Numbers can lie -- but they're the best first step in determining whether a stock is a buy. In this series, we use some carefully chosen metrics to size up a stock's true value based on the following clues:

  • The current price multiples
  • The consistency of past earnings and cash flow
  • How much growth we can expect

Let's see what those numbers can tell us about how cheap Krispy Kreme Doughnuts (NYSE: KKD) might be.

The current price multiples
First, we'll look at most investors' favorite metric: the P/E ratio. It divides the company's share price by its earnings per share (EPS) -- the lower, the better.

Then, we'll take things up a notch with a more advanced metric: enterprise value to unlevered free cash flow. This divides the company's enterprise value (basically, its market cap plus its debt, minus its cash) by its unlevered free cash flow (its free cash flow, adding back the interest payments on its debt). Like the P/E, the lower this number is, the better.

Analysts argue about which is more important -- earnings or cash flow. Who cares? A good buy ideally has low multiples on both.

Krispy Kreme has a P/E ratio of 80.7 and an EV/FCF ratio of 32.6 over the trailing 12 months. If we stretch and compare current valuations to the five-year averages for earnings and free cash flow, Krispy Kreme has a negative P/E ratio and a five-year EV/FCF ratio of 24.8.

A one-year ratio under 10 for both metrics is ideal. For a five-year metric, under 20 is ideal.

Krispy Kreme is zero for four on hitting the ideal targets, but let's see how it compares against some competitors and industrymates. 


1-Year P/E

1-Year EV/FCF

5-Year P/E

5-Year EV/FCF

Krispy Kreme 80.7 32.6 NM 24.8
Wendy's/Arby's Group (NYSE: WEN) 248.4 14.0 NM 20.8
Sonic (Nasdaq: SONC) 27.4 14.8 10.6 18.7
Papa John's International (Nasdaq: PZZA) 12.8 15.2 13.6 14.1

Source: Capital IQ, a division of Standard & Poor's; NM = not meaningful.

Numerically, we've seen how Krispy Kreme's valuation rates on both an absolute and relative basis. Next, let's examine...

The consistency of past earnings and cash flow
An ideal company will be consistently strong in its earnings and cash flow generation.

In the past five years, Krispy Kreme's net income margin has ranged from -16.2% to 1.4%. In that same time frame, unlevered free cash flow margin has ranged from 3% to 4.8%.

How do those figures compare with those of the company's peers? See for yourself:

Source: Capital IQ, a division of Standard & Poor's; margin ranges are combined.

Additionally, over the last five years, Krispy Kreme has tallied up one year of positive earnings and five years of positive free cash flow.

Next, let's figure out...

How much growth we can expect
Analysts tend to comically overstate their five-year growth estimates. If you accept them at face value, you will overpay for stocks. But while you should definitely take the analysts' prognostications with a grain of salt, they can still provide a useful starting point when compared to similar numbers from a company's closest rivals.

Usually, we'd look at how Krispy Kreme has done in the past, and compare it to analyst estimates. Unfortunately, Krispy Kreme's past unprofitability renders a trailing growth rate meaningless, and analysts don't have estimates for its future growth. Still, we can see how its competitors have done, in case there's an opportunity there.

Here's the trailing five-year growth:

Source: Capital IQ, a division of Standard & Poor's; EPS growth shown.

And here's the growth analysts expect over the next five years:

Source: Capital IQ, a division of Standard & Poor's; estimates for EPS growth.

The bottom line
The pile of numbers we've plowed through has shown us how cheap shares of Krispy Kreme are trading, how consistent its performance has been, and what kind of growth profile it has -- both on an absolute and a relative basis.

The more consistent a company's performance has been and the more growth we can expect, the more we should be willing to pay. We've gone well beyond looking at an 80.7 P/E ratio.

Krispy Kreme has done an admirable job improving its margins over the past few years. Its turnaround story is one to watch. Also, the numbers at Papa John's catch my eye -- they're solid all around.

If you find any of these numbers compelling, don't stop. Continue your due diligence process until you're confident that the initial numbers aren't lying to you.

Interested in reading more about any of these stocks? Add them to My Watchlist to find all of our Foolish analysis.

Anand Chokkavelu doesn't own shares in any company mentioned. The Fool has created a covered strangle position on Papa John's International. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.