Krispy Kreme (KKD) may be known for its doughnuts, but the company is bringing in baristas and is planning a hard push in coffee.
While Krispy Kreme has always sold coffee, it has never really prioritized the beverage market like Starbucks (SBUX). With KKD having a strong retail presence and brand power on its side, could its move into the barista world cause problems for SBUX?
Should SBUX Be Worried?
So far, Krispy Kreme is just testing the waters with its Starbucks-like business model — self-grinding beans, using a manual espresso machine and writing the names of customers of cups. KKD is attempting this new strategy in North Carolina, and if successful, the effect will could be profound for Krispy Kreme.
Specifically, KKD thinks that coffee could rise from 5% of restaurant sales to 10% rather quickly, thereby creating new growth for the company. However, with just $520 million in revenue expected this year, and about $700 million in system-wide sales from company-owned and franchised stores, KKD is not going to cause too many problems for the coffee juggernaut SBUX any time soon.
Starbucks creates revenue from a variety of sources. These include retail, third-party distribution, company-owned stores, branding, etc. SBUX is the quintessential face of coffee.
With that said, some KKD stock owners do believe that because of its large retail footprint, it could be a thorn in Starbuck’s side over a course of many years. However, SBUX has overcome much more significant risks, like increased competition in the K-cup space, an influx of large regional coffee chains and the rise of McCafe.
Still, SBUX grows year after year, with revenue growth of 13% and 8.6% expected this year and in 2016, respectively. With $23.5 billion in revenue expected next year, KKD is unlikely to have a double digit basis point effect on SBUX sales even if coffee accounts for 10% of its total revenue.
Is it a Big Deal for KKD Stock?
Nevertheless, the good news is that Krispy Kreme does not need to become the next SBUX, or even cause problems at Starbucks, for coffee to become a major catalyst to KKD stock.
KKD stock has lost 22% of its value this year, and trades at just 16.4 times next year’s expected earnings. That’s pretty close to the S&P 500 average. Yet, with expected revenue growth of 6% this year, and 8% next year, KKD is growing much faster than the overall economy. If we incorporate the potential that surrounds coffee, KKD could add a few hundred basis points to its growth outlook next year.
But more importantly, coffee could do wonders for Krispy Kreme’s bottom line. KKD has an operating margin of 10.4% over the last four quarters. While good, it’s well short of the 17.5% margin at SBUX. Thus, if KKD can perform well in coffee, and achieve the 10% of total sales that its CEO expects, then KKD’s bottom line should grow far faster than its top line as margins expand.
As a result, this makes KKD stock very appealing into 2016.
While it will take KKD some time to test the barista business model in North Carolina, and then roll out changes across its retail stores, the company should start seeing the effect of these changes in the back half of 2016.
If so, don’t be surprised to see KKD stock have a big year.
As of this writing, Brian Nichols did not own any of the aforementioned stocks
