Rocky Mountain Chocolate Factory (NASDAQ:RMCF), a leading gourmet chocolate manufacturer and retailer, has one sweet business model. A few years back, the company adopted a franchise-focused expansion policy, which has been the subject of some debate between Fools (see here and here). However, there is no doubt that the model has improved the company's operating margins and, in general, has strengthened the company's balance sheet. And as I found out when I visited a San Diego Factory over the weekend, the company's chocolates rank very high on the "Yummy!" scale (more on that later). For now, let's take a look at this quarter's numbers.
The numbers were somewhat bittersweet, from what I could tell. Revenues increased 26% to $6.8 million, and earnings 24% to $931,000. These were driven by factory sales to stores, while the high margin royalty fees (including marketing) were up by 10% and franchise fees were down 22% year over year because of a timing difference. In addition, management said that factory margins fell by 210 basis points, from 36.6% to 34.5%, which was due to a shift in product mix.
That being said, I thoroughly enjoyed my visit to the Factory on Saturday. The store was delightfully modern, with delicious chocolates carefully arranged on tables and behind the counter. The look was definitely more upscale than BerkshireHathaway's (NYSE:BRKa) See's Candy. I'd say the experience was more comparable to that of walking into a Godiva store (owned by Campbell Soup (NYSE:CPB)). A pound of assorted dark chocolates set me back a hefty $22, but they are truly delicious and, I dare say, worth the $8 premium to See's (heresy in California, I know).
However, from an investor standpoint, I'm concerned about the efficiency and sustainability of the business model. Same-store sales growth has been negative in two of the past five years, and only increased 0.4% last quarter. Same-store chocolate pounds purchased have also been flat for two years. Essentially, all of the growth in the business is coming from opening new franchise stores and not from existing stores, which could be a problem if the concept reaches a saturation point anytime soon.
Given that the product is a gourmet one and not predisposed to daily consumption, the market size is probably limited. Franchise models can be successful -- one only needs to look at Tim Hortons (NYSE: THI) to see an outstanding track record, with 97% of its store base franchised, along with a 10-year average of 7% same-store sales growth. With McDonald's (NYSE:MCD) and Yum! Brands (NYSE:YUM) (both heavy franchisers) also able to consistently boost store sales and transaction revenue, this makes me want to hold off on gobbling up some Rocky Mountain shares until I can see some better store results.
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Fool contributor Stephen Ellis does not own shares in any companies named above. You can view his holdings here . The Motley Fool has an ironclad disclosure policy .
