Dunkin' Brands Group (DNKN) has been around for 60 years; it's nearly 100% franchised, which keeps costs low; and it has significant domestic and international growth potential. However, while it has outperformed Tim Hortons (THI.DL) over the past year, seeing stock appreciation of 58.6% versus 29.6%, it has grossly under-performed Krispy Kreme Doughnuts (KKD), which has enjoyed stock appreciation of 116.6% for the same time frame. This includes a 19% hit over the past month.
Investors like to pay attention to recent stock performance, and momentum plays a role, but if you're looking for long-term rewards, then you need to look at the underlying business and its prospects. Let's take a look at Dunkin' Brands and the potential it offers investors going forward.
Hitting on all cylinders
After showing comps growth of 4.2% in the third quarter (year over year), Dunkin' Brands has now delivered 45 consecutive quarters of comps growth. National marketing campaigns ($300 million franchise-funded advertising budget), limited-time offers, geographically targeted offers, an enhanced loyalty program, and broad product diversification have all helped fuel consistent growth.
Dunkin' Brands has also hit a home run with its app downloads, which now total more than 4 million, offering consumers more speed and convenience. Dunkin' Brands is clearly performing well, but this might only be the beginning.
Future plans
Dunkin' Brands' core market is New England. Its established market is the Northeast excluding New England (New York, New Jersey, Connecticut, Pennsylvania). Its emerging market is the South and Midwest. And then there's simply the West, where an enormous amount of potential exists.
Dunkin' Brands is expanding West. When its stores start popping up in many high-potential markets, consumers are likely to be eager to give it a go. This is somewhat predictable since established brands entering new markets tend to perform well.
A first-year Dunkin' Donuts restaurant in the West is expected to deliver a cash-on-cash return of 21%, whereas a first-year Dunkin' Donuts restaurant in a core or established market is expected to deliver a cash-on-cash return of 17%. First-year earnings before interest, taxes, depreciation, and amortization in the West: 7%, versus 6% for a restaurant in a core or established market.
Dunkin' Brands also aims to grow internationally. It's likely to see much success in Russia and Germany, where it has the most room to grow its brand and consumers are stronger than in most other nations.
Domestic Westward expansion as well as international expansion offer great potential. Now let's take a look at some expectations.
Long-term drivers and targets
Dunkin' Brands expects long-term consolidated comps growth of 2%-4%, net unit development of 4%-6%, and for its cost structure to drive margin expansion 150 to 200 basis points per year. This is expected to lead to improved free cash flow, which can then lead to increased capital returns to shareholders.
Currently, Dunkin' Brands yields 1.6%. Comparatively, Tim Hortons yields 1.7%. Krispy Kreme doesn't offer any yield.
Dunkin' Brands has a long-term revenue growth target of 6%-8%, adjusted operating income growth of 10%-12%, and adjusted earnings-per-share growth of more than 15%.
Peer comparisons
Dunkin' Brands offers great potential, but it's trading at 27 times forward earnings. Krispy Kreme is trading at a similar valuation of 26 times forward earnings. Tim Hortons is trading at just 18 times forward earnings.
Tim Hortons saw revenue increase 2.9% in its third quarter. More importantly, comps climbed 1.7% in Canada and 3% in the United States. On a sequential basis, Canadian comps weren't as impressive as last quarter, when they grew 1.9%. But in the United States, comps grew at a faster rate than in the previous quarter, which showed a 2.3% improvement. This is important because not many restaurants (of any kind) are showing growing comps. This is another example of an established brand entering a new market.
Just as Dunkin' Brands is likely to succeed in the Western United States, Tim Hortons is seeing strong demand in a new market thanks to being an established brand. However, Tim Hortons must compete on Dunkin' Brands' territory in the Northeast in order to succeed. This won't be an easy feat.
As far as Krispy Kreme is concerned, I tend not to trust companies that were once suspected of accounting irregularities. That said, Krispy Kreme's revenue jumped 6% in the third quarter year over year, with comps shooting up 3.7%, making this 20 consecutive quarters of positive comps. The problem with Krispy Kreme is that it's growing too fast. The company has already stated that it's likely to see negative international comps, which stems from cannibalization.
Sugar rush or sustainable growth?
Krispy Kreme has outperformed its peers in regards to stock appreciation, but Dunkin' Brands and Tim Hortons are showing consistent comps growth, they offer more product diversification, stronger brands, and are likely to present better long-term investment potential. Also keep in mind the dividend payments, which Krispy Kreme doesn't offer.
