Launching its IPO on June 30, Krispy Kreme (NASDAQ:DNUT) took its doughnut chain public at $17 a share, an amount investors almost immediately drove upward to over $21. However, following its second-quarter 2021 results, the newly minted public company saw its shares decline. On Friday, Sept. 17, the company’s stock experienced a more than 7% one-day plunge in value. This, combined with the fact it was the third-most-mentioned stock on the WallStreetBets Reddit subforum at the time of its IPO, has led to speculation it could become a “meme stock” — but is such a possibility realistic? Important factors seem to weigh against it.
Krispy Kreme is doing OK, but not leading the market
After its initial jump, traders appear to think Krispy shares are somewhat overheated and should be trading at a more modest level. Its Q2 earnings report shows revenue climbing approximately 43% year over year to $349.2 million. Even this gain, of course, is mostly a rebound from the lockdowns and closures of 2020’s COVID-19 response. It boosted its worldwide “points of access” about 15.7% year over year. However, at the bottom line, its net loss increased about $3.3 million compared to the same quarter last year, and adjusted loss per share went from a $0.10 loss in Q2 2020 to a $0.13 loss in Q2 2021.
The enterprise’s business model, selling half-dozen or dozen packages of doughnuts, doesn’t have the same everyday or multiple-times-daily customer sales generation coffee chains enjoy. On the positive side, e-commerce has increased, now accounting for 19% of sales around the world. Some analysts are also throwing their support behind the doughnut chain, notably Morgan Stanley. The firm rates Krispy Kreme as overweight with a $23 price target, citing the company’s market opportunities both in the U.S. and overseas, along with evidence of growth shown by its Q2 results, to support its bull case.
Another potentially worrisome facet of the company is its debt. Its $1.63 billion in debt dwarfs its $71.6 million operating cash flow and its $38.1 million cash reserves. Its debt has more than doubled since the start of the year, and the current portion of its long-term debt has exploded 1,212% over the same time frame. Its operating margin for the trailing 12 months is just under 2.3%, while the margins for its United States and Canadian operations — its most important regions — actually dropped in Q2. The margins of its Insomnia Cookies subsidiary increased, but this brand accounts for only 200 out of Krispy’s approximately 9,600 points of access, so margin growth here is not particularly significant at this time.
While Krispy Kreme seems likely to continue growing, there is nothing in its situation to suggest it will outperform the market anytime soon, either. It has growth opportunities and seems to be executing competently to further them. But it also has a large amount of debt, low margins, and relatively few locations compared to other quick-service restaurants, and a product focus with possibly less continuous demand than coffee.
Krispy Meme? Not likely
While Krispy Kreme was unable to support its initial princely valuation, it seems highly unlikely to become a meme stock in the same way that GameStop and AMC Entertainment have. Its performance may not justify a high share price, but it is also not sliding toward bankruptcy due to an obsolete business model. It could even start making modest gains once the market finds an acceptable price for its shares.
Because it is successful within its niche, despite being possibly temporarily overvalued, short-sellers aren’t flocking to it in expectation of steadily worsening news. Even with options already available after its IPO, short interest as percentage of float is hovering around 3%. GameStop’s short interest is around 12.4%, while around 18.7% of AMC shares are shorted. Without double-digit short interest, it seems improbable WallStreetBets’ army of retail investor “apes” will bid Krispy Kreme’s shares up.
On the flip side, while Krispy Kreme isn’t bearish enough for shorts or “apes,” it also doesn’t seem bullish enough for other investors. With many other choices available, its performance is too humdrum to merit much attention. Even another IPO in the same sector, Dutch Bros. Coffee (NYSE: BROS), appears more energetic; its shares are up more than 100% since its IPO.
When choosing among newly public restaurant stocks, Dutch Bros. likely comes out ahead of Krispy Kreme, with vigorous expansion plans, a significant company loyalty program, and alignment with the growing coffee market in its favor.
Here, too, investor caution is merited, with the company potentially seeing a post-IPO share price spike unsustainable over the longer term. With a smorgasbord of stock picks in today’s market, Dutch Bros. looks moderately bullish for a start-up, and Krispy Kreme is likely overvalued, while many other companies are potentially better bets than either — at least under current circumstances.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.