Dunkin Brands Talks Espresso Opportunities and Growing Pains

First, broaden the restaurant's appeal for consumers while making the business more efficient and profitable for franchisees. Then, aggressively expand the store base westward across the country. That's Dunkin' Brands' (NASDAQ:DNKN) growth strategy in a nutshell.

The coffee and snack specialist's latest earnings results showed progress in a few of these key areas in 2019 -- with one important exception. Specifically, customer traffic trends were weak through most of last year, leading to what CEO David Hoffmann and team described as "disappointing" fourth-quarter comparable-store sales.

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Executives detailed the main drivers behind that performance in a conference call with investors while expressing optimism that the chain's long-term plans remain intact. Let's look at a few highlights from that presentation.

Getting things done

While our journey toward transformation is all about deliberate sequencing of key initiatives, we had an incredibly productive 2018. -- Hoffmann

In 2018, Dunkin' Brands ticked off several boxes from its growth plan that aims to break the company from its regional focus and unlock a much larger national market. Management highlighted a few of these initiatives, including menu simplification and store redesigns. The chain also made moves that challenged established national giants like McDonald's with its first push into a value snack platform. Dunkin's relaunched espresso-based beverage offering further strengthened its coffee appeal while putting it in more direct competition with Starbucks (NASDAQ:SBUX).

Yet the company's growth pace trailed these rivals by a wide margin, with comparable-store sales slowing to flat in the fourth quarter from 1% in the prior quarter. For context, Both McDonald's and Starbucks grew their U.S. businesses by 4% in recent months and saw modestly improving trends in the fourth quarter.

All about beverages

The launch of new, handcrafted espresso beverages at Dunkin' was critical enough to the success of the [growth] blueprint to warrant nearly all of our attention in Q4. -- Hoffmann

Management implied that the company's fourth-quarter growth slowdown might have been at least partially driven by the company's focus on its espresso launch. The chain trained over 100,000 employees on the new machines after quickly rolling them out to over 9,000 locations across the country. Executives pulled back on advertising during this training and installation time, they said, so that stores would be ready to handle the new service starting in the peak holiday shopping season.

While that move might have hurt results in the short term, management still sees the espresso platform as potentially transformative. It is already lifting profitability and supporting afternoon customer traffic, they noted, which bodes well for future comps gains.

Quality over quantity

Dunkin' continues to be one of the top developers in the retail [quick service restaurant] space in terms of net new units, along with significant white space opportunity in the U.S. ... but we are becoming even more rigorous on our development criteria as we focus on quality restaurant development versus quantity. -- Hoffmann

The company announced new medium-term expansion targets that amount to a slowdown in Dunkin's growth pace. While new U.S. store launches totaled 313 in 2017, that figure fell to 278 last year and is on pace to decelerate to around 200 in 2019.

Executives said investors shouldn't interpret the slowdown as a warning sign about the chain's national expansion strategy. After all, the latest crop of new stores, 90% of which opened outside of the core northeast region, are comfortably reaching their early return targets.

Instead, Dunkin' Brands is getting more deliberate about its growth and aiming for higher-quality distribution points that can deliver more satisfying customer experiences. Given the weak customer traffic figures lately, that's a smart strategic approach. However, the trend will ensure it takes more time for the company to reach its ambitious target of doubling the U.S. store count from its current perch of about 9,000.