This spring, when Domino's Pizza began offering a large, one-topping pizza with cheesy bread sticks for just $9.99, the folks at Buck's Pizza countered with an extra-large, two-topping pizza with cheese sticks for $12.99.

"Being a smaller chain, with 80 stores, we follow what the national advertising is," said Neil Shindledecker, director of marketing for the chain, which has stores in 21 states. "Customers will call us up looking for the same deal Domino's has."

While sectors such as the airline and automotive industries have used discounting and incentives to gain market share, the effect has been especially pernicious in the world of pizza.

"The price of pizza hasn't increased in the last 10 years," said Marc Botts, associate editor of Pizza Today, an industry trade magazine. "I don't see how some of these people can keep these prices so low. But then another price war comes along and drives them down even further.

Pizza Counters

Over the past four years, the industry's Big Four -- Pizza Hut, Domino's, Papa John's ( PZZA) and Little Caesar's -- have discounted so much that average check prices at pizza parlors have stagnated. In the first quarter of 2001, the average eater check at quick-service pizza chains was unchanged from the previous year, according to NPDFoodworld, an industry tracker.

"If one chain cuts prices, usually the other ones are sure to follow. And the one that dictates is Pizza Hut," said Dennis Joe, an industry analyst with Sidoti Research.

And Pizza Hut, a unit of Yum Brands ( YUM), has been discounting heavily.

The chain is the undisputed leader in the category, with 2001 gross sales of $7.2 billion, just about double what second-place Domino's booked in the same year, according to Pizza Today. But over the last five years, Pizza Hut's market share has dropped from 21.8% in 1997 to 20.1% in 2001, according to industry-tracker Technomic. And that's one reason the company recently priced a large "Insider" stuffed-crust pizza with one topping for just $9.99.

A Smaller Slice of the Pie
Since 1997, industry leader Pizza Hut has seen its market share eroded by competitors like Papa John's, whose share has increased by leaps and bounds. To protect their corner of the market, Pizza Hut has been offering heavy discounts.
Chain Market Share
1997 1998 1999 2000 2001
Pizza Hut 21.8% 21.5% 21.2% 20.6% 20.1%
Domino's Pizza 11.5 11.3 11.3 10.9 11.3
Papa John's 4.0 5.2 6.0 6.9 7.0
Little Caesar's 8.2 7.4 6.2 5.3 5.0
Chuck E. Cheese's 2.0 2.0 2.2 2.4 2.5
Source: Technomic

And discounting isn't just used to protect margin share. It's also used to launch new products, which are introduced at low price points to boost sales -- a tactic employed by Little Caesar's when it launched a line of deep-dish pizzas. "They had 11% growth in same-store sales, largely from the deep dish," said Botts. "The rest of them, sales were rather flat. The thought is, if we give them a new reason to come to us, we'll have an edge."

But such discounting comes at the expense of profits. "Yum Brands doesn't break out the numbers, but Taco Bell and KFC have extremely strong comparable sales and that's helping them mask the eroding margins at Pizza Hut," Joe said.

When it comes to discounting, pizza chains are damned if they do and damned if they don't. Consider the case of Papa John's, which doesn't discount and battles on pizza quality instead of price points. In the first quarter of 2001, the company's revenue was down 1.4% year-over-year, with sales at stores open for at least a year down 2% due to the competitive environment. In June, same-store sales were off 2.3%, despite the fact the company ran a national promotion.

"Customers see that they can pay a little more at Papa John's or less at Pizza Hut. And they're choosing Pizza Hut," Joe said.

Behold the Power of Cheese

Such tactics may cut into profit margins, but this year, pizza chains have even more leverage because the price of cheese has dropped 40% from last year's levels. On Thursday, the price of a block of cheddar cheese fell to $1.0175, a low unseen since Nov. 10, 2000, and well off from $1.67 a block, where it was a year earlier.

Cheese Factor
In the last 12 months, the price of a block of cheddar cheese has fallen 39%. But over the past six months, this drop has accelerated, outpacing stumbles in eggs and oats.
Commodity Jan. 25 Feb. 25 Mar. 25 Apr. 25 May 25 June 25 July
6-Month Change
Cheese, cost per block $1.385 $1.165 $1.230 $1.255 $1.200 $1.085 $1.0175* -27%
Eggs, cost per dozen 0.67 0.56 0.74 0.45 0.48 0.55 0.55 -18
Oats, cost per bushel 2.21 2.51 2.41 1.89 2.24 2.18 1.90 -14
Sugar, cost per pound 7.67 6.92 7.33 7.09 7.42 6.67 7.87 +3
Wheat, cost per bushel 3.010 2.844 2.994 2.774 2.734 2.924 3.244 +8
Source: Cheese Reporter, Baseline, TSC Research. *Lowest level since Nov. 8, 2000

"This is about as low as prices can possibly go," said Dick Grove, editor of Cheese Reporter, an industry trade magazine. "The government supports the price of cheese at $1.13 per block, so this means someone is selling cheese for about 11 cents less than they could have."

Chains have more incentive to drop prices without devouring their profit margins. "Cheese is the most expensive ingredient on the pizza. You're looking at $2 just to put it on the pie," said Tom Boyles, editor of Pizza Marketing Quarterly, a trade magazine. "And when those prices drop, they can make a lot more money."

As a result of this discounting, Boyles said a new industry standard in pizza has emerged -- a large pizza with toppings and extras for less than $10. "These $9.99 deals have been going on for five years already," Boyles said. "But you can't reduce the price on something that you're not willing to do again. It's really hard to bring prices back up."

This summer, penny-pinching pizza lovers can really pack it in. In Phoenix, people can get a large pizza with unlimited toppings from Domino's for $8.99. Or a medium pizza with one topping and a two-liter bottle of Pepsi from Pizza Hut for $8.99. Or two large pizzas with one topping from Little Caesar's for $13.99.

"Competition has been an awful good way of keeping customers happy," Shindlebecker said, adding that Buck's Pizza offers a large one-topping pizza for $5.99. "Now they're able to purchase at prices we saw back in the early 1990s."