Dunk Some Funds in this Top Stock

Joseph is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Dunkin' Brands Group (NASDAQ: DNKN) owns two of the most recognizable brands in the world, Dunkin' Donuts and Baskin-Robbins. Dunkin' Brands operates as a franchisor, making for an incredibly strong business model since they have over 16,000 locations worldwide. This company went public on July 26, 2011, and has surged nearly 100% since then. Even with this run, they can go much higher.

The Brands

Dunkin' Donuts is the world's leading baked goods and coffee chain. There are over 10,000 Dunkin' Donuts locations worldwide, with more than 7,000 in North America alone. There are over 2,600 Dunkin' Donuts outside of North America in countries like China, Japan, Saudi Arabia, Russia, Spain, Germany, Peru, and Chile. This international presence is strong and provides them with the ability to double their locations in a short period of time if they wished.

Dunkin' Donuts is determined to continue growing. In 2012, Dunkin' Donuts opened 291 new locations, making them one of the world's fastest growing quick-service restaurants. This number will be surpassed in 2013, with a planned 330 to 360 new locations being opened. 

The most important thing to note about Dunkin' Donuts is that there are hardly any locations in the western United States. CEO Nigel Travis made the most anticipated announcement of his career by saying that Dunkin' Donuts would be expanding to Southern California in 2015. They will start by adding locations in Los Angeles, San Diego, Riverside, San Bernadino, Ventura, and Orange Counties. Travis knew the time was right to enter California because of the high sales of Dunkin' Donuts bagged coffee in stores and K-cup sales in Baskin-Robbins locations. This expansion could end up adding over 1,000 stores in California due to the size of the state. Earnings will continue to move up as the total number of stores grows.

Baskin-Robbins is the world's largest chain of ice cream shops who sells both ice cream and specialty desserts, along with various beverages. They operate nearly 7,000 locations worldwide, with 2,400 being in the United States. Their major international markets include Australia, India, the United Kingdom, Russia, China, and Japan. Baskin-Robbins is not going to grow nearly as much as Dunkin' Donuts, but they have consistently performed in the ice cream market.

Same Store Growth

Dunkin' Brands reported full year 2012 earnings on Jan. 31. In this report they showed a 4.2% increase in Dunkin' Donuts United States comparable same store growth. Management projects a same store growth of between 3% to 4% in 2013. Internationally, Dunkin' Donuts reported a 2.0% same store growth with no comparison from 2011. 

Baskin-Robbins reported a 3.8% increase in United States comparable same store growth. This was up from 0.5% in 2011 and management projects same store growth of 1% to 3% in 2013. Internationally, Baskin-Robbins' same store growth was 2.8% with no comparison for 2011. 

Franchise Income

Dunkin' Brands operates as a franchisor, so their income comes from franchise fees and royalties. Dunkin' Donuts charges $40,000 to $80,000 as an initial franchise fee and takes a royalty of 5.9% of total sales. They also charge an ongoing advertising fee of 5% of total gross sales. Do not think you should run out and start up a Dunkin' Donuts because of these reasonable numbers, because overall it costs a franchisee between $400,000 and $1,600,000 to open a store. This is due to construction, licensing and permitting, marketing, insurance, and several other costs. 

Baskin-Robbins charges an initial franchise fee of just $25,000. They too charge a royalty of 5.9% of total sales and an ongoing advertising fee of 5% of total gross sales. The estimated total cost of opening a new location is much lower than that of Dunkin' Donuts, running between $115,000 and $375,000. 

K-Cups

K-Cups have become wildly popular in the United States. The cups are single serve pods that are used to brew coffee in Keurig machines. Keurig machines are made by Green Mountain Coffee Roasters (NASDAQ: GMCR) and are expected to gain a 30% market share of coffee brewed in American homes. These machines are incredible and have the ability to make coffee shop quality cups in your own home. They run around $150-$200 and a 14-cup pack of K-cups costs around $12. This may seem expensive at first, but when you factor in how much you spend each day purchasing coffee elsewhere, it is truly a big money saver. 

When the Keurig first came out, it seemed as if it would eat at Dunkin's earnings. However, management acted quickly and landed a deal to make K-cups with Dunkin' Donuts' coffee and branding. This would help offset the losses because people could have their Dunkin' Donuts coffee at home, much like buying the Dunkin' Donuts bagged coffee. The K-cups are available in store at Dunkin' locations, on Amazon.com, and through other distribution channels. On top of the K-cups, Dunkin' Donuts also sells Keurig machines in their locations. This is a positive for both Dunkin' and Green Mountain by maximizing the potential for profit. 

Starbucks

Starbucks (NASDAQ: SBUX) is a major player in the coffee industry with over 17,500 stores worldwide. Their brands include Starbucks Coffee, Seattle's Best, and Tazo Tea. Starbucks has shown a strong dedication to growing their presence in China, estimating that it will become their largest market outside of the United States by 2014. In 2012, their profit grew 13% while revenues grew 11%. Starbucks' same store growth was an impressive 7% in the U.S. and 6% globally. 

In comparison to Dunkin' Donuts, Starbucks loses in most categories. With less locations, Dunkin' sells more cups of coffee than Starbucks and everyone else. The best part of this fact is that only 57% of Dunkin' Donuts sales are beverages while Starbucks is 78% beverages (according to a 2011 study). This means Dunkin' Donuts sells more cups of coffee and their customers pair it with a donut, bagel, or another food product. This does not mean Starbucks is doomed to always come in second place, but it does show that Dunkin' Donuts holds their own in all aspects of the business. 

Fiscal Year 2012 Highlights

Dunkin' Brands reported a 6.1% increase in revenue with a 15.3% increase in operating income. Earnings per share rose 38% to $1.28 and they increased their dividend 27% to $0.19 quarterly. Finally, Dunkin' reported an adjusted operating income margin of an impressive 46.3%. All of these numbers show that Dunkin' Brands is strong financially and they are continuing to grow. 

Current Share Price

At the close of trading on Feb. 14, Dunkin' Brands is priced at $37.29 per share. At this price, they are trading at 29.1 times 2012 earnings of $1.28 per share. On Jan. 31, Dunkin' beat on earnings and increased their 2013 full year outlook. The increase was to an estimated $1.50 to $1.53 per share from the original estimate of $1.48 to $1.51. With an estimate of $1.53 for 2013, this means they are trading at just 24.4 times these earnings.

The Bottom Line

With the high number of stores Dunkin' Donuts plans on opening from 2013 to 2015, they can be considered a high growth company. This means they can trade at a fair multiple of around 30 or even higher. I believe Dunkin' Brands will surpass $40 per share by the summer and will end up around $45 by the conclusion of 2013 based on these earnings. I have owned a position in this company for almost a year and do not plan on selling out any time soon. This is a company I want to own for a very long time. I am initiating an outperform call on CAPS. Dunkin' Brands is a BUY.


JoeySolitro1 currently owns a long position in Dunkin' Brands. The Motley Fool recommends Green Mountain Coffee Roasters and Starbucks. The Motley Fool owns shares of Starbucks. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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