Three Caffeinated Stocks

| August 5, 2011 | 0 Comments

It’s no secret Americans love coffee…

I’m sure I drink entirely way too much of the stuff.  If I had to guess, I’d say I drink around ten cups every day.  Heck, I’m drinking a cup of the office brewed sludge right now.

And just like so many others, I’m hopelessly devoted to the caffeine rush.  It’s the fuel that gets me through my day.

In fact, more than half of all Americans, 150 million people, drink coffee daily!  That’s a lot of coffee beans being ground every day…

And the amount of money we spend on coffee is staggering.  According to the National Coffee Association, Americans spend $18 billion on coffee every year!

With so much money up for grabs, fast food chains are engaged in a high stakes battle for your coffee dollars.  And it’s a great opportunity for investors to profit!

Right now, it’s a three way battle between Starbucks (SBUX), McDonald’s (MCD), and Dunkin’ Donuts.  These three coffee shops dominate coffee sales among fast food chains.

Personally, I prefer Dunkin’ Donuts’ coffee…

It tastes better than McDonald’s coffee and it’s cheaper than Starbucks. This combination of quality and price fueled a huge amount of hype around Dunkin’ Donuts’ parent company Dunkin’ Brands’ (DNKN) recent IPO.

In fact, DNKN was up more than 40% in the week after their IPO.

Why?

It’s simple… Investors were promised growth.

According to the Wall Street Journal, Dunkin’ sells more coffee than any other fast-food chain in America.  Yet, they don’t have nearly as many stores as MCD or SBUX.

And in areas like New England and New York, where they have more stores, they have 57% of the fast-food coffee market.  Clearly, DNKN investors are hoping Dunkin’ gains similar market share as they penetrate new markets.

DNKN plans to open 250 more stores in the US over the next two years. And according to the prospectus, they could double the amount of stores over the next 20 years.

Clearly, DNKN is selling growth potential.

Here’s the problem… DNKN won’t be able to live up to the hype.

The glaring problem I see with DNKN is a huge debt burden. Unfortunately, this is a common theme among companies owned by private-equity.

Back in 2006, three private-equity firms used debt to fund their purchase of the company.  Then they leveraged the company to the hilt.  At one point, they had $2.6 billion in debt.

And even after paying it down with the proceeds from the IPO, the company is still saddled with a huge amount of debt.  At last count, the company had borrowings of $1.5 billion.  And the worst part is, they’re paying around 9% interest to creditors.

Get this, 75% of first quarter operating earnings were used to pay debt!

And to make matters worse, in the first earnings report after the IPO, management reported income and profits fell!  So much for the great growth potential…

Here’s the kicker… Prior to the IPO, DNKN took on an addition $500 million in debt to pay their private equity owners a special dividend.

The more I dig into DNKN the more it looks like this IPO was a big payday for the private-equity firms… And everyone who bought the stock will get stuck holding the bag…

So, while I love Dunkin’ Donuts coffee, I don’t love this stock.  I’d stick with the more established SBUX and MCD.  They don’t have the same domestic growth potential, but they’re not choking on debt either.

Tags: , , , , , , ,

Category: Stocks

About the Author ()

Corey Williams is the editor of Sector ETF Trader, an investment advisory service focused on profiting from ETFs and the economic cycle. Under Corey’s leadership, the Sector ETF Trader has become one of the most popular and successful ETF advisories around. In addition to his groundbreaking service, Corey is the lead contributor to ETF Trading Research, where he shares his insights about ETFs and financial markets on a daily basis. He’s also a regular contributor to the Dynamic Wealth Report and the editor of one the hottest option trading services around – Elite Option Trader.

Leave a Reply

Your email address will not be published.