Krispy Kreme, Inc.: Form 10-Q for the period ended Jun 30, 2024

The following discussion and analysis of our financial condition and results of operations should be read together with our unaudited Condensed Consolidated Financial Statements and related notes included elsewhere in this Quarterly Report on Form 10-Q, as well as our audited Consolidated Financial Statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2023, and in other reports filed subsequently with the SEC.

Cautionary Note Regarding Forward-Looking Statements

This report contains forward-looking statements that involve risks and uncertainties. The words “believe,” “may,” “could,” “will,” “should,” “anticipate,” “estimate,” “expect,” “outlook,” “guidance,” or similar words, or the negative of these words, identify forward-looking statements. Such forward-looking statements are based on certain assumptions and estimates that we consider reasonable but are subject to various risks and uncertainties and assumptions relating to our operations, financial results, financial condition, business, prospects, growth strategy and liquidity. Accordingly, there are, or will be, important factors that could cause our actual results to differ materially from those indicated in these statements. The inclusion of this forward-looking information should not be regarded as a representation by us that the future plans, estimates or expectations contemplated by us will be achieved. Our actual results could differ materially from the forward-looking statements included herein. Factors that could cause actual results to differ from those expressed in forward-looking statements include, without limitation, the risks and uncertainties described under the headings “Cautionary Note Regarding Forward-Looking Statements” and “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2023, filed by us with the SEC and described in the other filings we make from time to time with the SEC. We believe that these factors include, but are not limited to, the impact of pandemics, changes in consumer preferences, the impact of inflation, and our ability to execute on our omni-channel business strategy. These forward-looking statements are made only as of the date of this document, and we do not undertake any obligation, other than as may be required by applicable law, to update or revise any forward-looking or cautionary statement to reflect changes in assumptions, the occurrence of events, unanticipated or otherwise, or changes in future operating results over time or otherwise.

Overview

Krispy Kreme is one of the most beloved and well-known sweet treat brands in the world. Krispy Kreme operates in 40 countries with our transformational omni-channel strategy, which focuses on delivering fresh doughnuts such as our iconic Original Glazed® doughnut, which is universally recognized for its hot-off-the-line, melt-in-your-mouth experience, to where our consumers are located and want to have access to them. Global Points of Access are a key metric and we define them as our unique network of fresh Doughnut Shops, partnerships with leading retailers (DFD Doors), and a rapidly growing digital business. Our purpose of touching and enhancing lives through the joy that is Krispy Kreme guides how we operate every day and is reflected in the love we have for our people, our communities, and the planet.

The following table presents a summary of our financial results for the periods presented:

(in thousands, except percentages)

(1) We generated 7.8% and 7.2% organic revenue growth for the quarter and two quarters ended June 30, 2024.

(2) Refer to “Key Performance Indicators and Non-GAAP Measures” below for more information as to how we define and calculate Adjusted EBITDA and Adjusted Net Income, Diluted and for a reconciliation of Adjusted EBITDA and Adjusted Net Income, Diluted to the most comparable GAAP measure.

Significant Events and Transactions

Executing on our Omni-Channel Strategy

We made strong progress on the execution of our omni-channel strategy in the second quarter of fiscal 2024, as we continue to add quality Global Points of Access across our network and convert markets into fully implemented Hub and Spoke models (refer to “Key Performance Indicators and Non-GAAP Measures” below for more information as to how we define the Hub and Spoke model). We added 1,039 new Global Points of Access in the second quarter of fiscal 2024 to reach 15,853 Global Points of Access. The primary driver of the increased Global Points of Access during the second quarter was the continued expansion of our DFD network in alignment with our transformation strategy, as we added 993 DFD Doors globally, including 299 DFD Doors to the U.S. segment and 669 DFD Doors to the International segment. The increase in DFD Doors is the result of our focus on executing our omni-channel strategy to drive our transformation, and includes expansion with key customers. We expect DFD growth to continue to be one of our most significant drivers of earnings growth, primarily through increased door count and also through optimization of revenue per door. Deployment of the omni-channel strategy in the U.S. led to our trailing four quarters Sales per Hub increasing by 6.4% from $4.7 million in the second quarter of fiscal 2023 to $5.0 million in the second quarter of fiscal 2024. The increase in our Sales per Hub contributed to U.S. segment organic revenue growth of 8.4% and Adjusted EBITDA margin expansion in the second quarter of fiscal 2024. Our goal is to continue to grow our Sales per Hub over time, which we believe will drive higher margins and higher return on invested capital.

In addition to grocery and convenience stores, we are also expanding in DFD channels such as Quick Service Restaurant (“QSR”) and club membership to further broaden availability of our doughnuts to consumers. This includes our QSR partnership with McDonald’s. Following a successful pilot at approximately 160 McDonald’s shops in Louisville and Lexington, Kentucky and the surrounding area, we entered into an agreement to work with McDonald’s to develop a deployment schedule for a U.S. national rollout of the sale of Krispy Kreme doughnuts at McDonald’s restaurants. The deployment schedule will set forth the anticipated launch period for each McDonald’s business unit in the U.S., with phasing expected from the fourth quarter of fiscal 2024 through the end of fiscal 2026. The agreement does not guarantee us any particular level of business unit deployment, sales, or profits.

Growing our Global Presence

Another key strategic initiative on our journey to become the Most Loved Sweet Treat Brand in the World is to increase our global presence, focusing on the percentage of our revenues and Adjusted EBITDA generated outside the U.S. We expect to open in three to five new countries in fiscal 2024, with a key focus in Western Europe and select Asian and South American countries. We recently entered into agreements with franchise partners in Brazil, Germany, and Spain, with shop openings expected in the future. We expect to have further announcements throughout the year as we grow our global business.

Digital, Brand, and Innovation

Digital channel sales represented a healthy 22.2% of our Doughnut Shop and Cookie Bakery sales (excluding DFD) for the second quarter of fiscal 2024, up from 18.8% in the same quarter last year. Our growth in digital is due to our focus on owned channel improvements and increasing product availability through third parties.

Innovation is a significant driver of frequency as we create and introduce premium and buzz-worthy offerings to consumers across our Global Points of Access. During the second quarter of fiscal 2024 we delivered the joy that is Krispy Kreme through powerful specialty doughnuts and seasonal activations including Mother’s Day, Kit Kat, and Southern Sweets with Dolly Parton, among many others around the world.

Segment Reclassifications

As discussed in Note 1, Description of Business and Summary of Significant Accounting Policies to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q, effective January 1, 2024, we realigned our segment reporting structure such that the Company-owned Canada and Japan businesses have moved from the Market Development reportable operating segment to the International reportable operating segment. All segment information has been restated to be consistent with current presentation.

Key Performance Indicators and Non-GAAP Measures

We monitor the key business metrics and non-GAAP metrics set forth below to help us evaluate our business and growth trends, establish budgets, measure the effectiveness of our sales and marketing efforts, and assess operational efficiencies. The calculation of the key business metrics discussed below may differ from other similarly titled metrics used by other companies, securities analysts, or investors.

Throughout this Quarterly Report on Form 10-Q, we utilize “Global Points of Access” as a key performance indicator. Global Points of Access reflect all locations at which fresh doughnuts or cookies can be purchased. We define Global Points of Access to include all Hot Light Theater Shops, Fresh Shops, Carts and Food Trucks, DFD Doors, Cookie Bakeries, and other defined points at both Company-owned and franchise locations as of the end of the respective reporting period. We monitor Global Points of Access as a metric that informs the growth of our omni-channel presence over time and believe this metric is useful to investors to understand our footprint in each of our segments and by asset type.

The following table presents our Global Points of Access, by segment and type, as of the end of the second quarter of fiscal 2024, the second quarter of fiscal 2023, and fiscal 2023, respectively:

(1) Carts and Food Trucks are non-producing, mobile (typically on wheels) facilities without walls or a door where product is received from a Hot Light Theater Shop or Doughnut Factory. Other includes a vending machine. Points of Access in this category are primarily found in international locations in airports, train stations, etc.

(2) Includes over 160 McDonald’s shops located in Louisville and Lexington, Kentucky and the surrounding area as of June 30, 2024.

As of June 30, 2024, we had 15,853 Global Points of Access, with 2,283 Krispy Kreme and Insomnia Cookies branded shops, 48 Carts and Food Trucks, and 13,522 DFD Doors. During the second quarter of fiscal 2024, we added a net 44 additional shops globally, including one Hot Light Theater Shop, 34 Fresh Shops, and nine Insomnia Cookie Bakeries. We added a net 993 new DFD Doors during the quarter as we continue to focus on the deployment of our Hub and Spoke model and our expansion into QSR channels. We plan to continue adding new locations and expanding our digital platform in order to extend the availability of and access to our products. We are excited about our partnership with McDonald’s and the phasing of a U.S. national rollout, which we believe has validated the attractiveness of the QSR channel.

We also utilize “Hubs” as a key performance indicator. Our transformation is driven by the implementation of an omni-channel strategy to reach more consumers where they are and drive revenue growth, and this strategy is supported by a capital-efficient Hub and Spoke distribution model that provides a route to market and powers profitability. Our Hot Light Theater Shops and Doughnut Factories serve as centralized production facilities (“Hubs”). From these Hubs, we deliver doughnuts to our Fresh Shops, Carts and Food Trucks, and DFD Doors (“Spokes”) primarily through an integrated network of Company-operated delivery routes, ensuring quality and freshness. Specific to the U.S. segment, certain legacy Hubs have not historically had Spokes. Many Hubs in the U.S. segment are being converted to add Spokes while certain legacy Hubs do not currently have the ability or need to add Spokes.

The following table presents our Hubs, by segment and type, as of the end of the second quarter of fiscal 2024, the second quarter of fiscal 2023, and fiscal 2023, respectively:

(1) Includes only Hot Light Theater Shops and excludes Mini Theaters. A Mini Theater is a Spoke location that produces some doughnuts for itself and also receives doughnuts from another producing location.

Non-GAAP Measures

We report our financial results in accordance with GAAP; however, management evaluates our results of operations using, among other measures, organic revenue growth, adjusted earnings before interest, taxes, depreciation and amortization (“Adjusted EBITDA”), and Adjusted Net Income, Diluted as we believe these non-GAAP measures are useful in evaluating our operating performance.

These non-GAAP financial measures are not universally consistent calculations, limiting their usefulness as comparative measures. Other companies may calculate similarly titled financial measures differently than we do or may not calculate them at all. Additionally, these non-GAAP financial measures are not measurements of financial performance under GAAP. In order to facilitate a clear understanding of our consolidated historical operating results, you should examine our non-GAAP financial measures in conjunction with our historical Condensed Consolidated Financial Statements and notes thereto included in this Quarterly Report on Form 10-Q.

Organic Revenue Growth

Organic revenue growth measures our revenue growth trends excluding the impact of acquisitions and foreign currency, and we believe it is useful for investors to understand the expansion of our global footprint through internal efforts. We define “organic revenue growth” as the growth in revenues, excluding (i) acquired shops owned by us for less than 12 months following their acquisition, (ii) the impact of foreign currency exchange rate changes, (iii) the impact of shop closures related to restructuring programs such as the shop portfolio optimization program initiated for Krispy Kreme U.S. during fiscal 2022, (iv) the impact of the Branded Sweat Treats business exit, and (v) revenues generated during the 53rd week for those fiscal years that have a 53rd week based on our fiscal calendar defined in Note 1, Description of Business and Summary of Significant Accounting Policies to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q. See “Results of Operations” for our organic growth calculations for the periods presented.

Adjusted EBITDA, Adjusted Net Income, Diluted, and Adjusted EPS

We define “Adjusted EBITDA” as earnings before interest expense, net, income tax expense, and depreciation and amortization, with further adjustments for share-based compensation, certain strategic initiatives, acquisition and integration expenses, and other certain non-recurring, infrequent or non-core income and expense items. Adjusted EBITDA is a principal metric that management uses to monitor and evaluate operating performance and provides a consistent benchmark for comparison across reporting periods.

We define “Adjusted Net Income, Diluted” as net loss attributable to common shareholders, adjusted for interest expense, share-based compensation, certain strategic initiatives, acquisition and integration expenses, amortization of acquisition-related intangibles, the tax impact of adjustments, and other certain non-recurring, infrequent or non-core income and expense items. “Adjusted EPS” is Adjusted Net Income, Diluted converted to a per share amount.

Adjusted EBITDA, Adjusted Net Income, Diluted, and Adjusted EPS have certain limitations, including adjustments for income and expense items that are required by GAAP. In evaluating these non-GAAP measures, you should be aware that in the future we will incur expenses that are the same as or similar to some of the adjustments in this presentation, such as share-based compensation. Our presentation of Adjusted EBITDA, Adjusted Net Income, Diluted, and Adjusted EPS should not be construed to imply that our future results will be unaffected by any such adjustments. Management compensates for these limitations by relying on our GAAP results in addition to using Adjusted EBITDA, Adjusted Net Income, Diluted, and Adjusted EPS supplementally.

The following tables present a reconciliation of net loss to Adjusted EBITDA and net loss to Adjusted Net Income, Diluted and Adjusted EPS for the periods presented:

(in thousands)

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(in thousands, except per share amounts)

(1) Primarily foreign translation gains and losses in each period.

(2) The quarter and two quarters ended June 30, 2024 consist primarily of costs associated with global transformation, exploring strategic alternatives for the Insomnia Cookies business, and preparing for the McDonald’s U.S. expansion (with these three specific initiatives aggregating to approximately $3.9 million and $8.5 million for the quarter and two quarters ended June 30, 2024, respectively). The quarter and two quarters ended July 2, 2023 consists primarily of costs associated with the decision to exit the Branded Sweet Treats business, including property, plant and equipment impairments, inventory write-offs, employee severance, and other related costs.

(3) Consists of acquisition and integration-related costs in connection with the Company’s business and franchise acquisitions, including legal, due diligence, and advisory fees incurred in connection with acquisition and integration-related activities for the applicable period.

(4) Consists of start-up costs associated with entry into new countries for which the Company’s brands have not previously operated, including Brazil, Spain, and the Insomnia Cookies brand entering Canada and the U.K.

(5) Includes lease termination costs, impairment charges, and loss on disposal of property, plant and equipment.

(6) The quarter and two quarters ended June 30, 2024 and July 2, 2023 consist primarily of costs associated with restructuring of the global executive team.

(7) The quarter and two quarters ended June 30, 2024 consist primarily of a gain from insurance proceeds received related to a shop in the U.S. that was destroyed and subsequently rebuilt. The quarter and two quarters ended July 2, 2023 consist primarily of legal and other regulatory expenses incurred outside the ordinary course of business.

(8) Consists of amortization related to acquired intangible assets as reflected within depreciation and amortization in the Condensed Consolidated Statements of Operations.

(9) Includes interest expenses related to unamortized debt issuance costs from the 2019 Facility associated with extinguished lenders as a result of the March 2023 debt refinancing.

(10) Tax impact of adjustments calculated applying the applicable statutory rates. The quarter and two quarters ended June 30, 2024 and July 2, 2023 also include the impact of disallowed executive compensation expense.

(11) The quarter and two quarters ended June 30, 2024 consist of the recognition of previously unrecognized tax benefits unrelated to ongoing operations, a discrete tax benefit unrelated to ongoing operations, and the effect of various tax law changes on existing temporary differences. The quarter and two quarters ended July 2, 2023 consist of the recognition of a previously unrecognized tax benefit unrelated to ongoing operations, the effect of tax law changes on existing temporary differences, and a discrete tax benefit unrelated to ongoing operations.

Sales Per Hub

In order to measure the effectiveness of our Hub and Spoke model, we use “Sales per Hub” on a trailing four-quarter basis, which includes all revenue generated from a Hub and its associated Spokes. Sales per Hub equals Fresh Revenues from Hubs with Spokes, divided by the average number of Hubs with Spokes during the period. Fresh Revenues include product sales generated from our Doughnut Shop business (including digital channels), as well as DFD sales, but excluding all Insomnia Cookies revenues as the measure is focused on the Krispy Kreme business. The Average Hub with Spokes for a period is calculated as the average of the number of Hubs with Spokes at the end of the five most recent quarters. The Sales per Hub performance measure allows us and investors to measure our effectiveness at leveraging the Hubs in the Hub and Spoke model to distribute product and generate cost efficiencies and profitability.

Sales per Hub was as follows for each of the periods below:

(in thousands, unless otherwise stated)

(1) Includes the exited Branded Sweet Treats business revenues.

(2) Includes Insomnia Cookies revenues and Fresh Revenues generated by Hubs without Spokes.

(3) Total International net revenues is equal to Fresh Revenues from Hubs with Spokes for that business segment.

(4) International Sales per Hub comparative data has been restated in constant currency based on current exchange rates.

In our International segment, where the Hub and Spoke model originated, Sales per Hub reached $10.1 million, up from $10.0 million generated in the full fiscal year 2023, and up from $9.7 million generated in the full fiscal year 2022. The International segment illustrates the benefits of leveraging our Hub and Spoke model as the most efficient way to grow the business, as shown by the consistent Sales per Hub and higher Adjusted EBITDA margins despite elevated commodity costs and macroeconomic conditions. In the U.S. segment, we had Sales per Hub of $5.0 million, up from $4.9 million generated in the full fiscal year 2023 and up from $4.5 million generated in the full fiscal year 2022. In the U.S. we continue our efforts to increase the number of quality DFD Doors served by our Hubs as the segment makes progress toward optimizing the model to look more like our International segment. As we further extend the Hub and Spoke model into existing and new markets around the world, we expect to see our Sales per Hub continue to grow.

Results of Operations

The following comparisons are historical results and are not indicative of future results, which could differ materially from the historical financial information presented.

Quarter ended June 30, 2024 compared to the Quarter ended July 2, 2023

The following table presents our unaudited condensed consolidated results of operations for the quarter ended June 30, 2024 and the quarter ended July 2, 2023:

(in thousands, except percentages)

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The following table presents a further breakdown of total net revenue and organic revenue growth by segment for the quarter ended June 30, 2024 compared to the quarter ended July 2, 2023:

(in thousands, except percentages)

Total net revenue growth of $29.9 million, or approximately 7.3%, and organic revenue growth of $32.0 million, or approximately 7.8%, were driven by the continued and successful execution of our omni-channel growth strategy globally, high impact brand activations, and product premiumization efforts. We have continued to increase availability through new Global Points of Access, including capital-light DFD Doors, and via digital channels. Additionally, we have continued to take pricing actions to offset cost inflation, including in the second quarter of fiscal 2024, but with growth in pricing and cost inflation slowing compared to this time last year.

U.S. segment net revenue grew $21.9 million, or approximately 8.2%, and organic revenue increased $22.5 million, or approximately 8.4%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024. Growth was driven by an additional 1,224 Points of Access compared to the second quarter of fiscal 2023 and continued digital channel sales growth due to a focus on owned channel improvements and increasing product availability through third parties. Organic growth was also aided by pricing increases and promotions, but offset some by softness in transactions and average transaction value which was impacted by the higher rate of discounting.

Our International segment net revenue grew $4.7 million, or approximately 3.9%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024, in spite of foreign currency translation impacts of $1.4 million primarily from a weaker Japanese yen. International organic revenue grew $6.1 million, or approximately 5.0%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024, driven by increased pricing and Points of Access growth of 1,515 compared to the second quarter of fiscal 2023. International organic revenue growth was offset some by softer transaction volume compared to last year.

Our Market Development segment net revenue and organic revenue increased $3.4 million, or approximately 16.1%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024, driven by timing of mix and equipment sales to franchisees and the continued expansion of our international franchise business.

Product and distribution costs (exclusive of depreciation and amortization): Product and distribution costs decreased $3.3 million, or 2.9%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024. As a percentage of revenue, product and distribution costs decreased by approximately 260 basis points from 27.2% in the second quarter of fiscal 2023 to 24.6% in the second quarter of fiscal 2024, primarily due to benefits from pricing actions taken to offset materials cost inflation. Additionally, we lapped $2.7 million of inventory write-offs and employee severance expenses incurred during the second quarter of fiscal 2023 associated with the exit of the Branded Sweet Treats business.

Operating expenses: Operating expenses increased $23.3 million, or 12.3%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024, driven mainly by labor cost inflation and investments to support growth. Operating expenses as a percentage of revenue increased by approximately 210 basis points, from 46.3% in the second quarter of fiscal 2023 to 48.4% in the second quarter of fiscal 2024, primarily due to the impact of discounting and lower transaction volumes on operating leverage. This has been partially offset by efficiency benefits from Hub and Spoke expansion.

Selling, general and administrative expense: Selling, general and administrative (“SG&A”) expense increased $1.9 million, or 3.0%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024. As a percentage of revenue, SG&A expense decreased approximately 60 basis points, from 15.3% in the second quarter of fiscal 2023 to 14.7% in the second quarter of fiscal 2024, primarily driven by cost control initiatives and lower employee cash incentive compensation in the second quarter of fiscal 2024 which offset costs associated with strategic initiatives such as global transformation and exploring strategic alternatives for Insomnia Cookies.

Marketing expenses: Marketing expenses increased $2.6 million, or 27.1%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024, primarily driven by a higher cost of promotional activity relative to the incremental revenues generated.

Other (income)/expenses, net: Other income, net of $0.8 million in the second quarter of fiscal 2024 was primarily driven by business interruption insurance recoveries. Other expenses, net of $0.3 million in the second quarter of fiscal 2023 was primarily driven by property, plant and equipment impairments associated with the exit of the Branded Sweet Treats business, partially offset by business interruption insurance recoveries.

Depreciation and amortization expense: Depreciation and amortization expense increased $5.4 million, or 18.5%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024. As a percentage of revenue, depreciation and amortization expense increased approximately 80 basis points, from 7.1% in the second quarter of fiscal 2023 to 7.9% in the second quarter of fiscal 2024, primarily driven by higher capital spend and assets placed into service to support the Hub and Spoke model evolution, including preparing for the acceleration of our U.S. national DFD rollout discussed in “Significant Events and Transactions” above.

Interest expense, net: Interest expense, net increased $2.4 million, or 19.8%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024. The increase was primarily driven by increases in outstanding debt and the benchmark interest rates associated with the unhedged portion of our variable rate long-term debt.

Income tax benefit: Income tax benefit was $3.6 million in the second quarter of fiscal 2024 compared to $7.6 million in the second quarter of fiscal 2023. The decrease of $4.0 million was primarily driven by lower pre-tax results and a decrease in the worldwide annual effective tax rate compared to the second quarter of fiscal 2023.

Results of Operations by Segment – Quarter ended June 30, 2024 compared to the Quarter ended July 2, 2023

The following table presents Adjusted EBITDA by segment for the periods indicated:

(in thousands, except percentages)

(1) Refer to “Key Performance Indicators and Non-GAAP Measures” above for a reconciliation of Adjusted EBITDA to net income.

U.S. segment Adjusted EBITDA increased $4.6 million, or 16.3%, with margin expansion of 80 basis points to 11.3% in the second quarter of fiscal 2024 compared to the second quarter of fiscal 2023, driven by productivity benefits from Hub and Spoke expansion, labor and waste optimization, and lower employee cash incentive compensation, partially offset by increased promotional activity.

International segment Adjusted EBITDA decreased $3.0 million, or 12.3%, with margin decline of 320 basis points to 17.3% in the second quarter of fiscal 2024 compared to the second quarter of fiscal 2023, as softer transaction volumes continued to impact operating leverage for the International equity markets.

Market Development segment Adjusted EBITDA increased $2.4 million, or 22.7%, with margin expansion of 280 basis points to 53.1% in the second quarter of fiscal 2024 compared to the second quarter of fiscal 2023, driven mainly by savings in SG&A and the continued expansion of our international franchise business.

Corporate expenses within Adjusted EBITDA decreased $2.0 million, or 13.8%, from the second quarter of fiscal 2023 to the second quarter of fiscal 2024 primarily due to cost control initiatives.

Two Quarters ended June 30, 2024 compared to the Two Quarters ended July 2, 2023

The following table presents our unaudited condensed consolidated results of operations for the two quarters ended June 30, 2024 and the two quarters ended July 2, 2023:

(in thousands, except percentages)

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The following table presents a further breakdown of total net revenue and organic revenue growth by segment for the two quarters ended June 30, 2024 compared to the two quarters ended July 2, 2023:

(in thousands, except percentages)

Total net revenue growth of $53.7 million, or approximately 6.5%, and organic revenue growth of $59.6 million, or approximately 7.2%, was driven by the continued and successful execution of our growth strategy deploying our omni-channel approach globally. We have continued to increase availability through new Global Points of Access, including capital-light DFD Doors, and via digital channels. Additionally, we have continued to take pricing actions to offset cost inflation, including in the first two quarters of fiscal 2024, but with growth in pricing and cost inflation slowing compared to this time last year.

U.S. segment net revenue grew $36.5 million, or approximately 6.6%, and organic revenue increased $42.8 million, or approximately 7.9%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024. Growth was driven by additional Points of Access compared to the first two quarters of fiscal 2023 and higher digital and delivery channel sales due to a focus on owned channel improvements and increasing product availability through third parties. Organic revenue growth was also aided by pricing increases, leading to an increase in the average transaction size, offset some by transaction declines.

Our International segment net revenue grew $17.4 million, or approximately 7.5%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024, aided by foreign currency translation impacts of $0.4 million. International organic revenue grew $17.0 million, or approximately 7.3%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024, driven by additional Points of Access compared to the first two quarters of fiscal 2023 and successful marketing activations. International organic revenue growth was offset some by softer transaction volume compared to last year.

Our Market Development segment net revenue and organic revenue decreased $0.2 million, or approximately 0.5%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024, driven by softness in our domestic franchise business.

Product and distribution costs (exclusive of depreciation and amortization): Product and distribution costs decreased $14.1 million, or 6.1%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024. As a percentage of revenue, product and distribution costs decreased by approximately 330 basis points from 27.7% in the first two quarters of fiscal 2023 to 24.4% in the first two quarters of fiscal 2024, primarily due to benefits from pricing actions taken to offset materials cost inflation. Additionally, we benefited from the exit of the lower-margin Branded Sweet Treats business, and lapping the related $10.4 million inventory write-offs and employee severance expenses incurred during the first two quarters of fiscal 2023.

Operating expenses: Operating expenses increased $37.1 million, or 9.8%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024, driven mainly by labor cost inflation and investments to support growth. Operating expenses as a percentage of revenue increased approximately 140 basis points, from 46.0% in the first two quarters of fiscal 2023 to 47.4% in the first two quarters of fiscal 2024, primarily due to the impact of lower transaction volumes on operating leverage. This has been partially offset by efficiency benefits from Hub and Spoke expansion.

Selling, general and administrative expense: SG&A expense increased $12.0 million, or 9.7%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024. As a percentage of revenue, SG&A expense increased approximately 40 basis points, from 15.0% in the first two quarters of fiscal 2023 to 15.4% in the first two quarters of fiscal 2024, primarily driven by higher share-based compensation expense and investments in strategic initiatives such as global transformation and exploring strategic alternatives for the Insomnia Cookies business, partially offset by cost control initiatives and lower employee cash incentive compensation.

Other income, net: Other income, net of $0.6 million in the first two quarters of fiscal 2024 was primarily driven by business interruption insurance recoveries. Other income, net of $4.9 million in the first two quarters of fiscal 2023 was primarily driven by a gain on a sale-leaseback transaction of $9.6 million, partially offset by property, plant and equipment impairments associated with the exit of the Branded Sweet Treats business.

Depreciation and amortization expense: Depreciation and amortization expense increased $11.1 million, or 19.3%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024. As a percentage of revenue, depreciation and amortization expense increased approximately 80 basis points, from 6.9% in the first two quarters of fiscal 2023 to 7.7% in the first two quarters of fiscal 2024, primarily driven by higher capital spend and assets placed into service to support the Hub and Spoke model evolution, including preparing for the acceleration of our U.S. national DFD rollout discussed in “Significant Events and Transactions” above.

Interest expense, net: Interest expense, net increased $4.1 million, or 17.2%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024. The increase was primarily driven by increases in outstanding debt and the benchmark interest rates associated with the unhedged portion of our variable rate long-term debt.

Income tax expense/(benefit): Income tax expense was $0.7 million in the first two quarters of fiscal 2024, while income tax benefit was $7.2 million in the first two quarters of fiscal 2023. The fluctuation of $7.9 million from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024 was primarily driven by lower pre-tax results and a decrease in the worldwide annual effective tax rate compared to the first two quarters of fiscal 2023.

Results of Operations by Segment – Two Quarters ended June 30, 2024 compared to the Two Quarters ended July 2, 2023

The following table presents Adjusted EBITDA by segment for the periods indicated:

(in thousands, except percentages)

(1) Refer to “Key Performance Indicators and Non-GAAP Measures” above for a reconciliation of Adjusted EBITDA to net income.

U.S. segment Adjusted EBITDA increased $8.7 million, or 13.0%, with margin expansion of 80 basis points to 12.9% in the first two quarters of fiscal 2024 compared to the first two quarters of fiscal 2023 driven by benefits from lapping the exited Branded Sweet Treats business, productivity benefits from Hub and Spoke expansion, labor and waste optimization, and lower employee cash incentive compensation.

International segment Adjusted EBITDA decreased $1.5 million, or 3.4%, with margin decline of 190 basis points to 16.9% in the first two quarters of fiscal 2024 compared to the first two quarters of fiscal 2023, as softer transaction volume continued to impact operating leverage for the International equity markets.

Market Development segment Adjusted EBITDA increased $2.7 million, or 12.4%, with margin expansion of 620 basis points to 53.6% in the first two quarters of fiscal 2024 compared to the first two quarters of fiscal 2023, driven mainly by savings in SG&A and the continued expansion of our international franchise business.

Corporate expenses within Adjusted EBITDA increased $0.7 million, or 2.5%, from the first two quarters of fiscal 2023 to the first two quarters of fiscal 2024 primarily due to higher share-based compensation expense and investments in strategic initiatives such as global transformation and exploring strategic alternatives for the Insomnia Cookies business, partially offset by cost control initiatives.

Capital Resources and Liquidity

Our principal sources of liquidity to date have included cash from operating activities, cash on hand, amounts available under our credit facility, and vendor financing including our SCF programs and structured payables programs. Our primary use of liquidity is to fund the cash requirements of our business operations, including working capital needs, capital expenditures, acquisitions, and other commitments.

Our future obligations primarily consist of our debt and lease obligations, as well as commitments under ingredient and other forward purchase contracts. As of December 31, 2023, we had the following future obligations:

• An aggregate principal amount of $837.5 million outstanding under the 2023 Facility;
• An aggregate principal amount of $11.0 million outstanding under short-term, uncommitted lines of credit;
• Non-cancellable future minimum operating lease payments totaling $759.2 million;
• Non-cancellable future minimum finance lease payments totaling $63.3 million; and
• Purchase commitments under ingredient and other forward purchase contracts of $130.5 million.

As of June 30, 2024, our outstanding principal amount under our 2023 Facility was $895.0 million. The increase from the 2023 Facility balance as of December 31, 2023 included draws to fund payments on our commercial trade financing obligations. Refer to Note 9, Long-Term Debt to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q for further information.

On July 17, 2024, we entered into an agreement to sell shares in Insomnia Cookies in exchange for cash proceeds of approximately $127.4 million. On August 1, 2024 we received additional cash of approximately $45 million from Insomnia Cookies related to the settlement of an intercompany loan. We intend to use these proceeds to further strengthen our fresh doughnut business and expand availability, as well as pay down debt. Following the redemption, we own approximately 34% of Insomnia Cookies.

We had cash and cash equivalents of $28.6 million and $38.2 million as of June 30, 2024 and December 31, 2023, respectively. We believe that our existing cash and cash equivalents and debt facilities will be sufficient to fund our operating and capital needs for at least the next twelve months. Our assessment of the period of time through which our financial resources will be adequate to support our operations is a forward-looking statement and involves risks and uncertainties. Our actual results could vary because of, and our future capital requirements will depend on, many factors, including our growth rate, the timing and extent of spending on business acquisitions, the growth of our presence in new markets, and the expansion of our omni-channel model in existing markets. We may enter into arrangements in the future to acquire or invest in complementary businesses, services, and technologies. We have based this estimate on assumptions that may prove to be wrong, and we could use our available capital resources sooner than we currently expect. We may be required to seek additional equity or debt financing. In the event that additional financing is required from outside sources, we may not be able to raise it on terms acceptable to us or at all. If we are unable to raise additional capital when desired, or if we cannot expand our operations or otherwise capitalize on our business opportunities because we lack sufficient capital, our business, results of operations, and financial condition would be adversely affected.

Cash Flows

We typically generate significant cash from operations and have substantial credit availability and capacity to fund operating and discretionary spending such as capital expenditures and debt repayments. Our requirement for working capital is not significant because our consumers pay us in cash or on debit or credit cards at the time of the sale and we are able to sell many of our inventory items before payment is due to the vendor of such items. The following table and discussion present, for the periods indicated, a summary of our key cash flows from operating, investing, and financing activities:

(in thousands)

Cash Flows Provided by Operating Activities

Cash provided by operations totaled $15.5 million for the first two quarters of fiscal 2024, a decrease of $30.7 million compared with the first two quarters of fiscal 2023. This decrease was primarily due to the intentional paydown of obligations due under our SCF programs discussed in Note 8, Vendor Finance Programs to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q, as well as our receipt of $7.7 million cash proceeds from the settlement of interest rate swap derivative contracts in the first two quarters of fiscal 2023 discussed in Note 7, Derivative Instruments to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q.

Cash Flows Used for Investing Activities

Cash used for investing activities totaled $65.2 million for the first two quarters of fiscal 2024, an increase of $21.1 million compared with the first two quarters of fiscal 2023. The increase was primarily due to $10.0 million proceeds from a sale-leaseback transaction during the first two quarters of fiscal 2023 discussed in Note 5, Leases to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q, as well as higher capital expenditures in the first two quarters of fiscal 2024. Additionally, we invested $3.5 million to acquire minority ownership interests in KK Brazil and KK Spain during the first two quarters of fiscal 2024, discussed in Note 2, Acquisitions to the Condensed Consolidated Financial Statements included in Item 1 of Part 1 of this Quarterly Report on Form 10-Q.

We expect to incur additional capital expenditures related to our accelerated U.S. expansion, including via QSR channels such as the McDonald’s U.S. national rollout discussed in “Significant Events and Transactions” above. We continue to expect capital expenditures to be between 7% and 8% of revenues in fiscal 2024 as we continue to deploy the capital-efficient Hub and Spoke model globally. We expect incremental cash outflows related to capital expenditures associated with the accelerated U.S. expansion primarily in 2025 and 2026, which would have an impact on our capital expenditures as a percentage of revenues during those years.

Cash Flows Provided by/(Used For) Financing Activities

Cash provided by financing activities totaled $40.2 million for the first two quarters of fiscal 2024, a fluctuation of $48.1 million compared with the first two quarters of fiscal 2023. The fluctuation was primarily due to draws on our 2023 Facility used in part to fund payments to reduce our vendor finance program obligations, particularly the SCF programs.

Payments on our structured payables resulted in a net $52.3 million change in cash flows (net payments on structured payables of $0.6 million in the first two quarters of fiscal 2024 compared to net payments on structured payables of $53.0 million in the first two quarters of fiscal 2023). Refer to Note 8, Vendor Finance Programs to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q for further information.

Debt

Our long-term debt obligations consist of the following:

(in thousands)

2023 Secured Credit Facility

The 2023 Facility consists of a $300.0 million senior secured revolving credit facility and a term loan with an original principal amount of $700.0 million. Refer to Note 9, Long-Term Debt to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q for further information.

Under the terms of the 2023 Facility, we are subject to a requirement to maintain a leverage ratio of less than 5.00 to 1.00 as of the end of each quarterly Test Period (as defined in the 2023 Facility) through maturity in March 2028. The leverage ratio under the 2023 Facility is defined as the ratio of (a) Total Indebtedness (as defined in the 2023 Facility, which includes all debt and finance lease obligations) minus unrestricted cash and cash equivalents to (b) a defined calculation of Adjusted EBITDA (2023 Facility Adjusted EBITDA) for the most recently ended Test Period. Our leverage ratio was 3.79 to 1.00 as of the end of the second quarter of fiscal 2024 compared to 3.48 to 1.00 as of the end of fiscal 2023, primarily due to the increase in long-term debt.

We were in compliance with the financial covenants related to the 2023 Facility as of June 30, 2024 and expect to remain in compliance over the next 12 months. If we are unable to meet the 2023 Facility financial or other covenants in future periods, it may negatively impact our liquidity by limiting our ability to draw on the revolving credit facility, could result in the lenders accelerating the maturity of such indebtedness and foreclosing upon the collateral pledged thereunder, and could require the replacement of the 2023 Facility with new sources of financing, which there is no guaranty we could secure.

Short-Term Lines of Credit

We are party to two agreements with existing lenders providing for short-term, uncommitted lines of credit up to $25.0 million. Borrowings under these short-term lines of credit are payable to the lenders on a revolving basis for tenors up to a maximum of three months and are subject to an interest rate of adjusted term SOFR plus a credit spread adjustment of 0.10% plus a margin of 1.75%.

Critical Accounting Policies and Estimates

Our Condensed Consolidated Financial Statements and the related notes thereto included elsewhere in this Quarterly Report on Form 10-Q have been prepared in conformity with GAAP. The preparation of the Condensed Consolidated Financial Statements requires the use of judgments, estimates, and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses as well as related disclosures. We consider an accounting judgment, estimate, or assumption to be critical when (1) the estimate or assumption is complex in nature or requires a high degree of judgment and (2) the use of different judgments, estimates, and assumptions could have a material impact on our Condensed Consolidated Financial Statements. Actual results could differ from the estimates made by management.

There have been no material changes to our critical accounting policies and estimates as compared to those described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” set forth in our Annual Report on Form 10-K for the year ended December 31, 2023.

New Accounting Pronouncements

Refer to Note 1, Description of Business and Summary of Significant Accounting Policies to the Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q, for a detailed description of recent accounting pronouncements.

Effects of Changing Prices – Inflation

We are exposed to the effects of commodity price fluctuations in the cost of ingredients of our products, of which flour, sugar, and shortening are the most significant. During the second quarter of fiscal 2024, we have continued to experience headwinds from commodity inflation globally. We have undertaken efforts to effectively manage inflationary cost increases through rapid inventory turnover and reduced inventory waste, increased focus on resiliency of our supply chains, and an ability to adjust pricing of our products. Additionally, from time to time we may enter into forward contracts for supply through our vendors for raw materials which are ingredients of our products or which are components of such ingredients, including wheat, sugar, and soybean oil.

We are also exposed to the effects of commodity price fluctuations in the cost of gasoline used by our delivery vehicles. To mitigate the risk of fluctuations in the price of our fuel purchases, we may directly purchase commodity futures contracts.

Interest Rate Risk

We are exposed to changes in interest rates on any borrowings under our debt facilities, which bear interest based on the one-month SOFR (with a floor of zero). Generally, interest rate changes could impact the amount of our interest paid and, therefore, our future earnings and cash flows, assuming other factors are held constant. To mitigate the impact of changes in SOFR on interest expense for a portion of our variable rate debt, we have entered into interest rate swaps on $200.0 million notional of our $912.0 million of outstanding debt under the 2023 Facility and short-term lines of credit as of June 30, 2024, which we account for as cash flow hedges. The interest rate swap agreements are scheduled to mature in March 2028. Based on the $712.0 million of unhedged outstanding as of June 30, 2024, a 100 basis point increase or decrease in the one-month SOFR would result in a $7.1 million increase or decrease, respectively, in interest expense for a 12-month period. We expect to increase the ratio of hedged to unhedged debt during the second half of fiscal 2024, which decreased following the maturity of our former interest rate swap agreements in the quarter ended June 30, 2024, and have entered into interest rate swap agreements with an additional aggregate notional amount of $250.0 million subsequent to the end of the quarter ended June 30, 2024.

Foreign Currency Risk

We are exposed to foreign currency translation risk on the operations of our subsidiaries that have functional currencies other than the U.S. dollar, whose revenues accounted for approximately 28% of our total net revenues through the two quarters ended June 30, 2024. A substantial majority of these revenues, or approximately $250.0 million through the two quarters ended June 30, 2024, were attributable to subsidiaries whose functional currencies are the Canadian dollar, the British pound sterling, the Euro, the Australian dollar, the New Zealand dollar, the Mexican peso, and the Japanese yen. A 10% increase or decrease in the average exchange rate of the Canadian dollar, the British pound sterling, the Euro, the Australian dollar, the New Zealand dollar, the Mexican peso, and the Japanese yen against the U.S. dollar would have resulted in a decrease or increase of approximately $25.0 million in our total net revenues for the two quarters ended June 30, 2024.

From time to time, we engage in foreign currency exchange and credit transactions with our non-U.S. subsidiaries, which we typically hedge. To date, the impact of such transactions, including the cost of hedging, has not been material. We do not engage in foreign currency or hedging transactions for speculative purposes.

We maintain disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) that are designed to ensure that information required to be disclosed in Exchange Act reports is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), as appropriate, to allow timely decisions regarding required disclosure.

As of June 30, 2024, we completed an evaluation, under the supervision and with the participation of our management, including our CEO and CFO, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on the foregoing, our CEO and CFO concluded that our disclosure controls and procedures were effective as of the end of the period covered by this Quarterly Report on Form 10-Q.

There were no changes during the fiscal quarter ended June 30, 2024 in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.

There have been no material changes to the risk factors previously disclosed in “Risk Factors” in Part 1, Item 1A of the Company’s Annual Report on Form 10-K for the year ended December 31, 2023.