Analyst: Franchisee lawsuits may disrupt Papa Murphy's

Analyst: Franchisee lawsuits may disrupt Papa Murphy's

However, long-term prospects remain positive, according to Baird Equity note

Franchisee lawsuits targeting Papa Murphy’s Holdings Inc., the parent of Papa Murphy’s Take ’N’ Bake Pizza, could temporarily disrupt its development, but the company’s long-term franchise growth plan is solid, an analyst said in a report Thursday.

Last week, a group of 16 Papa Murphy’s franchisees filed a lawsuit charging that Vancouver, Wash.-based Papa Murphy’s misled them about expected sales and profit for new units and inaccurately depicted required marketing fees, David Tarantino of Baird Equity Research noted.

It was the second such lawsuit in recent weeks. In April, a group of 12 franchisees filed another lawsuit, just before Papa Murphy’s initial public offering [4].

Papa Murphy’s officials have denied the claims in the suits, saying their franchise document disclosure accurately portrays system performance and required marketing fees.

Tarantino wrote that though the issues appear to be isolated to a small portion of the franchise base, the negative perception may give new franchisees pause in signing development deals for 2015, when he expects the nearly-fully-franchised chain to add 120 new units, an increase from the 105 new locations expected this year.

Still, Tarantino expressed confidence that the company would see a gradual improvement in sentiment over time and healthy returns for patient investors.

“While we acknowledge potential for these issues to weigh on near-term sentiment (until the company demonstrates its franchisee-led growth plans are achievable), we also think FRSH [Papa Murphy’s ticker symbol] is capable of commanding higher valuation multiples over time,” given its solid long-term growth profile and asset-light business model, the report said.

Tarantino noted that Papa Murphy’s has more than 550 franchisees, with no other substantial litigation occurring in the last 13 years.

The chain has a “normal” closure rate, and sees “robust” reinvestment by existing franchisees, he said, indicators of a “healthy system.”

The 1,429-unit chain is expected to grow its unit count by 6 percent to 8 percent over the next five years, Tarantino projected. Company officials have said the chain could ultimately reach 4,500 units in the U.S.

Same-store sales are expected to grow a modest 2 percent annually, supported by growth in traffic and average check, including modest pricing, he said. Same-store sales have been positive in nine of the last 10 years, and have averaged an increase of 2.2 percent since 2009.

Domestic same-store sales for the March 31-ended first quarter rose 3.3 percent.

“Our recent discussion with management supports our comfort that the short-term risks are manageable at this stage,” Tarantino wrote.

Contact Lisa Jennings at [email protected] [7].
Follow her on Twitter: @livetodineout [8]