Krispy Kreme is a sweet success story - for now

But like Loewen, Krispy Kreme is a stock market phenomenon that can't last, no matter how good the company's products are or how big it's capable of growing. Like all great growth stocks, the story is everything. And eventually, all good stories come to the end.

The Globe and Mail
January 31, 2001

Krispy Kreme is a sweet success story — for now
Brian Miller

Forget about Alan Greenspan, collapsing consumer confidence, the plight of the dollar, automotive woes, the Chapters saga and decimal trading on the New York Stock Exchange. It's time to talk about something Canadians really care about: doughnuts.

Not just any doughnuts, mind you, but the hot, sugar-laden ones turned out by Krispy Kreme Doughnuts Inc., one of the hottest U.S. growth stocks last year in a market desperate for a good story.

The North Carolina company's stock has been so strong since it hit the market last spring that it launched a secondary offering this week, thus enabling its insiders to cash in some of their chips and buy very large yachts. And why not?

Giddy investors, obviously unstrung by the dot-com meltdown and chasing after any heart-warming success story they could get their hands on, have been touting the no-tech doughnut franchisor as the next coming of Starbucks and the McDonald's of the beignet world.

Some of us who have sampled the product ask: What's the big deal? But then, we were raised in the kingdom of crullers, while most Americans outside Krispy Kreme's regional southeastern base have known only glazed mediocrity and disappointment.

Knowing an opportunity when it sees one, the doughnut franchisor formulated a vast expansion strategy that now includes part of Canada, and it went public last April to help pay for it. Its timing looked bad. The day before, the Nasdaq had fallen off a cliff, dropping about 600 points, and just about everyone else planning an initial public offering yanked it in a hurry.

But Krispy Kreme forged ahead, at an offering price of $21 (U.S.) a share. By the time the books closed on the market meltdown of 2000, the small but profitable no-tech company was still about a $70 stock after hitting an astonishing high of $108.50 in November.

At over 100 times earnings, it has been trading more like a Cisco before the tech troubles than a food franchise operator on an expansion binge.

With a current market cap of $866.9-million, you could argue that each of its 175 owned and franchised outlets is being valued at close to $5-million. Maybe those Amazon and Yahoo founders should sign up for franchises, so they'll have something to do in their middle age.

Yesterday, we learned that the company's vice-chairman, his father's estate, a director and about 40 other long-time franchise owners and their relatives sold 2.1 million shares at $67 apiece for a haul of $141-million. The insiders had acquired their holdings for well under $2 a share before the IPO. This, in itself, is not a sell signal.

Company cheerleaders in the analytical community said the insiders had all been shareholders for decades and this was a good opportunity to reap some of the rewards of last year's spectacularly successful IPO. It also boosts the stock's small float.

But you may well ask why the insiders would be shedding shares so early if the story is so great. During the dog-and-pony shows for the offering, executives touted strong same-store sales from its expanding network and terrific growth prospects as Krispy Kremes fan out to fill the huge U.S. doughnut void (not to mention that drive north into Tim Horton land). There's no reason why the chain can't soon rival U.S. industry leader Dunkin Donuts, with a shop on practically every corner in every suburb in North America. And what will that do to its cult standing?

And then there are the ambitious plans to turn the brand into another Starbucks, with Krispy Kreme calorie carriers on supermarket and cafeteria shelves from coast to coast and even abroad. Hasn't anybody told these people that doughnuts are not coffee, a high-margin property popular the world over and easily translated into branded ice cream, soft drinks and similar products?

Scott Livengood, one of the best-named chief executives in the fast-food business, acknowledged during a television interview not long ago that he is, after all, running a doughnut company. But he added that Krispy Kreme is "a special product" to which people have an emotional attachment and which can be grown into a global brand.

"We think the product has that potential, and, as stewards of the brand, I think that is the destiny we have to fulfill for the company."

Yet, even if same-store sales can be maintained at, say, a 14-per-cent annual clip, which would be considered robust by any standard in the fast-food industry, it would be impossible to justify this stock's current price-earnings multiple.

It brings to mind the spectacular rise and fall of another growth story: Loewen Group. The Canadian funeral operator set out to reshape the fragmented North American industry, acquiring dozens and dozens of properties and bringing scale and size to the traditional mom-and-pop business.

Analysts loved that story, too. After all, people were going to keep dying, just as sugar fanatics and nostalgia lovers are going to keep stuffing their faces with artery-destroying pastries.

But like Loewen, Krispy Kreme is a stock market phenomenon that can't last, no matter how good the company's products are or how big it's capable of growing.

Like all great growth stocks, the story is everything. And eventually, all good stories come to the end.


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Risks: I loved the product so much, so as a fool I bought a franchise, Initial public offering, IPO, Insider trading, Pump-and-dump scheme, Canada, 20010131 Krispy Kreme

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