Investors love stocks that consistently beat the Street without getting ahead of their fundamentals and risking a meltdown. The best stocks offer sustainable market-beating gains, with robust and improving financial metrics that support strong price growth. Does Krispy Kreme Doughnuts (NYSE:KKD) fit the bill? Let’s take a look at what its recent results tell us about its potential for future gains.
What we’re looking for
The graphs you’re about to see tell Krispy Kreme’s story, and we’ll be grading the quality of that story in several ways:
Growth: Are profits, margins, and free cash flow all increasing?
Valuation: Is share price growing in line with earnings per share?
Opportunities: Is return on equity increasing while debt to equity declines?
Dividends: Are dividends consistently growing in a sustainable way?
What the numbers tell you
Now, let’s take a look at Krispy Kreme Doughnuts (NYSE:KKD)’s key statistics:
| Passing Criteria | 3-Year* Change | Grade |
|---|---|---|
| Revenue growth > 30% | 29.8% | Fail |
| Improving profit margin | 36.7% | Pass |
| Free cash flow growth > Net income growth | 803.9% vs. 831.3% | Fail |
| Improving EPS | 1,050% | Pass |
| Stock growth (+ 15%) < EPS growth | 367% vs. 1,050% | Pass |
Source: YCharts. *Period begins at end of Q1 (April) 2010.
| Passing Criteria | 3-Year* Change | Grade |
|---|---|---|
| Improving return on equity | 140.3% | Pass |
| Declining debt to equity | (84.8%) | Pass |
Source: YCharts. *Period begins at end of Q1 (April) 2010.
How we got here and where we’re going
Krispy Kreme Doughnuts (NYSE:KKD) got off to a piping hot start, but it was tripped up with narrow misses on both the revenue and free cash flow analysis. That isn’t enough to call this stock stale, as Krispy Kreme earned five out of seven passing grades regardless, and it has a very good chance to gain a perfect score next time around. How might Krispy Kreme push its revenue even higher over the next few quarters?
The donut chain has a few hidden weapons that won’t require higher revenues for success at all. My fellow Fool Asit Sharma pointed out last year that a hefty deferred tax asset will help keep tax rates glued to the floor for some time. That’s great news for Krispy Kreme Doughnuts (NYSE:KKD)’s free cash flow metric as well as its bottom line — this might be one way that Krispy Kreme earns its sixth passing grade.
Krispy Kreme Doughnuts (NYSE:KKD) is continuing its international expansion as well, and it will establish a presence in Taiwan in the near future. This seems like a great start to enlarge Krispy Kreme’s beachhead on the Chinese mainland. On the other hand, Krispy Kreme’s expansion plans are a drop in the bucket compared to rival Dunkin Brands Group Inc (NASDAQ:DNKN) , which is planning to add more than 300 new locations in the United States alone this year. That’s nearly half the number of Krispy Kreme Doughnuts (NYSE:KKD)’s total domestic locations! If Krispy Kreme doesn’t have a strategy to maintain its brand cachet against the rapid expansion of its chief rival, it could fall behind as consumers gravitate toward a more convenient Dunkin Brands Group Inc (NASDAQ:DNKN). It also doesn’t help Krispy Kreme that Dunkin Brands Group Inc (NASDAQ:DNKN) has been diversifying away from a donut-heavy menu to attract consumers who might otherwise avoid the temptation of a doughnut.
Longtime Fool contributor Rick Munarriz thinks that Krispy Kreme Doughnuts (NYSE:KKD) is part of the leading edge of junk food franchises that Americans have gravitated toward, in spite of health warnings and the persistent sirens of an obesity crisis. The Cheesecake Factory Incorporated (NASDAQ:CAKE) , another franchise known for its unhealthy baked goods, is also growing quickly. It hasn’t gained as much as Krispy Kreme, but it hasn’t had to start from such a low point, either. There remains a certain prestige in being “the treat franchise,” and Krispy Kreme embodies this better than Dunkin Brands Group Inc (NASDAQ:DNKN) — at least from this writer’s humble perspective.
Putting the pieces together
Today, Krispy Kreme Doughnuts (NYSE:KKD) has many of the qualities that make up a great stock, but no stock is truly perfect. Digging deeper can help you uncover the answers you need to make a great buy — or to stay away from a stock that’s going nowhere.
The article Is Krispy Kreme Destined for Greatness? originally appeared on Fool.com.
Fool contributor Alex Planes holds no financial position in any company mentioned here. Add him on Google+ or follow him on Twitter @TMFBiggles for more insight into markets, history, and technology.The Motley Fool has no position in any of the stocks mentioned.
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