Thursday, June 13, 2013

Dunkin Brands Group Inc (DNKN): The Economics of Doughnuts and Coffee

From Insider Monkey:

"National Doughnut Day celebrations are over.  But investors can still celebrate with Dunkin Brands Group Inc (NASDAQ:DNKN), the parent of Dunkin’ Donuts and Baskin Robbins, as the stock has almost doubled since its IPO in 2011 and is still moving up. And there is a lot more that is happening, especially at Dunkin’ Donuts, which can bring more upside going forward.

It is looking at store expansions, restaurant makeovers, national menu roll-outs, and more. These initiatives can change Dunkin’s game considerably, and help it achieve the double-digit long-term growth that it has been eyeing.
The expansion strategy
Unlike most quick service chains, Dunkin Brands Group Inc (NASDAQ:DNKN) is more focused on domestic stores expansion. The company opened 78 Dunkin’ Donuts outlets in the U.S. during the first quarter, the highest rate in the last five years. It ultimately wants to double the store count of this chain to 15,000 over the next 20 years. While that is too far off to figure in any consideration, it does indicate the company’s intent.
Presently, Dunkin’ will add a whole many Dunkin Brands Group Inc (NASDAQ:DNKN) stores across the length of the West Coast. It does not make sense that California has just one store from the chain. So, around 1,000 store additions are on the cards starting with 150 in Southern California. Dunkin’ will also focus on 12 other states that do not have the chain’s presence.
The chain’s international expansion is at a much slower pace than domestically, although China remains high on the agenda. The company intends to triple the count of Dunkin Brands Group Inc (NASDAQ:DNKN) stores in China over the next ten years. Other key markets are South Korea, Russia, and India. Currently, the chain has 3,100 odd locations in 31 foreign countries.
Rival Krispy Kreme Doughnuts (NYSE:KKD) is following an exactly opposite strategy. Its current expansion drive is focused overseas rather than in domestic markets. It has only 146 U.S. stores out of its total 678 locations. It is planning to increase its store count to 1,300 by 2017 with 900 overseas locations. India has the maximum development agreements for new store openings with 114 commitments.
Starbucks Corporation (NASDAQ:SBUX) is also focusing on international store expansion. But then, it already has a formidable presence at home with almost two-thirds of its 18,000+ stores in the U.S. So, it is trying to improve sales from its existing domestic stores while spending its capital expenditure budget on fast growing Asian markets. It plans to open as many as 1,500 Starbucks stores in 70 cities in China alone by 2015.
The fact that the rival chains are less focused on store additions in domestic markets is a boon for Dunkin’.
Driving demand
Dunkin’ is equally focused on growing same store sales of its existing outlets. Although Dunkin’ Donuts saw a moderate 1.7% increase in U.S. same store sales in the first quarter, it is taking some big steps to improve this.
On one hand, it is re-modelling its stores to provide a relaxed eating out experience and draw the afternoon crowd. On the other hand, it is strengthening its core breakfast options. It is also balancing its food and beverage items to optimize mix.
A complete makeover
Dunkin Brands Group Inc (NASDAQ:DNKN) is undergoing a major makeover phase. It is adapting the more Starbucks kind of ambience which encourages guests to spend more time inside the stores as opposed to grabbing a bite and hurrying off.
The franchisees can opt for various options for either re-modelling or opening new stores. Investments range between $175,000 and $700,000. The new Dunkin’ Donuts will have softer color schemes, fancy lighting, jazz music, Wi-Fi, faux-leather chairs, and many more novelties. The chain already re-modeled 90 stores and the number will grow to 600 by the year end.
This strategy will help attract more footfall even after the rush hours which continue till 11’o clock in the morning. Already, some franchisees who have renovated are seeing lunch traffic triple.
This will also help the chain compete better with Starbucks and Krispy Kreme, both of which scored higher than Dunkin’ Donuts on account of restaurant environment as per a survey by Nation’s Restaurant News and WD Partners in 2012.
Glazed Donut Breakfast Sandwich
Dunkin’ Donuts has just rolled out its new Glazed Donut Breakfast Sandwich nationally with a lot of fanfare. This sandwich has bacon and eggs inside a glazed doughnut. The sweet and salty offering is unusual and has created a lot of buzz.
While opinions vary regarding taste, the launch has sparked renewed interest in the chain. Everybody wants to try this novelty at least once. Going forward, even if the item does not feature permanently on the menu, Dunkin’ can do what McDonald's Corporation (NYSE:MCD)’s does with its McRibs. That is, keep pulling it in and out so that the excitement remains.
Balancing snacks and coffee
Dunkin Brands Group Inc (NASDAQ:DNKN) is the closest towards achieving the optimum 50:50 sales mix which most snack and beverage eateries long for. Coffee and beverages made up 58% of its U.S. sales in 2012 while food comprised 42%.
The chain is balancing its new offerings between snacks and drinks to ensure that the equilibrium continues. It has recently added chicken sandwiches as solid lunch options and the promotion mentions that they go best with the iced teas. It is also exploring new avenues in coffee, like selling k-cups or introducing gingerbread latte.
Starbucks is still chasing this optimum mix. It has a 2:1 proportion tilted towards beverages. The coffee shop giant is trying to add more food options and recently acquired the bakery, La Boulange. Meanwhile, Krispy Kreme derives 88% of its retail sales from doughnuts alone. It has recently woken up to the possibility of pushing its coffee sales and will start its promotions.
So, Dunkin’ Donuts definitely has a competitive advantage in terms of mix.
Parting Thoughts
Dunkin Brands Group Inc (NASDAQ:DNKN) is good value for money. And this is true not just for its donuts and coffee, but for its stock as well. The recent strategies of expansion, together with store modernization and menu additions, position it nicely for good growth and better financial performance. These would provide good catalysts to the stock."

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