Krispy Kreme Donuts

A. INTRODUCTION:

On a hot July day in 1937, Vernon and two of his friends came to Winston-Salem, North Carolina, with $25. They rented the front of a store and talked the grocer into loaning them ingredients to make their first doughnuts. Vernon promised to reimburse the generous grocer. Making the doughnuts became harder, though. They were forced to work long hours in the sticky south without the luxury of air conditioning. Temperatures were also increased by the doughnuts themselves, which were very hot. In spite of the difficulty, the first doughnuts were finally ready to go. However, the three realized that all they had to make deliveries in was their 1936 Pontiac. They converted it to a delivery van by removing the back seat and installing a rack.

After the first day of doughnut making, people passing on the street would enter the doughnut shop, lured in by the smell. They begged Vernon to sell them some of the fresh Krispy Kreme doughnuts. Up to this point, the business had run on wholesale. Vernon decided to sell doughnuts by cutting a window into the wall of the shop. Krispy Kreme became a wholesale and retail business, as it is today.

By 1960, Krispy Kreme was recognized by the green roof and "Marching K's" symbol. The addition of a coffeehouse and a window allowed customers to see the cooking process. In 1973, Rudolph died suddenly and the company became a wholly owned subsidiary of Beatrice Foods Company of Chicago, Illinois. New and different products were used to make the donuts and performance was increased. Attention to detail and quality consequently decreased. A few years later, a group of franchisees, led by Joseph A. McAleer Sr., purchased Krispy Kreme and Krispy Kreme became an independent company once again. The former workers of Krispy Kreme brought back the old ways of great doughnuts and coffee.

B. SUMMARY OF THE BUSINESS AND CASE:

Krispy Kreme Doughnuts operates through three segments: Company stores operations, Franchise operations, Krispy Kreme manufacturing, and distribution. Krispy Kreme currently owns several large manufacturing and distributions factories that serve both franchised and company-owned stores. These distributions centers produce and distribute the product mixes and machinery necessary make Krispy Kreme's signature doughnuts and coffee. However, the unsustainable profitability of this division has led to questions about corporate management and accounting practices.

Since May 2004, Krispy Kreme has closed a number of US franchises in order to minimize relative decreases in revenues. Krispy Kreme management also decided to divest its recent acquisition, the Montana Mills Bread Company, purchased in fiscal 2003. Krispy Kreme intends to close a $4.6 million manufacturing and distribution plant in Ohio due to overstock and declining revenues. Management has announced that it plans to shift the company's focus from top-line growth through opening new franchises to bottom-line growth through reduced expenses. This decision will prove extremely beneficial to the company because it will focus the company's efforts on current franchises, helping them achieve optimal performance.

C. INTERNAL ANALYSIS:

MARKETING:

Krispy Kreme's marketing strategy is difficult to replicate. Not only is the company's proprietary recipe impossible to duplicate, but Krispy Kreme is known for its experimental nature towards various doughnut flavors, which requires creativity. Even after imitating these flavors, competitors would still struggle to achieve the same taste. Krispy Kreme's strong reputation results from years of history that no competitor can quickly acquire. Dunkin Donuts for instance, has a reputation for being the 'breakfast break' every morning, but they have yet to acquire a reputation for selling "The best doughnuts" as Krispy Kreme has.

They do an excellent job publicizing new store openings etc. Napsteriazing their product (giving people samples as the walk in), Building a Community, and other concepts from the book. KK has done a good job limiting the number of locations that they open. If they want to maintain the mystique of the product, a certain degree of scarcity is a good thing. If they are on every fifth corner like their competitors, they will become a commodity easily unseated by a competitors new taste driven product. Build only a few outlets but make them spectacular experiences.

MANUFACTURING AND DISTRIBUTION:

Krispy Kreme owns and franchises its doughnut stores where the Company makes and sells over 20 varieties of doughnuts, including its Hot Original Glazed variety. Each of its traditional stores is a doughnut factory with the capacity to produce from 4,000 dozen to over 10,000 dozen doughnuts daily. Its sales channels consist of on-premises sales and off-premises sales. The Company has two complementary business units: its company and franchised stores, which Krispy Kreme refers to, collectively, as Store Operations and Krispy Kreme Manufacturing and Distribution (KKM&D). At February 1, 2004, there were 357 Krispy Kreme factory stores in operation, of which 338 are located in the United States. During the fiscal year ended February 1, 2004 (fiscal 2003), it acquired the remaining 33% interest in Golden Gate Doughnuts, LLC that it did not already own.

FINANCE:

The net profit margin at Krispy Kreme grew from below 10 to nearly 20 per cent between 2000 and 2003. Revenues grew from 2000-03 because of company store and franchise expansion, increasing volume, deployment of more space-effective equipment, and a growing number of two-income households in the U.S. The company's increasing margins were due in large part to significant operating power. In 2001, operating expenses accounted for 83.4% of revenues.

The company was operating efficiently through 2003, with a persistently high 8.5% net profit margin, compared to the 5.6% margin at Starbucks Coffee, an industry leader and competitor; however, recent quarterly data makes the company's operating leverage all too evident.

While the asset turnover ratios of Krispy Kreme and competitor Starbucks Coffee were equal in 2002, Krispy Kreme showed a steady decline from 1.54 in 2002 to 1.01 in 2003 while Starbucks remained steady. The company's declining ratio was caused in part by corporate policies that lead to a rising level of assets.

Krispy Kreme turns over its inventory quickly, averaging only 20 days of inventory on hand. This is efficient because inventory moves more quickly through the production process to the Krispy Kreme