KKD: PUMPS SOME JELLY INTO THE MIDDLE

Takeaway: This 1Q FY16 story line was one of improved margins and increased disclosure.

Adding KKD back to the LONG bench of the Hedgeye Restaurant Best Ideas List!

Last night, KKD reported Q1 FY16 earnings, with top line revenue of $132.5mm vs consensus of $135.3mm.  The slight miss on the revenues was over shadowed by a bottom line beat, Q1 adjusted EPS was $0.24 vs consensus $0.22. The market reacted positively to the results, in pre-market trading this morning the stock is up about 6.9%.

IMPROVED MARGINS - This 1Q FY16 story line was one of improved margins and increased disclosure. Management introduced a couple new metrics to evaluate performance, one being ‘Company Stores Contribution’ which is equal to Company Stores revenues less COGS; labor and benefit costs; vehicle costs; occupancy and other store related costs and excludes D&A expenses; marketing expenses and segment G&A expenses. This is a non-GAAP measure but seems to be a true look at the base business performance without all the noise, this metric was up 270 basis points YoY to 18.5%. Results were driven by positive SSS growth and more strategic use of promotional incentives.

STRONG SAME-STORE SALES - System-wide same-store sales (SSS) increased 5.2%, including 4.3% comp at domestic company stores and 5.8% comp at domestic franchised locations. International which is entirely franchised had a disappointing quarter, with SSS down 1.7% in constant dollars but it is trending in the right direction. The comp was driven by average check which accounted for 4%, of which most was attributed to mix due to significantly less discounting, traffic was about flat.

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UNIT GROWTH – The bull case for KKD is centered around the significant global unit growth opportunity for the company.  The biggest driver of revenue in 1Q FY16 was the significant increase in systemwide store counts, which speaks to management’s aggressive expansion strategy to spur growth in the business. Systemwide store count rose 17.3% in the quarter eclipsing the 1,000 store mark finishing the quarter with 1,003 Company and franchise stores worldwide.

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Management slightly adjusted the lower end of full year 2016 EPS guidance, bringing it up a penny to $0.80 to $0.85. This is mainly attributed to share buy backs as they have not adjusted the net income projections.  Additionally, management indicated during the call that they will “continue to opportunistically repurchase stock this year.”

Summarized outlook for the remainder of FY16:

  • 10-12 net new Company shops
  • 15-20 net new domestic franchise shops
  • 95-110 net new international franchise shops
  • Capital expenditures of between $35 million and $45 million including ongoing investments in technology
  • Continued growth in domestic SSS
  • A reduction in agricultural commodity and fuel costs compared to fiscal 2015
  • Negative effects of a stronger U.S. dollar

Management succeeded on many fronts this quarter taking advantage of key holidays such as Valentine’s Day, Super Hero Day and National Donut Day. Furthermore management is dedicated to expand beverages success launching new frozen coffee beverages in three flavors, mocha, vanilla and caramel. In terms of expansion they announced three development agreements in Cambodia, Guatemala and South Africa and opened stores in six new countries.

We believe in this growth story especially as international SSS trend towards positive territory. Management has admitted to mistakes in the domestic real estate market and is using these learnings for future expansion.  We are confident in the plan and believe in the strength of the brand, we will continue to watch this one and look for an opportunity to get more aggressive on the name.

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