Will Krispy Kreme Doughnuts (KKD)’s Sugar Rush Last?

Krispy Kreme Doughnuts (NYSE:KKD)Note: The article has been amended to update Baskin Robbins’ financial data.

This past year has been a sweet one for Krispy Kreme Doughnuts (NYSE:KKD). Shares of the doughnut chain, which investors had once left for dead, have risen nearly 190% over the past twelve months after the company staged a dramatic comeback fueled by double-digit growth in profit, revenue, and same-store sales. With the stock now trading near an eight-year high, is it too late for investors to sweeten up their portfolios with Krispy Kreme’s glazed goodness, or is there still room for future growth?

A little history

A decade ago, Krispy Kreme Doughnuts (NYSE:KKD) traded at $50. Most of Wall Street was convinced that the doughnut maker was a great growth stock, with solid top and bottom line growth fueled by rapid nationwide expansion. By 2005, however, market sentiment shifted dramatically, after the company reported several sequential earnings declines that sank it deep into the red. Krispy Kreme over-expanded and saturated areas so heavily that franchises were forced to compete with each other. As a result, same-store sales growth came to a grinding halt.

To make matters worse, a massive accounting scandal in 2005 tarnished the company’s credibility, and investors fled. The subsequent financial crisis swept away what growth was left in Krispy Kreme, and the stock fell to nearly $1 per share in March 2009. The bears proclaimed that its then privately held rival, Dunkin Brands Group Inc (NASDAQ:DNKN), had won, and that Krispy Kreme was doomed to slowly fade into obscurity.

A fattening first quarter

However, Krispy Kreme Doughnuts (NYSE:KKD)’s recent first-quarter results showed that the company had learned from the mistakes of the past. The company’s earnings rose 43% year-on-year to $0.20 per share, topping the consensus estimate of $0.17. Company-wide revenue climbed 11% to $120.6 million, also topping the $116.3 million that analysts had forecast. Same-store sales surged 11.4% from the prior year quarter.

By comparison, Dunkin Brands Group Inc (NASDAQ:DNKN) reported that is adjusted earnings rose 16% to $0.29 per share as revenue climbed 6.2% to $161.9 million. Same-store sales at its Dunkin’ Donuts stores rose 1.7% in the United States and 1.3% internationally.

Although Dunkin Brands Group Inc (NASDAQ:DNKN) blamed the weather for throttling its growth during the first quarter, one thing is clear — at this rate, Krispy Kreme could soon overtake Dunkin’ Donuts in terms of total sales growth.

Battling across the globe

Dunkin Brands Group Inc (NASDAQ:DNKN) Donuts appeared to struggle in Asia during the quarter, when it terminated its franchise agreement in Taiwan and closed all 19 of its locations on the island. This coincided with Krispy Kreme Doughnuts (NYSE:KKD)’s decision to open 10 stores in Taiwan through a similar joint venture with local conglomerate Huan Hsin. Taiwan is often considered a microcosm of the Greater Chinese market, which includes the mainland, Hong Kong, and Macau, so Dunkin’ Donuts’ retreat and Krispy Kreme’s expansion should be considered hints for future growth in the area.

However, Krispy Kreme’s international operations are still weak, with its international franchise stores reporting a same-store sales decline of 7.3% last quarter. Last year’s agreement with Star360 Group to expand into Singapore could help boost its global sales growth, especially in Asia.

Krispy Kreme Doughnuts (NYSE:KKD) currently operates 700 stores in 22 countries, which is still dwarfed by Dunkin Brands Group Inc (NASDAQ:DNKN)’ 10,500 Dunkin’ Donuts locations. Across Asia, Krispy Kreme has a presence in China, India, Indonesia, Malaysia, Thailand, the Philippines, South Korea, and Japan. Dunkin’ Donuts is present in all of these markets as well.

Krispy Kreme plans to increase its store count to 1,300 locations by 2017, which indicates that it plans to follow Dunkin Brands Group Inc (NASDAQ:DNKN)’ Donuts across the world, albeit with fewer stores per country.

Coffees or doughnuts?

While Krispy Kreme appears to be outperforming Dunkin’ Donuts at the moment, there are two other competitors investors should worry about — Starbucks Corporation (NASDAQ:SBUX) and McDonald’s Corporation (NYSE:MCD).

Up until the early 1990s, Dunkin’ Donuts continuously lost business to these two giants, which also offered coffee and desserts. Dunkin’ Donuts was able to bounce back by emphasizing its coffee offerings over its doughnuts. This change can be seen in Dunkin’ Donuts’ logo, which features a coffee cup instead of a doughnut. This subtle change made Dunkin’ Donuts a place to go to sit down with a cup of coffee and hang out with friends, rather than a simple “grab and go” doughnut shop. Today, Krispy Kreme Doughnuts (NYSE:KKD) is facing the same dilemma.

Today, many Wall Street analysts compare Krispy Kreme to McDonald’s Corporation (NYSE:MCD) and Starbucks Corporation (NASDAQ:SBUX), due to their similar focus on coffee and desserts. This is a problem that Krispy Kreme Doughnuts (NYSE:KKD) CEO Jim Morgan recently acknowledged, noting that shifting more of his company’s top line to beverages would help boost the company’s bottom line. “We are 87% donuts, and unfortunately 13% beverage,” he stated. “If we could get to 80% donuts and 20% coffee, that would be game-changing for us in terms of profitability.”

Sticking with the basics

In response, Krispy Kreme is offering more beverages, such as its new summer drinks, to be identified as both a coffee and beverage house as well as a doughnut shop. However, Morgan has stated that he doesn’t plan to completely emphasize Krispy Kreme’s beverages to remain competitive with McDonald’s Corporation (NYSE:MCD) and Starbucks Corporation (NASDAQ:SBUX). Morgan’s main philosophy is grounded in the core business that has defined the company for 75 years — its “Original Glazed Doughnuts.” He doesn’t seem particularly worried by Starbucks’ wider variety of drinks and pastries, or McDonald’s constantly shifting McCafé offerings.

For now, Morgan’s simpler strategy appears to be paying off. Last quarter, McDonald’s Corporation (NYSE:MCD) reported a same-stores sales decline of 1%, while Starbucks Corporation (NASDAQ:SBUX) reported a 6% gain. This could indicate that Krispy Kreme Doughnuts (NYSE:KKD)’s focus on a simple menu of doughnuts and coffee can generate more sales growth than more diverse offerings from McDonald’s and Starbucks.

The Foolish bottom line

While Krispy Kreme Doughnuts (NYSE:KKD), Dunkin Brands Group Inc (NASDAQ:DNKN)’ Donuts, McDonald’s Corporation (NYSE:MCD), and Starbucks Corporation (NASDAQ:SBUX) are all following different growth strategies, we should compare their fundamentals to understand which stock is likely to keep rising.

Forward P/E Price to Sales (ttm) Return on Equity Debt to Equity Profit Margin Qty. Revenue Growth (y-o-y) Qty. Earnings Growth (y-o-y)
Krispy Kreme 22.78 2.59 9.04% 9.44 5.08% 11.20% 32.70%
Dunkin’ Brands 21.94 6.32 19.24% 532.05 15.90% 6.20% -8.30%
Starbucks 23.94 3.37 28.97% 10.32 10.80% 11.30% 26.00%
McDonald’s 15.58 3.50 36.59% 84.04 19.79% 0.90% 0.30%
Advantage McDonald’s Krispy Kreme McDonald’s Krispy Kreme McDonald’s Starbucks Krispy Kreme

Source: Yahoo Finance, June 3, 2013

Although each of these three companies has specific strengths, Krispy Kreme is not terribly expensive from a fundamental perspective, despite its year-long rally. The company also boasts the lowest debt and strongest year-on-year bottom line growth. It’s clear that Krispy Kreme has left its dark days of over-expansion and accounting problems far behind it.

The new Krispy Kreme Doughnuts (NYSE:KKD) is a more robust business than before, and this time, it is well positioned to hold its own against its much larger rivals. Krispy Kreme has now reported 18 consecutive quarters of rising same-store sales at its company stores. I believe that this trend will continue throughout the rest of the year, as it rebuilds its brand through new social media initiatives, more beverage offerings, and a slow but steady expansion into new markets.

The article Will Krispy Kreme’s Sugar Rush Last? originally appeared on Fool.com and is written by Leo Sun.

Leo Sun owns shares of Starbucks. The Motley Fool recommends McDonald’s and Starbucks. The Motley Fool owns shares of McDonald’s and Starbucks. Leo is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.

Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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