Krispy Kreme And Its Coffee Competition

Includes: DNKN, KKD
by: Value Line


In this article, we analyze the business model of Krispy Kreme and one of its competitors, Dunkin' Brands Group.

Krispy Kreme has expanded its coffee offerings in recent years to include flavored lattes, chilled drinks, and other beverages in addition to its Signature Coffee Blends.

Over the last two years, KKD’s share price has risen from just over $6 to over $20 today.

By Adam James Platt

Two years ago, we presented a comparison between the business models of Krispy Kreme (KKD) and Dunkin' Brands Group (DNKN). At the time, Krispy Kreme had changed its strategy after a tumultuous decade in which overly aggressive expansion led to numerous difficulties including failing franchises and gargantuan losses and debt. After several years of retrenchment and recovery, management had decided to focus its business model on coffee far more than it had in the past. Its main competitor, Dunkin', had seen staggering success through its focus on coffee, as a result of both higher profit margins on coffee than on doughnuts, and a much higher visit-frequency from repeat customers, as coffee drinkers often return to their favorite stores daily or even several times a day.

In light of this, Krispy Kreme has expanded its coffee offerings in recent years to include flavored lattes, chilled drinks, and other beverages in addition to its Signature Coffee Blends. It has also offered its coffee blends in retail bags and K-cups for home brewing.

The company's shift toward beverages has taken place quickly, as the proportion of revenues from beverages has risen from about 4% in 2012 to over 12% today, and the company aims for that figure to exceed 20% of sales in the near future. The focus on its signature blends is likely wise, with Krispy Kreme still accounting for only a small fraction of the domestic coffee and snack shop market, whereas Starbucks (SBUX) and Dunkin' Brands compose a solid majority of the market, despite Krispy Kreme doughnut's strong performance in taste tests. This indicates that in Krispy Kreme's industry, coffee is the key to success.

Over the last two years, KKD's share price has risen from just over $6 to over $20 today. Indeed, even that impressive increase in price is only after the shares took a tumble from their high of $26.60 in late 2013. This decline was likely due to an excessively optimistic valuation, rather than changing perceptions of the brand's success.

Same-store sales have increased consistently in recent years, with the exception of the May-ended quarter of this year, which saw some locations affected by bad weather. Part of the success has been based on the creation of smaller stores. So far only a small number of these leaner units exist, but they are performing very well as a group, and the company is aiming to enlist new domestic franchisees to open these smaller-model outlets. It is also expanding internationally, with a strong presence in some different markets, such as Saudi Arabia, and over 100 locations in Mexico as of last year.

Dunkin' Brands has seen strong growth in recent years, as well. It has expanded its mobile and loyalty programs in recent quarters, including the Dunkin' Donuts mobile app which has been downloaded 7.9 million times by consumers. It has also upgraded its sandwich menu in order to drive customer traffic during afternoon and evening hours, which are typically slow in Dunkin's breakfast-focused restaurants. Furthermore, the traditionally northeastern U.S.-based company is focused on expanding its presence and replicating its success in the western portion of the country. International expansion, however, is still focused on Baskin-Robbins, the company's ice cream chain, which has made inroads in the fast-growing Asia/Pacific market.

The big story of the past few months in this industry has been Tim Hortons (THI), the industry's leader in Canada, which has recently announced its intention to merge with Burger King Worldwide (BKW). THI shares surged on the news, which has somewhat reduced the stock's appeal, since it had previously been among the most conservatively priced issues in the sector. The combination is likely to foreshadow an increased U.S. market presence. The firm has been signing development agreements with franchisees, which already included deals to open about 135 units over the next decade, and we expect the U.S. expansion plans to accelerate dramatically in light of its new Burger King partnership.

Starbucks, the industry behemoth, has seen remarkable growth in recent years, with its share price growing more than tenfold since it hit bottom at the end of 2008. Already a global giant, it is still looking to capitalize on large growth opportunities in China, as well as enhancing its digital and mobile capabilities. It has also continued to expand its product selection of breakfast sandwiches and baked goods, as well as seeking new distribution channels and launching new retail products for its core coffee business.

Overall, the coffee and snack retail business appears to be an increasingly competitive and globalized market. However, the coffee business is so profitable that there still appears to be room for all of the major players to grow, as has been the case over the past few years. While Krispy Kreme's expansion into the coffee business proceeds apace, it has a long way to go before it competes directly with giants like Dunkin' and Starbucks for market share, while Tim Hortons looks set to hit the ground running in the domestic market.

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Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.