Gourmet chocolate producer Rocky Mountain Chocolate Factory's (NASDAQ:RMCF) business model has been under debate by two of my Foolish colleagues. S.J. Caplan identified its franchise model as the reason for its recent success. Nathan Parmelee countered that the very reason for its success may also be what does the company in.
The jury is still out on which argument will prevail but, at least in the short-term, it is a possible softening economy that is of greatest concern to Rocky Mountain investors.
In its earnings report released on Wednesday, the company's management identified hot summer weather and a modest softening of the retail economy as the reasons why same-store sales among its franchised units -- which make up the vast majority of its stores -- declined 0.8% versus the year-ago period. It is true that the company continued to see overall top-line growth of 12.2%, but this was due primarily to new store openings, which some could argue is a less efficient source of growth.
Its top-line growth trickled down to a bottom-line increase in earnings per share of 6.3%, or $0.17 for the quarter, one cent better than last year's second quarter. For the first half of fiscal year 2006, Rocky Mountain has earned $0.28 per share -- 12% more than a year ago. Considering that the company is reiterating its full-year earnings guidance of 20% to 25% growth, this suggests that the company's best two quarters of 2005 still lie ahead, as one would expect with chocolate-heavy holidays like Halloween and Christmas coming up.
Investors who have been waiting on the sidelines may be enticed to jump on board, now that the company is entering the strongest selling season for chocolate. However, Rocky Mountain's high valuation still remains a major concern, and investors may want to think again. Even taking into account the strong holiday season coming up, the company's valuation is still too sweet for my palate, trading at 24.6 times its estimated full-year earnings of $0.63 per share.
Because of its high valuation, as well as concerns about its franchise-heavy business model, investors should only consider owning Rocky Mountain as part of a well-diversified portfolio. And even then, a Foolish investor will want a better margin of safety before buying.
Care for more sweet Foolishness? Sample these:
- Too Sweet for Its Own Good
- Rocky Mountain's Golden Ticket
- One Sweet But Expensive Stock
- Sickly Sweet Stock Split
Fool contributor Jeremy MacNealy does not own shares of any companies mentioned.
