Did Krispy Kreme Just Pass Starbucks and Dunkin' Brands?

Last week, I previewed Krispy Kreme Doughnuts (NYSE: KKD  ) quarter, and wondered (openly) if it was on the cusp of challenging rivals Starbucks (NASDAQ: SBUX  ) and Dunkin' Brands Group (NASDAQ: DNKN  ) at last. With another quarter in the books, and new comments from management regarding Krispy Kreme's growth trajectory, there's quite a bit to digest.

Here's a closer look at Krispy Kreme's fourth quarter results, and how it's stacking up to the giants of coffee, donuts, and bagels. 

Image courtesy of Flickr/AngieSix

For starters, a solid quarter
Before I reexamine what I was personally watching this quarter, let's give Krispy Kreme some well deserved kudos. This company has come a long way in the past few years, and it's performing well. The most impressive part of the quarter was that Krispy Kreme's operating income rose a whopping 27%, and net income spiked 37%!

With that in mind a few things are clear. Krispy Kreme's management is proving to be an efficient operator, it's controlling costs which is essential for a lower margin business, and squeezing a nice profit out of revenue. That's good news. However, the stock has been on a tear, and with an earnings multiple nearing 50, Krispy Kreme needs to be more than an efficient operator.

It needs rock'em, sock'em, growth.  

Top-line and comps: good but not great
This quarter Krispy Kreme saw revenue growth of 3.3%, (5.5% excluding the effects of refranchising stores), and comparable sales of 1.6%. This was a bit of a let-down for two reasons.

First, Krispy Kreme's growth of late has been a result of strong performance in its external supply chain segment, even as management has stressed the importance of store growth. The only clear measure we have of store growth is comparable store sales, and this was Krispy Kreme's poorest performance in comparable sales this year.

Image courtesy of the wikimedia commons

Second, this result does not stack up favorably to Starbucks and Dunkin'. To be honest, 1.6% comparable sales growth is not horrible for a restaurant. Yet when you compare it to more entrenched competitors, it falls a bit short.

For this stock to get to another level, at a rich valuation, it needs a catalyst. Dunkin' and Starbucks each grew their top lines in excess of 10% in their most recent quarter, and comps grew at rates of 3.5% and 6% respectively. They're both simply growing faster (from a larger base). It's tough to shrug at Krispy Kreme's growth but, when compared to Starbucks and Dunkin', I feel most investors will "shrug" at today's value proposition. 

I should mention that management did say that weather knocked about 1% off of comparable store sales this quarter. The "weather" excuse has a bit more legs for restaurants than it does for other retailers, as well. Unlike, say, a grocery store, if a restaurant misses a day of sales on bad weather, that day is lost.

In other words, if the weather forces me to miss my daily trip to Krispy Kreme, I'm not likely to buy two doughnuts the next day to "make up" that sale (and if I do, don't tell my wife)! 

I buy the weather excuse, because these were Krispy's lowest comparable sales numbers of the year. But I said I was looking for comparable sales over 3%, so by my own criteria, comps were a slight disappointment this quarter. 

Un-realistic expectations?
Despite the jump in net income, Krispy Kreme actually missed analysts earnings expectations slightly. The stock rallied primarily due to a rosy outlook for the year to come; is the forecast realistic?

I'm focused on store count and comparable sales for this stock, because I feel the supply chain growth has a ceiling. With that said, personally, I am confused by management's targets.

On one hand they expect to grow net new stores by 10% (80 stores) this year; yet, in the same breath, they said their target is 1,300 stores by January of 2017. This means that they are hoping that new stores will accelerate at a faster clip in 2015 and 2016 then they did this year or last. But I'm not sure why they would expect this, typically as store count grows, the rate of growth slows down. 

Image courtesy of Flickr/Gloria Cabada-Leman this is a burger from the NC state fair with a Krispy Kreme bun. Yes, it looks gross, but is probably delicious!

Krispy Kreme: a victim of its own success
Krispy Kreme is caught in a bit of a catch-22 that could put a ceiling on store growth. The product they are most synonymous with, the product that brings them a loyal fan base, will always face health related headwinds. This has lead to some store closings over the years, and the company plans a few strategic closings this year as well. While it will add a positive store count for the year, I view this purposeful "shifting" for demand, as a factor that will mute store growth. 

Add the fact that the vast majority of new store growth this year is expected overseas, and there is added uncertainty.

It all adds up to a recipe for a good company, and a good stock, but not a "buy at any price" growth story. I'm leaving Krispy Kreme on the shelf for now, and waiting for a better price.

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