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Krispy Kreme Doughnuts (KKD), Dunkin Brands Group Inc (DNKN): Investors Find a Hole in This Doughnut

So what’s the problem?

“If domestic growth is strong and international growth is OK, then what’s the problem?” you might be asking. The answer is simply that investors’ emotions have gotten out of hand.

Investors are notorious for pushing share prices far too low when times are bad and overestimating a company’s market value when times are good. This appears to be another case in which shareholders took a few of the carrots that Krispy Kreme dangled and ran too far with them.

Over the past few months Krispy Kreme has rewarded shareholders by retiring $22 million in debt and announcing a $50 million share repurchase program.Both announcements are good news for shareholders; don’t get me wrong. However, share repurchase programs that are announced when a stock is very near a 52-week high rarely translate into good value for shareholders, historically speaking. In fact, share repurchases can often hide the fact that near-term growth is expected to slow by helping to reduce the amount of shares outstanding and boosting EPS.

Shareholders appear to have been expecting the cow from Krispy Kreme this quarter and are disappointed to have only been brought the milk instead. Does this mean Krispy Kreme failed to live up to its own growth forecasts? On the contrary, Krispy Kreme is executing exactly as it said it would. The only factor that didn’t meet spec this quarter was investors’ lofty expectations.

What’s next for Krispy Kreme?

Following its report, Krispy Kreme will continue to focus on domestic and international expansion. I feel it will become increasingly difficult for Krispy Kreme to be able to grow its same-store sales figures by double digits even with the introduction of new products and expansion into untapped markets. Realistically, I look at Krispy Kreme’s projected P/E in fiscal 2014 of 37 (assuming the high end of its forecast, $0.63) as compared to its full-year sales growth forecast of roughly 8% and am a bit concerned that emotions are getting the better of investors.

I fully understand the notion of wanting Krispy Kreme to succeed as an investment, and all signs have pointed to a sustained turnaround, but the valuation simply doesn’t match what Krispy Kreme is fundamentally able to bring to the table. Until sales growth improves, costs decline, or profits are pumped up, I feel shareholders could be in line for more bouts of “buy the rumor, sell the news” come earnings time for the foreseeable future.

The article Investors Find a Hole in This Doughnut originally appeared on Fool.com and is written by Sean Williams.

Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.The Motley Fool owns shares of, and recommends, McDonald’s, Panera Bread, and Starbucks.

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

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