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Krispy Kreme: Strong Upside Potential Ahead

Among consumer defensive stocks, Krispy Kreme (DNUT) is poised for a strong rebound, in my opinion, as a promising outlook for the company will help the stock price make an extra effort for higher levels.

Thus, I am bullish on this stock. 

The company is a Charlotte, North Carolina-based donut chain with 1,810 Krispy Kreme and Insomnia Cookies stores operating in 30 countries, 971 of which are company-owned and 839 franchisees.

As Omicron continues to cause infections, critical care, and, unfortunately, deaths, the world grapples with the humanitarian crisis and the economic fallout from Russian forces’ aggression in Ukraine.

While the COVID-19 pandemic appears to be nearing an end, the war in Ukraine, which is causing enormous social and economic disruption, will likely not end any time soon.

In response to Russian aggression, G7 members are imposing various restrictions on the Russian economy, with the risk that this will have a boomerang effect on the world economy.

The risk of economic stagnation combined with a further increase in inflation is currently very high, as monetary policy is likely to be less restrictive than generally expected.

Analysts are likely to be overweight consumer defensive stocks as investors invest in these companies, relying on their strong ability to pass higher prices on goods and services to consumers as people buy those products, regardless of the cycle.

Consumer defensive stocks are down about 2.2% over the past month as the market appears to be focused on energy and utilities in line with the current economic theme. However, once the tailwinds from higher energy and commodity prices wear off and the specter of stagflation sets in, then defensive stocks should return to bullish mode.

Q4-2021 Results

As a result of the company’s ongoing shift in sales methodology to a hub-and-spoke model in the U.S. and Canada, as well as strong business execution across its portfolio, the company saw a significant 14% year-over-year increase in total revenue to nearly $371 million, beating analysts’ median forecast by $7.6 million.

Adjusted earnings per share fell 20% year-over-year to $0.08 on share dilution following the July 1 initial public offering that marked Krispy Kreme’s return to the stock market after a five-year absence. The adjusted EPS missed the average estimate of consensus by $0.01. 

The addition of 2,000 global access points over the past year through the final quarter of 2021, coupled with the successful passing of higher pricing to consumers (which offset higher wages and higher inflation), increased the company’s adjusted EBITDA by 14% year-over-year to $47.7 million in Q4 2021.

Krispy Kreme’s Financial Position

The balance sheet needs to be strengthened, as cash of $38.6 million at the end of the fourth quarter of 2021 is weak against total debt of $1.2 billion.

In addition, the payment of the interest expense on any outstanding debt is not easy, as evidenced by an interest coverage ratio of 0.96x. Ideally, the ratio should be at least 1.5x.

The current ratio of 0.3x, which should be at least 2x, indicates that ongoing operations are not generating enough cash flow to meet near-term commitments.

Outlook

However, I believe that the shareholders of Krispy Kreme Inc. can look forward to an improvement in its financial position and possibly even a subsequent dividend increase, which could have a positive effect on the share price in the future.

Shifting to a distribution model aimed at satisfying the cravings of donut lovers in even the most remote locations in the United States and Canada should allow the company to generate impressive sales where there is the strongest consumer demand for donuts in the world.

The product is now also known internationally, which gives the company an additional opportunity to increase overall sales.

Sales growth of 23.4% strongly suggests that the financial position could improve faster than expected. The positive trend has already taken place at the level of gross earnings, with an annual increase of 23.8% on an annual basis over the same period. 

Assuming the company can manage cash sparingly between its various expense items (which is also the goal of the hub-and-spoke model, actually), the next step in improving its financial position might not take that long.

Wall Street’s Take

For the past three months, four Wall Street analysts have issued a 12-month price target for DNUT. The company has a Strong Buy consensus rating based on four Buys, zero Holds, and zero Sell ratings.

The average Krispy Kreme price target is $20.25, implying 39.7% upside potential.

Stock Statistics 

At the time of writing, shares are trading around $14.50, below the 50-day moving average of $14.91 and below the 100-day moving average of $14.99. The stock does not appear expensive in this comparison. DNUT has a market cap of over $2.4 billion, a 52-week range of $12.63 to $21.69, and a 1% forward dividend yield.

Insider Trading Activities

Recent insider trading by Michael Tattersfield also makes this stock attractive, as the donut and coffee chain’s CEO bought 19,500 shares earlier this month.

Michael Tattersfield paid a price of $13.85 and $13.95 for a total of approximately $270,000.

The CEO now owns about 2.7 million shares of his own company, SEC filings also disclose.

The manager bought shares in his company. Well, this could be a signal that the stock is about to rise.

Conclusion

This stock is expected to improve its financial condition, which currently appears weak, providing a strong catalyst for a higher share price.

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