3 Reasons to Avoid Krispy Kreme's IPO (for Now)

Restaurant chain Krispy Kreme (DNUT -1.46%) went public earlier this month. It's a brand with a lot of recognition and it's surely something many retail investors are considering for their portfolios.

In this video clip from Motley Fool Live, recorded on July 2, Motley Fool bureau chief of healthcare and cannabis Corrine Cardina asks contributors Jon Quast and Jeremy Bowman what they think about the stock. They elaborate on three reasons to avoid the stock for now: It's not a frequently visited chain despite the quality of its product, it has a lot of debt, and it doesn't seem to have much optionality going forward.

Corinne Cardina: I want to talk about a really timely restaurant stock. It's an IPO [initial public offering] that just happened. It's been public before, but it's back, and it's Krispy Kreme. The ticker is D-N-U-T, doughnut. It also owns Insomnia Cookies, which is a college late-night favorite. What do we think? Is this a sweet stock at this price or do you think this is to be avoided for now? Jon, why don't you start on Krispy Kreme?

Jon Quast: We're going to talk about this in a minute but I think the most important investing takeaways for restaurant stocks is don't invest with your stomach. I think that Krispy Kreme doughnuts are the best doughnuts in the world. I'm sorry, Dunkin' people. I'm a Krispy Kreme guy, 100%. But as a business, it's a little bit difficult for me.

One of the things that stood out to me in the S-1, that's the document that they file when they go public, it says that customers visit less than three times per year. Now, when you think about it, that makes a lot of sense. Even myself, who is a doughnut aficionado, I love it, I don't go there very often. It's an indulgence, and that's really what's going on here. Even having a quality doughnut, it's not bringing the people in regularly. That's one of the hard things.

What's also really hard about Krispy Kreme for me as an investment is they're coming public with so much debt. Pre-IPO, $1.2 billion; the IPO proceeds are to pay this down. They had more in interest expense in 2019 than they had in operating income.

As an investment, I want to see how they get that debt load under control. I want to see how they are able to increase revenue, operating income, all those things before I consider investing.

Cardina: Jeremy, what do you think about Krispy Kreme?

Jeremy Bowman: I agree with what Jon said. I think that's a great point, too, about their customers only visiting three times a year. You think about a company like Starbucks or even Dunkin' Donuts who you might consider a competitor to Krispy Kreme. Those are places people go every day. Restaurants are a recurring-revenue model. It's one of the great things about them. I think you want to go to places that are investing in some stocks that are going to get repeat traffic.

Krispy Kreme is a brand that we all know. I think they have a great brand value in doughnuts, but I don't really see it extending beyond that. To the point I was just making, you think coffee would be an opportunity for them, but they haven't really gone into that. They're trying to sell other pastries in supermarkets, but they did this before in the early 2000s. They were the big fad, the stock soared for a couple of years, and then they overspent and they crashed.

I'm a little wary of it. It feels like we've-seen-this-movie-before kind of thing and Jon going into that with a debt and that stuff, it feels like there are lot of reasons to stay away.