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Krispy Kreme Doughnuts (KKD) stock has more than doubled over the past 12 months and has rallied 23% so far in 2011. The company, whose stock peaked at more than $40 a decade ago and now trades at less than $10, reported surprising results, as earnings almost doubled in the most recent fiscal quarter as growth picked up.The cult favourite, known for its fresh glazed doughnuts, saw its shares jump 26% in reaction to the report. It may be best to wait for a pullback in the stock before getting long. The equity market may resume its corrective phase as the Federal Reserve’s QE2 program, in which the central bank is buying bonds to herd investors into riskier assets, concludes.
Delectable-doughnut seller Krispy Kreme, which reported results yesterday, boosted fiscal first-quarter sales 14% to $105 million, exceeding analysts’ projections by 8.5%. Adjusted earnings, which soared 86% to 13 cents a share, outperformed estimates by 48%. A closer look at the quarterly release demonstrates impressive operations. Company-owned same-store sales rose 5.8% during the quarter and franchise same-store sales climbed 4.6%.
Krispy Kreme held just under $25 million of cash at quarter’s end and $35 million of long-term debt, including $2.5 million of current maturities. If the company, which suffered GAAP net losses in two of the six preceding quarters, can maintain profitability, its stock may continue to rise. Based on peer valuation, it’s still attractive, selling for a free-cash-flow multiple of 16 and a sales multiple of 1.2, 32% and 58% peer discounts. The quarterly gross margin widened from 6.6% to 9.4%. More important to fundamental investors, cash from operating activities rose from $1.7 million to $5.1 million. Expansion is modest as managers focus on efficiency.
Krispy Kreme, though a recognised brand, has a market value of just $567 million, qualifying as a small-cap stock. Consequently, few sell-side researchers follow the company. Of those who do, five, or 50%, advise purchasing Krispy shares, three recommend holding and one advocates selling. Small-cap focused Sidoti & Company is the most bullish, ranking its equity “buy” with a $10 target, suggesting another 19% of upside. However, the median researcher target, at $7.93, implies that Krispy may need to fall 5% in order to reach fair value.
Janney Montgomery Scott offers a more sobering view. While conceding that Krispy handily beat its first-quarter earnings estimate, and the consensus, it warns of more difficult year-over-year comparisons in the fiscal-second and -third quarters. In last year’s second, same-store sales jumped 5.7% and they climbed 5% in the third. Janney boosted its fiscal 2012 and 2013 earnings estimates, by 3 cents each, a modest amount, but stressed downside risk in the stock. International growth continues to be a focus for this Southern U.S.-based food chain.
Janney notes that on a constant-dollar basis, Krispy’s international same-stores sales dropped 9.6%. Janney rates Krispy “neutral” with a $6 fair-value estimate, implying 30% of potential downside. In the past four weeks, shares have rocketed 56%, defying Janney’s call and ranking as one of the best-performing investments in global markets. The stock has popped 36% in the past five trading sessions. Yet it’s still down 83% from a peak reached in 2003, roughly three fiscal years after the company went public, so there’s ample room to retrace.
International business, though, aside from same-store sales, is booming as that is the key expansion venue for Krispy. It opened 16 international stores in the quarter and total international franchise revenue increased by 18%. The sharp drop in overseas same-store sales was attributed to “honeymoon effects from the over 300 stores opened internationally in the past three years, as well as cannibalization as markets develop.” Management’s tone has turned positive as it was able to refinance maturing credit facilities in January and, thus, alleviate interest expenses. Quarterly interest expenses fell 75% to $477 million as the total debt load decreased by about 1.7%.
Impairment charges and lease-termination expenses were also a boon to profits. Management noted that its earlier forecast, for fiscal operating profit of $22 million to $24 million, is still achievable and “the high end of that range appears increasingly achievable.” With a consensus fiscal 2012 earnings estimate of 30 cents a share, Krispy costs 28-times forward earnings.
Estimates are trending up, but not quickly enough to justify the dramatic upswing of the past few days. This turnaround story merits attention, but also caution as a correction may be inevitable as momentum tapers.
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