Papa John’s Founder Is Bailing, Good News for Hedge Fund

With the disgraced John Schnatter selling his stake, hedge operator Starboard gets a decent shot at a turnaround of the pizza company.

Papa John’s founder John Schnatter, forced out as chairman due to his racist remarks, is selling his 31% stake in the pizza chain, completing severing ties with it. This is a big help to his successor, hedge fund honcho Jeff Smith.

Smith’s Starboard Value fund, which now apparently is the largest shareholder in Papa John’s, with about 10% of the shares, has pumped $200 million into the company. And Smith, known for his turnaround chops as Starboard’s chief executive officer and chief investment officer, also is the restaurant company’s new chair.

Wall Street is applauding Smith’s replacing Schnatter and the founder’s unloading his equity holdings, a transaction that was revealed Monday in an SEC filing. After the news broke that Schnatter was selling his shares, the stock climbed 4.4%. It still is $10 shy of its level right before his racially insensitive comments became public last July. Shortly after the controversy erupted, Schnatter stepped down as board chairman but stayed on as a director.

Owing to the bad publicity, the chain’s sales tumbled last year. As a result, 2018 earnings were pared by about 90% compared to 2017’s showing, and Papa John’s slid deeply into the red. In this year’s first quarter, revenue has climbed back almost to its level before the controversy erupted. And its losses shrank considerably, as well.

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Analysts have reacted optimistically to Schnatter’s sale. Stifel Financial recently upgraded its rating on the stock to a “hold,” from a “sell.” An analyst’s report from the investment firm says that Schnatter’s stock divestment would help make Papa John’s easier to sell if the company were looking for a buyer.

More immediately, Stifel writes, the total removal of Schnatter from the company means it will enjoy greater sales of both its pies and its shares.

Smith’s track record as a turnaround artist was cemented by his Olive Garden revamp in 2014. When he became chair of Papa John’s in February, the stock quickly shot up from its 52-week low earlier in the month.

Smith’s slate of new directors has won Papa John’s favorable notice, in particular the addition of retired basketball star Shaquille O’Neal as the board’s first African American—a plus in light of the bad odor left by Schnatter, who also criticized football players kneeling during the National Anthem to protest racism. O’Neal owns nine Papa John’s outlets in the Atlanta area, and likely will become the chain’s public face, perhaps in TV ads.

Since Smith’s takeover, Papa John’s also has added Michael Dubin (CEO and founder of Dollar Shave Club) and Jocelyn Mangan (CEO and founder of board diversity venture Him for Her, and former executive at Snagajob and OpenTable) as independent directors. Plus, he put the new CEO, Steve Ritchie, on the board, as well as former Pinnacle Entertainment chief Anthony Sanfillippo.

“We believe investors are taking a more optimistic view of the company’s prospects, arguing a new brand spokesperson [O’Neal] coupled with new, highly-engaged board members can reverse the declining SRS/traffic and EBITDA trend,” Stifel writes. “We remain concerned low franchisee profits will require ongoing financial support from the company and declining transactions will pressure commissary profits but, in the near-term, investor optimism could outweigh these fundamental issues.

Schnatter, whose term on the board expired last week, did not run again. He had attempted to reclaim his throne through lawsuits and even tried to match Smith’s investment. But the board declined his offer. His likeness was removed from all marketing materials.

Neither Papa John’s, Smith, nor O’Neal could be reached for comment.

 

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