Krispy Kreme

1. Krispy Kreme’s strategy in 2004 included:

- Increasing the number of stores as well as increasing sales at old stores in order to obtain 20% annual revenue growth and 25% annual growth in earnings per share.

- Expanding internationally, adding stores in Europe, Australia, Canada, and Mexico.

- Improving on-premise sales by remodeling or closing down older stores and focus on the on-premise sales in new locations before selling packaged doughnuts in supermarkets.

- Improving appeal of on-premise coffee and beverage offerings in hopes of increasing beverage sales to 20% of store sales. Digital Java was acquired to help achieve this goal.

We noticed a couple things that indicated possible problems in the future for the company. Securities analysts that reviewed Krispy Kreme’s strategy agreed that the company’s increasing stock price would not last. They believed that the company would not reach its long term goals for growth. One reason analysts had a poor outlook on the company’s success was the fact that Krispy Kreme is a single-product concept company, which tend to have slow revenue growth.

Another reason for concern was the issue of unsuccessful stores. The company was opening too many stores too close together. New stores would either not do well themselves or cause older stores to lose sales. The company was aware of this problem but continued to expand. Because of this it could be expected that there would be future problems for the company.

2. Prior to 2004, Krispy Kreme’s financial performance was very good. Revenues increased every year, from $220,243 at the end of fiscal 2000 to $665,592 at the beginning of 2004. Net income increased from $5,956 at the end of fiscal 2000 to $57,087 at the beginning of 2004.

The most profitable part of business at the end of fiscal 2003 was the company store operations. According to exhibit 2, this comprised 65% of the revenue that year (319,592/491,549= 65%).

3. Things that went wrong at Krispy Kreme:

-Too many stores were being opened causing the company’s stores to compete with each other. This added even more competition for the company aside from just its rival companies.

-Increased health awareness by consumers.

ex) the low-carbohydrate diets becoming popular

-The Montana Mills acquisition was very costly:

a. Fiscal 2004 ended with a $2.0million operating loss

b. $35 to $40 million write-off in the first quarter of 2004 and outlook of another $2 to $4 million in future write-offs

On reason why the company’s financial situation got bad so fast was because these problems came somewhat as a surprise. The increased health consciousness of consumers sprung up on Krispy Kreme. The doughnut shop industry had been doing well and a study done by Technomic even stated that doughnut shops were the fastest growing dining category in the United States in 2002-2003. But then the low-carbohydrate diets became popular and consumers were looking for more healthy food options. Krispy Kreme was not prepared for this as the menu did not include a sugar-free or low-carbohydrate doughnut.

4. We think that the management was using accounting tactics that can be recognized as “aggressive”. They were trying to run the so called “creative accounting”, which is hiding the losses in one quarter hoping for profits in the next quarters to cover those losses. When the sales dropped at the beginning of 2004 the management of Krispy Kreme thought that was a temporary condition and that in no time they would get back on track. And then in July 2004 the company had to announce that U.S. securities and Exchange Commission has started an investigation on company’s accounting practices regarding certain franchise buyback. At the end it might lead to reducing the company’s net income for fiscal 2004 by 2.7 percent.

5. Strengths:

- Variety of doughnuts (almost 50 different kinds) and drinks (coffee, milk, soft drinks, and bottled water).

- Strong brand-name recognition and loyalty, therefore little need for advertising

- Multiple types of stores including factory/retail stores, doughnut-and-coffee- shop stores, and franchise stores.

Weaknesses:

- Stock price was down 37% since May 7th, 2004

- Montana Mills $34 million write-off

- Overexpansion,