By Evie Liu
Krispy Kreme's deal to sell its popular doughnuts at McDonald's restaurants across the U.S. is a win for both companies: Krispy Kreme expands its reach while McDonald's expands its menu at a low cost to attract more customers.
The partnership, announced Tuesday, comes as consumers are looking for cheaper options amid higher food prices. Breakfast remains a key battleground among fast-food chains. Wendy's recently said it plans to invest $55 million in advertising its breakfast options, and it estimates a 50% increase in weekly U.S. breakfast sales over the next two years.
Krispy Kreme shares jumped 39% on news of the deal Tuesday. The stock gave back some of the gains on Wednesday, closing 11.5% lower to $15.35. McDonald's was up 1.2%.
Krispy Kreme sells doughnuts through its nearly 400 independent shops as well as thousands of grocery stores and quick-service restaurants. The company bakes doughnuts daily at production hubs and delivers to nearby retailers.
The Charlotte, N.C.-based company has been working to expand its distribution network and drive up sales per hub. In 2023 alone, the firm placed its products in 2,300 new locations, growing the total to about 14,000 globally, about half of which in the U.S.
Krispy Kreme has supplied doughnuts at 160 McDonald's restaurants in Kentucky since 2022 as a test concept. The expanded partnership gives it access to the majority of McDonald's nearly 14,000 restaurants, almost doubling its U.S. distribution. The doughnuts will be sold throughout the day.
"Krispy Kreme is not a packaged food company. The whole brand promise is that it's fresh," said Andrew Wolf, an analyst at investment bank C.L. King & Associates. "When you're in the fresh business, it's very local, and this partnership will give them a lot of local market share."
The move will help the company grow its economies of scale and significantly drive down the incremental costs of logistics and infrastructure, says Wolf: "The closer the units are to each other, the cheaper it is to deliver."
McDonald's foot traffic at its U.S. locations is strong, according to location intelligence firm Placer.ai, as more mid-income consumers trade down from full-service restaurants to fast-food chains.
McDonald's accounts for more than a third of total visits to fast-food restaurants and coffee and bakeries shops in the mornings, far surpassing Starbucks and Dunkin', which account for about 15% each of the traffic, according to Placer.ai.
The addition of Krispy Kreme doughnuts to the menu could help the fast-food giant expand sales and enhance its dominance among peers, especially during breakfast hours.
The partnership is "a way to recapture some of Covid's lapsed breakfast users with a differentiated product and limited incremental labor costs, " analysts from Evercore wrote in a note.
The partnership will start rolling out in the second half of this year, and across the U.S. by the end of 2026. Krispy Kreme won't supply other quick-service restaurants in the U.S. during the period.
"This is clearly a strong development for Krispy Kreme, increasing the availability and number of occasions consumers can try a Krispy Kreme doughnut," Truist analyst Bill Chappell wrote in a note.
The next challenge for Krispy Kreme is to ramp up production to meet the new demand. CEO Josh Charlesworth said last month that the firm has started investing in new doughnut-making sites to prepare for the rollout.
The firm's current production hubs could serve about 6,000 McDonald's restaurants with modest incremental capital spending, Wolf said. To meet the increased demand, Krispy Kreme would need to add 25 to 30 more production hubs.
Wolf expects Krispy Kreme's capital expenditures in 2024 to total between $120 million and $140 million, or 7% to 8% of its revenue, which could increase in 2025 and 2026.
The company could add $375 million to $400 million in incremental sales by the end of 2027, with a growth of 35 cents to 40 cents earnings per share, he estimates. Krispy Kreme posted an EPS of 27 cents in 2023. Wolf raised his 2025 EPS outlook to 55 cents from a prior 45 cents, and lifted his price target for the stock to $22 from $18.
Sales at Krispy Kreme have been growing around 10% annually over the past two years. Yet the stock has been choppy since it was listed in 2021. Concerns over inflation-driven softer demand and weight-loss drugs like Ozempic and Mounjaro have hurt the stock.
Investors should play the long game. Earnings will likely decline before stepping back up as start-up costs offset additional profit, wrote Truist's Chappell. The option of buying Krispy Kreme at McDonald's could also hurt sales at nearby grocery stores that also sell the doughnuts.
Write to Evie Liu at evie.liu@barrons.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
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March 28, 2024 03:30 ET (07:30 GMT)
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