Krispy Kreme pushes into Starbucks turf with focus on coffee

Krispy Kreme Doughnuts Inc., facing slower sales growth and more demanding customers, is pushing deeper into Starbucks Corp.'s territory.

The company is doing more to promote its coffee, which for years was an afterthought at the doughnut chain. At a test location in Clemmons, North Carolina, workers are grinding beans and using a manual espresso machine to make lattes and cappuccinos. They're even referring to themselves as baristas, and employees are taking customers' names with orders -- an approach made famous by Starbucks.

Depending on how the effort goes, coffee could make up 10 percent of restaurant sales in the United States, up from just 5 percent now, Chief Executive Officer Tony Thompson said in an interview. The company posted about $660 million in systemwide sales from its company-owned and franchised domestic stores in the last fiscal year.

The coffee shift would have a significant impact on profit since the product carries a much higher margin than baked goods, Thompson said. Krispy Kreme could use the boost: Earnings have missed analysts' estimates in six of the past eight quarters.

"We've kind of lost ground on coffee over time," Thompson said. "It's kind of passed us up."

At the test store, open for just about two months now, customers are noticing the changes, he said. It has free Wi-Fi and a large mural of coffee behind the register, along with a chalkboard sign that says "Know Your Coffee."

"They're coming in for doughnuts, but all of a sudden they see: Wow, they're pretty serious about coffee," he said.

Krispy Kreme is trying to bounce back from a few setbacks. The company has cut back on discounts over the past year, driving away some price-conscious customers. It's also struggled with softer sales of its doughnuts at grocery and convenience stores. The stock has lost 24 percent in 2015, compared with a 0.7 percent gain for the Standard & Poor's 500 Index.

"Getting the price right has been one of the bigger issues this year," said Michael Halen, an analyst at Bloomberg Intelligence. Krispy Kreme pulled back on promotions, and that really hurt traffic, he said.

The 78-year-old chain got its start selling yeast-raised doughnuts to grocery stores in Winston-Salem, North Carolina, where the company is still based. By 1973, Krispy Kreme had built its own fleet of shops to 60 locations. But by the early 2000s, it had expanded too fast and started closing some locations.

The chain introduced a new line of coffee blends in 2011, and it gradually added espresso-based drinks to the menu too. Thompson, a former Papa John's International Inc. executive, became CEO in June 2014.

Krispy Kreme's bid to get more serious about java echoes a strategy used by Dunkin' Brands Group Inc., which gained a reputation for iced coffees and other drinks after starting with doughnuts.

Kripsy Kreme may have a tougher time. The industry is crowded: Starbucks and Dunkin' Donuts have thousands of locations across the country. Krispy Kreme has fewer than 300 U.S. stores, and many aren't in commuter-friendly areas, Halen said.

"People love the brand," he said. "But they've got to get the sites right because convenience is part of the reason why Dunkin' Donuts is so strong."