Krispy Kreme (DNUT 1.72%) has firmly established itself as a meme stock. It's down by 54% this year, but has also surged by almost 70% from the bottom of the trough it sank into this summer. CEO Josh Charlesworth highlighted two initiatives in the Q3 press release that could help the company return to profitability and revenue growth after skidding in recent years.
Net income has been negative for a while, and in the few quarters Krispy Kreme has been profitable over the past five years, its margins have been razor-thin.
Two big opportunities
Image source: Getty Images.
Charlesworth said that profitable U.S. expansion and capital-light international franchise growth are the two levers that will bring the company back to profitability. However, it still looks like it faces an uphill battle. Revenue dropped by 1.2% year over year in Q3. But its $7.2 million operating loss was narrower than its $16 million operating loss in the prior-year period.
NASDAQ: DNUT
Key Data Points
Krispy Kreme is still shrinking, based on its 6.1% year-over-year decline in global points of access. It also ended its unprofitable partnership with McDonald's. These are smart moves to deleverage the balance sheet, but it's hard to grow sales while removing locations.
Krispy Kreme is focusing on profitable growth, so if its revenue dropped considerably, but its net margins turned positive again, that would be a big win, and a base the company could build on. It has lightly tapped into international markets and is working with local franchisee operators to scale up in a capital-light way.
Charlesworth also said that Krispy Kreme's U.S. fresh delivery model is profitable and expanding, but the company didn't provide specific numbers for that segment. The food delivery space has been hot. If Krispy Kreme can continue to capitalize on it, its margins may flip to positive.
The balance sheet must be deleveraged
Krispy Kreme's balance sheet is a disaster that can't be sustained. That's why closing many locations is necessary, though it will come at the cost of revenue growth. The doughnut maker must shrink before it can grow again, and that transition may take multiple years to complete.
Interest expenses are another issue for the company. Its Q3 operating loss of $7.2 million was bad enough, but that doesn't include the $16.4 million it spent on interest. It's nearly identical to the amount of interest paid in Q3 2024. It also has $161.8 million in total current assets against $448.9 million in total current liabilities, resulting in a low 0.36 current ratio. The median current ratio for the retail industry is 1.3. Krispy Kreme's low current ratio shows that it won't be able to keep up with current obligations unless it continues to deleverage its balance sheet.
It has a 0.5 price-to-sales ratio, and a P/S ratio in the 1 to 2 range is generally viewed as fairly valued. A lower ratio implies a better value, but investors shouldn't expect Krispy Kreme's ratio to rise to 1 anytime soon. The only path to solving its profitability issues involves a prolonged period of revenue declines and deleveraging. Once profitability is achieved and the business rebounds, the stock could potentially warrant a multiple expansion. But the second-half rally in Krispy Kreme stock has been more driven by meme trading and momentum than fundamentals.
