Krispy Kreme's Competition

Last month, Krispy Kreme(NYSE: KKD) CEO Scott Livengood joined David and Tom Gardner on The Motley Fool Radio Show. In part 2 of their interview, Livengood discusses Krispy Kreme's competitors, how it differentiates itself, and whether he would want to wave a magic wand to get rid of Dunkin' Donuts or Starbucks(Nasdaq: SBUX). 

TMF: Scott, who is your primary competition?

Livengood: You keep asking me these hard questions. I don't want to dodge anything. 

TMF: So our listeners can understand the company.

Livengood: It depends on what time of the day. Half of our sales occur in the morning. The other half of our sales occurs in the evening, the late afternoon and evening. Again, that home-to-work or work-to-home equation, I think, is a real strong driver of sales -- and seeing the "Hot Doughnuts Now" sign lit up as people drive by. 

So, in the morning I expect that people are making choices between other breakfast alternatives or coffee alternatives. We just introduced our new blends of coffee last October, which was a result of the acquisition of a coffee-roasting company a couple of years ago. So, in the morning it is a choice on where we are going to go for coffee or a doughnut -- or is it some other breakfast alternative? In the evening, I think it comes down to what the other specialty treats are. How are we going to treat ourselves tonight? So, it might even be an ice cream -- a specialty ice cream store. 

TMF: Now, Scott, a lot of people would obviously think that Dunkin' Donuts, a company that has been around a long time, would be a direct competitor in the morning, as you say. Now you are mentioning coffee, and that is part of your model, too. I think of Starbucks. So let me ask you, if you could wave your competitive magic wand for a second and cause one company to vanish from the face of the earth... No hostility here. It is just magical.

Livengood: Sounds pretty hostile to me.

TMF: No, no. It is just magic. You are sending them to heaven. 

Livengood: It wouldn't hurt. It wouldn't be painful. 

TMF: Would you prefer that Starbucks disappear or Dunkin' Donuts disappear?

Livengood: You know, I respect both of those companies. And it probably sounds disingenuous to say that we are so focused, we are so blessed as a company to have the powerful brand that we have, and to have the kind of connections with customers that we have.

Just think about it. We are a 67-year-old business. We have artifacts in the Smithsonian Institution. We are in the infancy of our growth. We are opening stores around the country that have lines of people wrapped around the store. People camping out the night before the opening, mile-long lines at the drive-thrus.

We are so fortunate to have the brand and the customers that we have that we are just out trying to do the best job we can to serve our customers and build stores. 

TMF: So, you are saying you would not wave that magic wand?

Livengood: I wouldn't. We got enough magic with this brand that I don't need a wand.

TMF: Not everyone is a believer in Krispy Kreme. We have had investors come on this program over the last year and talk about some of the competitive advantages or disadvantages of this business, comparing it to Dunkin' Donuts in the past.

So, for the fun of it, Scott, we want you to respond to the skeptics who say the following: One, Krispy Kreme Original Glazed doughnut has 12 grams of fat, the same amount of fat as a McDonald's sundae. So, Krispy Kreme's popularity will wane as Americans grow more concerned with their health. Your response?

Livengood: Well, first, the factual errors. There are 10 grams of fat in Hot Original Glazed and 199 calories. 

TMF: There goes one of our producers.

Livengood: Was he the one who said that?

TMF: (Laughing) Mark it down to 10. 

Livengood: And less fat and calories than a bagel and cream cheese. So we are not.... We don't consider ourselves purveyors of health food, but we do consider ourselves to be a wholesome treat. 

You know, what I say to those folks is, you don't have to guess. You really don't have to guess about what is going to happen with Krispy Kreme. You only have to look back over the company's 67-year history and see how customers respond to the company over time.

What begins as new love and this outpouring of affection when we open stores in new markets -- I think it evolves to almost becoming a member of the family. You have become part of the life experience of people, and good times and memories are connected to the brand and the experience in the store.

TMF: No. 2 point of skepticism: Krispy Kreme stock is overpriced and already reflects the best possible scenarios for future growth.

Livengood: Well, I am in the fortunate position of knowing probably better than anybody what I consider to be the power of the Krispy Kreme brand: the connection that we have with customers. To have been a part of the experience here with the company, I have seen the business model evolve. We repositioned the business from a wholesale business, which created some retail opportunities, to this management team -- the one that repositioned our brand around the retail store experience. We have created new channels of sales. We have expanded our equipment, our manufacturing capabilities, to include new technologies that make our equipment more efficient. 

Our business model is a franchise growth concept that our stores become our customers. So not only are we generating royalties from the stores all around the country -- and soon to be around the world when we open our first store in Sydney, Australia, in June. Then we generate income from the mixed sales that the company has, the equipment sales that our company has, the supplies it takes to run our stores, and now the coffee that we are roasting. 

It is a model that has multiple levers. It gives us insulation during difficult times as you are seeing right now, but it gives us that many more ways of going to market and capitalizing on the good times as well. So, I think folks who really understand Krispy Kreme and understand our business model understand the potential of this brand. And again, I am fortunate to be in a position to see that more clearly than anybody.

TMF: The final point from the hardened skeptics out there: You mentioned the franchise business. What do you say to the investor who says, "I have seen these franchise models come along. Boston Market, TCBY -- these franchise businesses don't succeed over long periods of time"? How is Krispy Kreme different? 

Livengood: Sounds like you really went and plucked the best in the class to compare to. 

TMF: (Laughing.) I guess we conveniently left out McDonald's(NYSE: MCD). They're franchised.

Livengood: They didn't have a bad run. I'll bet you they don't think they are through yet.

TMF: What is different? What happened to Boston Market that you do not think will happen to Krispy Kreme?

Livengood: Our stores have the strongest unit economics in the industry. Our stores generate over 60% cash-on-cash returns. The best-of-the-best in the industry, and it way outpaces anybody else in the food service business. We have the strongest group of franchisees (1) because of the brand, and (2) because of the unit economic potential. It gives us the opportunity to choose the best in the class.

What you see with Krispy Kreme is a 67-year-old business, as I said. It is not like we have to guess, "Is this start-up going to make it?" We are there. We are in the Smithsonian.

The other is it is a best-of-class product, and it is the best-of-class people executing the growth strategy. I would bet on Krispy Kreme. I have.

Come back tomorrow for the last installment of David and Tom Gardner's interview with Krispy Kreme CEO Scott Livengood, as they discuss international expansion and more coffee.

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