate western expansion. This latest expansion push was aided by two more secondary stock offerings: 800,000 shares at $40 per share in August 1995 and 1.14 million shares at $47.25 per share in May 1996. Another milestone was reached in August 1996 when the 1,000th Papa John's opened for business. In October 1996 the menu was tweaked with the addition of thin crust pizza to go alongside the traditional crust the company had been selling since its founding. Papa John's felt compelled to make this move because one-quarter or more of U.S. pizza eaters preferred thin crust.

By early 1998 the Papa John's system included nine commissaries/distribution centers supporting more than 1,500 units. A tenth commissary opened in Portland, Oregon, during the year, and the facility in Louisville was expanded from 35,000 to 82,500 square feet. The company also expanded internationally for the first time, opening outlets in Mexico and Puerto Rico.

The year also saw the "pizza wars" heat up, particularly a head-to-head battle between Papa John's and Pizza Hut. The battle began in earnest the previous year when Pizza Hut attempted to regain momentum through quality with the introduction of "totally new pizzas" featuring fresh toppings and a reformulated sauce in a direct strike at Papa John's "Better Ingredients. Better Pizza" positioning in the market. Papa John's responded with an advertisement featuring Frank Carney, the Pizza Hut cofounder who was now a Papa John's franchisee. Carney claimed in the ad to have found a "better pizza." Pizza Hut soon filed a complaint with the Better Business Bureau's National Advertising Division (NAD), a mediation board, stipulating that Papa John's slogan was false and damaging to Pizza Hut. After an investigation, the NAD concluded that Papa John's had a "reasonable basis" for its claims. Undeterred, Pizza Hut took its case to federal court, which prompted Papa John's to countersue, charging its rival with misleading advertising. In late 1999 a jury found both companies guilty, and in January of the following year a federal district judge ruled that Papa John's had to stop using the "Better Ingredients. Better Pizza" slogan, though this ruling was stayed while Papa John's filed an appeal. The U.S. Court of Appeals for the Fifth Circuit later overturned the rulings against Papa John's, and in March 2001 the U.S. Supreme Court declined to review the case, thereby enabling the company to continue using the slogan. Papa John's did not come out of these skirmishes completely unscathed, however. Schnatter was forced to admit that his chain used canned tomato sauce and canned mushrooms; Papa John's soon thereafter switched to fresh mushrooms.

Seeking to maintain a mix of 25 percent corporate-owned stores and 75 percent franchised, Papa John's embarked in 1999 on a strategy of acquiring franchises in lieu of developing new corporate markets. That year another 400 Papa John's were opened, including the 2,000th store, located in Denver. Papa John's also made its largest move overseas yet, purchasing Perfect Pizza Holdings, Ltd. for $32.5 million. The U.K. firm operated 205 Perfect Pizza delivery and carry-out pizza restaurants. Conversion to the Papa John's format proceeded slowly over the next several years. For the year, Papa John's reported systemwide sales of $1.42 billion, which for the first time bested the total for Little Caesar Enterprises, Inc., moving Papa John's into third place in the U.S. market, behind only Pizza Hut ($5 billion in U.S. systemwide sales) and Domino's ($2.56 billion). Papa John's corporate revenues reached $805.3 million, while net income climbed to $47.3 million.

Transitioning into More Mature Company in the Early 2000s

In the early 2000s Papa John's considerably slowed down its expansion as it focused more on improving profitability in an environment highlighted by ongoing price competition, a slowing economy, and high cheese costs. The company began closing underperforming units in 2001, countering the more limited store openings. In 2003, for instance, 103 Papa John's restaurants were opened but 105 were shuttered. Growth was targeted to the West and Northeast. Looking for an edge in an increasingly competitive sector of the restaurant industry, Papa John's made another rare addition to the menu in September 2002 with the rollout of Papa's Chickenstrips, made from all-white-meat, boneless, breaded chicken. The company also began introducing specialty pizzas. On the overseas front, Papa John's entered China in 2003, its 14th international market, and it also converted 60 Perfect Pizza restaurants in the United Kingdom to the Papa John's format, reducing the Perfect Pizza chain to 135 locations.

Corporate revenues fell in both 2002 and 2003, dropping from $971.2 million to $917.4 million over that period. Net income fell from $47.2 million to $33.6 million during the same time span. This stagnation continued in 2004 when Papa John's announced plans to shutter about 120 more stores. Late in the year the company cut 70 positions across its corporate staff in order to reduce annual expenses by about $2.3 million. Around this same time, Papa's Wings chicken wings were added to the menu. For the year, systemwide sales increased just 0.1 percent. Five more international markets were entered during 2004: Russia, Trinidad, Peru, Bahrain, and Oman.

In a potential signal of a new era at the company, Papa John's hired Nigel Travis as president and CEO, replacing Schnatter, who remained chairman. Travis had served as president and COO of the Blockbuster Inc. video store chain from 2001 to 2004. A British national, Travis had an earlier five-year stint at Burger King Corporation, serving in various leadership positions for the fast-food company, which at the time was owned by the U.K. firm Grand Metropolitan plc. With sales for 2005 expected to remain stagnant or increase no more than 2 percent, Papa John's kept its expansion plans in check, anticipating opening 80 to 100 domestic units while closing a similar number. International operations were expected to grow by as many as 50 net units. It was clear that Papa John's had entered a much slower growth phase in its evolution, and that it had become nearly impossible for the company to reach a goal that Schnatter had set in the heady days of the late 1990s: overtaking Pizza Hut--thereby becoming the number one pizza chain--within ten years.

Principal Subsidiaries: Papa John's USA, Inc.; PJ Food Service, Inc.; PJFS of Mississippi, Inc.; Papa John's Support Services, Inc.; Risk Services Corp.; Capital Delivery, Ltd.; RSC Insurance Services Ltd. (Bermuda); Colonel's Limited, LLC; Papa John's (U.K.) Ltd.; Perfect Pizza Ltd. (U.K.); Perfect Pizza Holdings, Ltd. (U.K.).

Principal Competitors: Pizza Hut; Domino's, Inc.; Little Caesar Enterprises, Inc.

Chronology

• Key Dates:
• 1984: John Schnatter and partner Bob Ehringer begin selling pizza out of a converted broom closet of Mick's Lounge in Jeffersonville, Indiana.
• 1985: Schnatter opens the first Papa John's restaurant in a retail space next to the bar.
• 1986: Franchising of Papa John's begins.
• 1989: Company headquarters are shifted to Louisville, Kentucky.
• 1993: Papa John's goes public, raising about $12 million through an initial public offering (IPO).
• 1996: The thousandth Papa John's is opened.
• 1998: International expansion begins with opening of units in Mexico and Puerto Rico.
• 1999: Company opens the 2,000th Papa John's restaurant; the U.K. pizza chain Perfect Pizza Holdings, Ltd. is acquired; Papa John's moves into third place among U.S. pizza chains.
• 2005: Nigel Travis is hired as president and CEO, with Schnatter remaining chairman.