Should I Buy Dunkin’ Brands? 3 Pros, 3 Cons

by Tom Taulli | July 27, 2012 7:00 am

Should I Buy Dunkin’ Brands? 3 Pros, 3 Cons

Dunkin’ Brands’ (NASDAQ:DNKN[1]) second-quarter earnings might have been what analysts were expecting, but apparently not what investors were looking for.

Excluding one-time items, Dunkin’s earnings were 33 cents per share, which met with Wall Street’s expectations, and revenues were up 10% to $172.4 million, topping forecasts. Dunkin’ Brands also increased its full-year earnings guidance somewhat, from a range of $1.21 to $124 per share to a range of $1.22 to $1.25 per share.

However, the stock lost 3% Thursday, continuing a recent stunting of its otherwise strong 2012. So, should you buy Dunkin’ on the dip, or is the ride over? To decide, here’s a look at the pros and cons:

Pros

Strong Growth Potential: Even though Dunkin’ Donuts was founded more than 60 years ago, the company still has much more room to expand its operations. Many of the company’s American locations are on the East Coast, and Dunkin’ Brands believes it can double its restaurant locations in the next 20 years. There also is huge potential in global markets, such as in China and India. This year, Dunkin’ Brands expects to open between 400 to 450 locations outside the U.S., up from the prior forecast of 350 to 450.

Business Model: Most of Dunkin’ Brands’ 17,000 locations — which include both Dunkin’ Donuts and ice cream’s Baskin-Robbins — are franchises. This is a low-cost approach that makes it much easier to grow and generate strong free cash flows.

Innovation: Dunkin’ Brands continues to focus on improving its menu. One key has been the introduction of K-Cups — the single-cup offerings for Green Mountain‘s (NASDAQ:GMCR[2]) Keurig machines — which has been a nice growth driver. Other successful offerings include breakfast and bakery sandwiches. Dunkin’ also plans to launch a mobile app in the third quarter.

Cons

Macroeconomy: While Dunkin’ Brands sells what are practically daily staples, it still has seen a slowdown in demand. Same-store sales in the second quarter increased by 4%, but analysts expected 5.2%. A teetering U.S. economy could be a further drag on Dunkin’s sales.

Competition: Dunkin’ Brands’ rivals are fairly varied thanks to its many offerings. Rivals include 7-Eleven, Quick Trip and WaWa, Cold Stone Creamery, Dairy Queen and McDonald’s (NYSE:MCD[3]), and even Subway. As Dunkin’ Brands moves into the West Coast, it’ll be messing with Starbucks‘ (NASDAQ:SBUX[4]) turf.

Valuation: Dunkin’ Brands’ stock is still expansive, trading at 65 times earnings. Compare that to Starbucks, which even at a lofty P/E of 30 is more reasonable.

Verdict

Even with the large market opportunity, Dunkin’ Donuts is likely to show lackluster growth, at least for the rest of the year. The slowing economy will take a toll, and competition is intense.

The valuation also is substantial, and while its dividend is nearly 2%, that likely won’t be enough to tempt most income investors.

So, should you buy Dunkin’ Brands? No — the cons outweigh the pros on the stock for now.

Tom Taulli runs the InvestorPlace blog IPOPlaybook[5], a site dedicated to the hottest news and rumors about initial public offerings. He also is the author of “All About Short Selling”[6] and “All About Commodities.”[7] Follow him on Twitter at @ttaulli[8]. As of this writing, he did not own a position in any of the aforementioned securities.

Endnotes:
  1. DNKN: http://studio-5.financialcontent.com/investplace/quote?Symbol=DNKN
  2. GMCR: http://studio-5.financialcontent.com/investplace/quote?Symbol=GMCR
  3. MCD: http://studio-5.financialcontent.com/investplace/quote?Symbol=MCD
  4. SBUX: http://studio-5.financialcontent.com/investplace/quote?Symbol=SBUX
  5. IPOPlaybook: http://investorplace.com/ipo-playbook/
  6. “All About Short Selling”: http://www.amazon.com/All-About-Short-Selling/dp/0071759344/ref=sr_1_1?s=books&ie=UTF8&qid=1302184310&sr=1-1
  7. “All About Commodities.”: http://www.amazon.com/All-About-Commodities/dp/0071769986/ref=ntt_at_ep_dpi_10
  8. @ttaulli: https://twitter.com/ttaulli

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