krispykreme_10q.htm

10-Q 1 krispykreme_10q.htm QUARTERLY REPORT krispykreme_10q.htm

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
___________________

Form 10-Q

(Mark one)
	þ	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
		For the quarterly period ended October 31, 2010
OR
	o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
		For the transition period from to

Commission file number 001-16485
KRISPY KREME DOUGHNUTS, INC.
(Exact name of registrant as specified in its charter)

North Carolina	56-2169715
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
370 Knollwood Street,	27103
Winston-Salem, North Carolina	(Zip Code)
(Address of principal executive offices)

Registrant’s telephone number, including area code:
(336) 725-2981

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o		Accelerated filer þ
Non-accelerated filer o		Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

Number of shares of Common Stock, no par value, outstanding as of November 26, 2010: 67,514,159.

TABLE OF CONTENTS

		Page
FORWARD-LOOKING STATEMENTS		3

PART I - FINANCIAL INFORMATION		4

Item 1.	FINANCIAL STATEMENTS	4
Item 2.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
	RESULTS OF OPERATIONS	24
Item 3.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	56
Item 4.	CONTROLS AND PROCEDURES	56

PART II - OTHER INFORMATION		56

Item 1.	LEGAL PROCEEDINGS	56
Item 1A.	RISK FACTORS	56
Item 2.	UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS	57
Item 3.	DEFAULTS UPON SENIOR SECURITIES	57
Item 4.	(REMOVED AND RESERVED)	57
Item 5.	OTHER INFORMATION	57
Item 6.	EXHIBITS	57

	SIGNATURES	58

As used herein, unless the context otherwise requires, “Krispy Kreme,” the “Company,” “we,” “us” and “our” refer to Krispy Kreme Doughnuts, Inc. and its subsidiaries. References to fiscal 2011 and fiscal 2010 mean the fiscal years ended January 30, 2011 and January 31, 2010, respectively.

FORWARD-LOOKING STATEMENTS

This quarterly report contains forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) that relate to our plans, objectives, estimates and goals. Statements expressing expectations regarding our future and projections relating to products, sales, revenues, costs and earnings are typical of such statements, and are made under the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based on management’s beliefs, assumptions and expectations of our future economic performance, considering the information currently available to management. These statements are not statements of historical fact. Forward-looking statements involve risks and uncertainties that may cause our actual results, performance or financial condition to differ materially from the expectations of future results, performance or financial condition we express or imply in any forward-looking statements. The words “believe,” “may,” “could,” “will,” “should,” “anticipate,” “estimate,” “expect,” “intend,” “objective,” “seek,” “strive” or similar words, or the negative of these words, identify forward-looking statements. Factors that could contribute to these differences include, but are not limited to:

the quality of Company and franchise store operations;
our ability, and our dependence on the ability of our franchisees, to execute on our and their business plans;
our relationships with our franchisees;
our ability to implement our international growth strategy;
our ability to implement our new domestic operating model;
political, economic, currency and other risks associated with our international operations;
the price and availability of raw materials needed to produce doughnut mixes and other ingredients;
compliance with government regulations relating to food products and franchising;
our relationships with off-premises customers;
our ability to protect our trademarks and trade secrets;
restrictions on our operations and compliance with covenants contained in our secured credit facilities;
changes in customer preferences and perceptions;
risks associated with competition;
increased costs or other effects of new government regulations relating to healthcare benefits; and
other factors in Krispy Kreme’s periodic reports and other information filed with the Securities and Exchange Commission (the “SEC”), including under Part I, Item 1A, “Risk Factors,” in the Company’s Annual Report on Form 10-K for the fiscal year ended January 31, 2010 (the “2010 Form 10-K”).

All such factors are difficult to predict, contain uncertainties that may materially affect actual results and may be beyond our control. New factors emerge from time to time, and it is not possible for management to predict all such factors or to assess the impact of each such factor on the Company. Any forward-looking statement speaks only as of the date on which such statement is made, and we do not undertake any obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made.

We caution you that any forward-looking statements are not guarantees of future performance and involve known and unknown risks, uncertainties and other factors which may cause our actual results, performance or achievements to differ materially from the facts, results, performance or achievements we have anticipated in such forward-looking statements except as required by the federal securities laws.

PART I - FINANCIAL INFORMATION

Item 1. FINANCIAL STATEMENTS.

		Page
Index to Financial Statements
Consolidated statement of operations for the three and nine months ended October 31, 2010 and November 1, 2009		5
Consolidated balance sheet as of October 31, 2010 and January 31, 2010		6
Consolidated statement of cash flows for the nine months ended October 31, 2010 and November 1, 2009		7
Consolidated statement of changes in shareholders’ equity for the nine months ended October 31, 2010 and November 1, 2009		8
Notes to financial statements		9

KRISPY KREME DOUGHNUTS, INC.

CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited)

	Three Months Ended						Nine Months Ended
	October 31,			November 1,			October 31,			November 1,
	2010			2009			2010			2009
	(In thousands, except per share amounts)
Revenues	$	90,228		$	83,600		$	270,277		$	259,750
Operating expenses:
Direct operating expenses (exclusive of depreciation and
amortization shown below)	79,152				74,576			233,382			223,069
General and administrative expenses		4,784			6,128			15,509			17,259
Depreciation and amortization expense		1,818			2,154			5,619			6,146
Impairment charges and lease termination costs		399			109			1,482			3,922
Operating income		4,075			633			14,285			9,354
Interest income		42			10			164			38
Interest expense		(1,585	)		(2,295	)		(5,023	)		(8,424	)
Equity in income (losses) of equity method franchisees		190			(393	)		371			(506	)
Other non-operating income and (expense), net		85			144			247			(356	)
Income (loss) before income taxes		2,807			(1,901	)		10,044			106
Provision for income taxes		417			487			979			783
Net income (loss)	$	2,390		$	(2,388	)	$	9,065		$	(677	)

Earnings (loss) per common share:
Basic	$	0.03		$	(0.04	)	$	0.13		$	(0.01	)
Diluted	$	0.03		$	(0.04	)	$	0.13		$	(0.01	)

The accompanying notes are an integral part of the financial statements.

KRISPY KREME DOUGHNUTS, INC.

CONSOLIDATED BALANCE SHEET
(Unaudited)

	October 31,			January 31,
	2010			2010
	(In thousands)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents	$	21,756		$	20,215
Receivables		21,329			17,839
Receivables from equity method franchisees		576			524
Inventories		15,137			14,321
Other current assets		3,675			6,324
Total current assets		62,473			59,223
Property and equipment		70,748			72,527
Investments in equity method franchisees		1,401			781
Goodwill and other intangible assets		23,816			23,816
Other assets		10,211			8,929
Total assets	$	168,649		$	165,276

LIABILITIES AND SHAREHOLDERS’ EQUITY
CURRENT LIABILITIES:
Current maturities of long-term debt	$	612		$	762
Accounts payable		8,287			6,708
Accrued liabilities		28,404			30,203
Total current liabilities		37,303			37,673
Long-term debt, less current maturities		34,773			42,685
Other long-term obligations		20,477			22,151

Commitments and contingencies

SHAREHOLDERS’ EQUITY:
Preferred stock, no par value		-			-
Common stock, no par value		369,018			366,237
Accumulated other comprehensive loss		(42	)		(180	)
Accumulated deficit		(292,880	)		(303,290	)
Total shareholders’ equity		76,096			62,767
Total liabilities and shareholders’ equity	$	168,649		$	165,276

The accompanying notes are an integral part of the financial statements.

KRISPY KREME DOUGHNUTS, INC.

CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)

	Nine Months Ended
	October 31,			November 1,
	2010			2009
	(In thousands)
CASH FLOW FROM OPERATING ACTIVITIES:
Net income (loss)	$	9,065		$	(677	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization		5,619			6,146
Deferred income taxes		(90	)		(380	)
Impairment charges		790			916
Accrued rent expense		(165	)		(569	)
Loss on disposal of property and equipment		473			599
Impairment of investment in equity method franchisee		-			500
Unrealized loss on interest rate derivatives		-			537
Share-based compensation		3,197			3,448
Provision for doubtful accounts		(300	)		40
Amortization of deferred financing costs		560			636
Equity in (income) losses of equity method franchisees		(371	)		506
Other		(316	)		(137	)
Change in assets and liabilities:
Receivables		(3,036	)		1,072
Inventories		(816	)		1,063
Other current and non-current assets		(1,948	)		(88	)
Accounts payable and accrued liabilities		351			2,105
Other long-term obligations		(179	)		180
Net cash provided by operating activities		12,834			15,897
CASH FLOW FROM INVESTING ACTIVITIES:
Purchase of property and equipment		(5,457	)		(6,160	)
Proceeds from disposals of property and equipment		2,688			156
Other investing activities		6			209
Net cash used for investing activities		(2,763	)		(5,795	)
CASH FLOW FROM FINANCING ACTIVITIES:
Repayment of long-term debt		(8,114	)		(25,894	)
Deferred financing costs		-			(954	)
Proceeds from exercise of warrants		5			-
Repurchase of common shares		(421	)		(249	)
Net cash used for financing activities		(8,530	)		(27,097	)
Net increase (decrease) in cash and cash equivalents		1,541			(16,995	)
Cash and cash equivalents at beginning of period		20,215			35,538
Cash and cash equivalents at end of period	$	21,756		$	18,543

The accompanying notes are an integral part of the financial statements.

KRISPY KREME DOUGHNUTS, INC.

CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
(Unaudited)

						Accumulated
	Common					Other
	Shares		Common			Comprehensive			Accumulated
	Outstanding		Stock			Income (Loss)			Deficit			Total
	(In thousands)
Balance at January 31, 2010	67,441		$	366,237		$	(180	)	$	(303,290	)	$	62,767
Effect of adoption of new accounting standard
(Note 1)										1,345			1,345
Comprehensive income:
Net income for the nine months ended
October 31, 2010										9,065			9,065
Foreign currency translation adjustment, net
of income taxes of $30							46						46
Amortization of unrealized loss on interest
rate derivative, net of income taxes of $60							92						92
Total comprehensive income													9,203
Cancelation of restricted shares	(2	)		-									-
Exercise of warrants				5									5
Share-based compensation	148			3,197									3,197
Repurchase of common shares	(45	)		(421	)								(421	)
Balance at October 31, 2010	67,542		$	369,018		$	(42	)	$	(292,880	)	$	76,096


Balance at February 1, 2009	67,512		$	361,801		$	(913	)	$	(303,133	)	$	57,755
Comprehensive income (loss):
Net loss for the nine months ended
November 1, 2009										(677	)		(677	)
Foreign currency translation adjustment, net
of income taxes of $8							13						13
Amortization of unrealized loss on interest
rate derivative, net of income taxes of $372							569						569
Total comprehensive loss													(95	)
Cancelation of restricted shares	(52	)		-									-
Share-based compensation	54			3,448									3,448
Repurchase of common shares	(47	)		(249	)								(249	)
Balance at November 1, 2009	67,467		$	365,000		$	(331	)	$	(303,810	)	$	60,859

Total comprehensive income for the three months ended October 31, 2010 was $2.4 million and the total comprehensive loss for the three months ended November 1, 2009 was $2.2 million.

The accompanying notes are an integral part of the financial statements.

KRISPY KREME DOUGHNUTS, INC.

NOTES TO FINANCIAL STATEMENTS
(Unaudited)

Note 1 — Accounting Policies

Krispy Kreme Doughnuts, Inc. (“KKDI”) and its subsidiaries (collectively, the “Company”) are engaged in the sale of doughnuts and related items through Company-owned stores. The Company also derives revenue from franchise and development fees and royalties from franchisees. Additionally, the Company sells doughnut mix, other ingredients and supplies and doughnut-making equipment to franchisees.

Significant Accounting Policies

BASIS OF PRESENTATION. The consolidated financial statements contained herein should be read in conjunction with the Company’s 2010 Form 10-K. The accompanying interim consolidated financial statements are presented in accordance with the requirements of Article 10 of Regulation S-X and, accordingly, do not include all the disclosures required by generally accepted accounting principles (“GAAP”) with respect to annual financial statements. The interim consolidated financial statements have been prepared in accordance with the Company’s accounting practices described in the 2010 Form 10-K, but have not been audited. In management’s opinion, the financial statements include all adjustments, which consist only of normal recurring adjustments, necessary for a fair statement of the Company’s results of operations for the periods presented. The consolidated balance sheet data as of January 31, 2010 were derived from the Company’s audited financial statements but do not include all disclosures required by GAAP.

BASIS OF CONSOLIDATION. The financial statements include the accounts of KKDI and its subsidiaries, the most significant of which is KKDI’s principal operating subsidiary, Krispy Kreme Doughnut Corporation. In October 2009, the Company refranchised three stores in Northern California to a new franchisee. The Company did not report the refranchising as divestiture of the stores and continued to consolidate the stores’ financial statements for post-acquisition periods because the new franchisee was a variable interest entity of which the Company was the primary beneficiary. Effective February 1, 2010, the Company adopted new accounting standards under which the Company is no longer the primary beneficiary of the new franchisee, which required the Company to deconsolidate the franchisee and recognize a divestiture of the stores; see “Recent Accounting Pronouncements” below.

Investments in entities over which the Company has the ability to exercise significant influence but which the Company does not control, and whose financial statements are not otherwise required to be consolidated, are accounted for using the equity method. These entities typically are 25% to 35% owned and are hereinafter sometimes referred to as “Equity Method Franchisees.”

EARNINGS PER SHARE. The computation of basic earnings per share is based on the weighted average number of common shares outstanding during the period. The computation of diluted earnings per share reflects the additional common shares that would have been outstanding if dilutive potential common shares had been issued, computed using the treasury stock method. Such potential common shares consist of shares issuable upon the exercise of stock options and warrants and the vesting of currently unvested shares of restricted stock and restricted stock units.

The following table sets forth amounts used in the computation of basic and diluted earnings per share:

	Three Months Ended					Nine Months Ended
	October 31,		November 1,			October 31,		November 1,
	2010		2009			2010		2009
	(In thousands)
Numerator: net income (loss)	$	2,390	$	(2,388	)	$	9,065	$	(677	)
Denominator:
Basic earnings per share - weighted average shares
outstanding		68,407		67,612			68,232		67,354
Effect of dilutive securities:
Stock options		1,101		-			809		-
Restricted stock and restricted stock units		515		-			486		-
Diluted earnings per share - weighted average shares
outstanding plus dilutive potential common shares		70,023		67,612			69,527		67,354

The sum of the quarterly earnings per share amounts does not necessarily equal earnings per share for the year to date.

Stock options and warrants with respect to 7.3 million and 10.8 million shares, as well as 353,000 and 1.3 million unvested shares of restricted stock and unvested restricted stock units, have been excluded from the computation of the number of shares used to compute diluted earnings per share for the three months ended October 31, 2010 and November 1, 2009, respectively, because their inclusion would be antidilutive.

Stock options and warrants with respect to 8.2 million and 10.8 million shares, as well as 210,000 and 1.2 million unvested shares of restricted stock and unvested restricted stock units, have been excluded from the computation of the number of shares used to compute diluted earnings per share for the nine months ended October 31, 2010 and November 1, 2009, respectively, because their inclusion would be antidilutive.

Reclassification

Beginning in the first quarter of fiscal 2011, miscellaneous receivables previously classified as a component of other current assets were reclassified and combined with trade receivables, and the combined total has been captioned “Receivables” in the accompanying consolidated balance sheet. Amounts previously reported at January 31, 2010 have been reclassified to conform to the new presentation.

Beginning in the third quarter of fiscal 2011, the caption “Other operating income and expense, net” previously included in the consolidated statement of operations was eliminated. Amounts previously included in this caption have been reclassified to direct operating expenses and general and administrative expenses and amounts reported in this caption for earlier periods have been reclassified to conform to the new presentation. None of the reclassified amounts was material in any of the periods.

Recent Accounting Pronouncements

In the first quarter of fiscal 2011, the Company adopted amended accounting standards related to the consolidation of variable-interest entities. The amended standards require an enterprise to qualitatively assess the determination of the primary beneficiary of a variable interest entity (“VIE”) based on whether the enterprise has the power to direct matters that most significantly impact the activities of the VIE and has the obligation to absorb losses of, or the right to receive benefits from, the VIE that could potentially be significant to the VIE. Adoption of the new standards resulted in the Company recognizing a divestiture of three stores sold by the Company in the October 2009 refranchising transaction described under “Basis of Consolidation,” above. The cumulative effect of adoption of the new standards has been reflected as a $1.3 million credit to the opening balance of retained earnings as of February 1, 2010, the first day of fiscal 2011. Adoption of the standards had no material effect on the Company’s financial position, results of operations or cash flows.

Note 2 — Receivables

The components of receivables are as follows:

	October 31,			January 31,
	2010			2010
	(In thousands)
Receivables:
Off-premises customers	$	9,972		$	9,010
Unaffiliated franchisees		10,705			8,974
Other receivables		1,581			1,130
Current portion of notes receivable		174			68
		22,432			19,182
Less — allowance for doubtful accounts:
Off-premises customers		(313	)		(307	)
Unaffiliated franchisees		(790	)		(1,036	)
		(1,103	)		(1,343	)
	$	21,329		$	17,839

Receivables from Equity Method Franchisees (Note 7):
Trade	$	576		$	1,263
Notes receivable		887			-
		1,463			1,263
Less — allowance for doubtful accounts:
Trade		-			(739	)
Notes receivable		(887	)		-
		(887	)		(739	)
	$	576		$	524

Note 3 — Inventories

The components of inventories are as follows:

	October 31,		January 31,
	2010		2010
	(In thousands)
Raw materials	$	5,009	$	5,253
Work in progress		67		4
Finished goods		3,542		3,688
Purchased merchandise		6,400		5,268
Manufacturing supplies		119		108
	$	15,137	$	14,321

Note 4 — Long Term Debt

Long-term debt and capital lease obligations consist of the following:

	October 31,			January 31,
	2010			2010
	(In thousands)
Secured Credit Facilities	$	35,102		$	43,054
Capital lease obligations		283			393
		35,385			43,447
Less: current maturities		(612	)		(762	)
	$	34,773		$	42,685

In February 2007, the Company closed secured credit facilities totaling $160 million (the “Secured Credit Facilities”) then consisting of a $50 million revolving credit facility maturing in February 2013 (the “Revolver”) and a $110 million term loan maturing in February 2014 (the “Term Loan”). The Secured Credit Facilities are secured by a first lien on substantially all of the assets of the Company and its subsidiaries.

The Revolver contains provisions which permit the Company to obtain letters of credit. Issuance of letters of credit under these provisions constitutes usage of the lending commitments and reduces the amount available for cash borrowings under the Revolver. The commitments under the Revolver were reduced from $50 million to $30 million in April 2008, and further reduced to $25 million in connection with amendments to the facilities in April 2009 (the “April 2009 Amendments”). In connection with the April 2009 Amendments, the Company prepaid $20 million of the principal balance outstanding under the Term Loan. The Company has made other payments of Term Loan principal since February 2007, consisting of $26.6 million representing the proceeds of asset sales, $25.0 million representing discretionary prepayments and $3.3 million representing scheduled amortization which, together with the $20.0 million prepayment in April 2009 have reduced the principal balance of the Term Loan to $ 35.1 million as of October 31, 2010.

Interest on borrowings under the Revolver and Term Loan is payable either (a) at the greater of LIBOR or 3.25% or (b) at the Alternate Base Rate (which is the greater of Fed funds rate plus 0.50% or the prime rate), in each case plus the Applicable Margin. After giving effect to the April 2009 Amendments, the Applicable Margin for LIBOR-based loans and for Alternate Base Rate-based loans was 7.50% and 6.50%, respectively (5.50% and 4.50%, respectively, prior to the April 2009 Amendments).

The Company is required to pay a fee equal to the Applicable Margin for LIBOR-based loans on the outstanding amount of letters of credit issued under the Revolver, as well as a fronting fee of 0.25% of the amount of such letter of credit payable to the letter of credit issuer. There also is a fee on the unused portion of the Revolver lending commitment, which increased from 0.75% to 1.00% in connection with the April 2009 Amendments.

Borrowings under the Revolver (and issuances of letters of credit) are subject to the satisfaction of usual and customary conditions, including the accuracy of representations and warranties and the absence of defaults.

The Term Loan is payable in quarterly installments of approximately $116,000 (as adjusted to give effect to prepayments of principal under the Term Loan) and a final installment equal to the remaining principal balance in February 2014. The Term Loan is required to be prepaid with some or all of the net proceeds of certain equity issuances, debt issuances, asset sales and casualty events and with a percentage of excess cash flow (as defined in the agreement) on an annual basis.

The Secured Credit Facilities require the Company to meet certain financial tests, including a maximum consolidated leverage ratio (expressed as a ratio of total debt to Consolidated EBITDA) and a minimum consolidated interest coverage ratio (expressed as a ratio of Consolidated EBITDA to net interest expense), computed based upon Consolidated EBITDA and net interest expense for the most recent four fiscal quarters and total debt as of the end of such four-quarter period. As of October 31, 2010, the consolidated leverage ratio was required to be not greater than 3.25 to 1.0 and the consolidated interest coverage ratio was required to be not less than 2.95 to 1.0. As of October 31, 2010, the Company’s consolidated leverage ratio was approximately 1.5 to 1.0 and the Company’s consolidated interest coverage ratio was approximately 5.5 to 1.0. In the future, the maximum consolidated leverage ratio declines, and the minimum consolidated interest coverage ratio increases, as set forth in the following tables:

		Maximum
Period		Leverage Ratio
Third Quarter of Fiscal 2011		3.25 to 1.00
Fourth Quarter of Fiscal 2011		3.00 to 1.00
Fiscal 2012		2.50 to 1.00
Fiscal 2013 and thereafter		2.00 to 1.00

		Minimum Interest
Period		Coverage Ratio
Third Quarter of Fiscal 2011		2.95 to 1.00
Fourth Quarter of Fiscal 2011		3.15 to 1.00
Fiscal 2012		3.75 to 1.00
Fiscal 2013 and thereafter		4.50 to 1.00

“Consolidated EBITDA” is a non-GAAP measure and is defined in the Secured Credit Facilities to mean, generally, consolidated net income or loss, exclusive of unrealized gains and losses on hedging instruments, gains or losses on the early extinguishment of debt and provisions for payments on guarantees of franchisee obligations plus the sum of interest expense (net of interest income), income taxes, depreciation and amortization, non-cash charges, store closure costs, costs associated with certain litigation and investigations, and extraordinary professional fees; and minus payments, if any, on guarantees of franchisee obligations in excess of $3 million in any rolling four-quarter period and the sum of non-cash credits. In addition, the Secured Credit Facilities contain other covenants which, among other things, limit the incurrence of additional indebtedness (including guarantees), liens, investments (including investments in and advances to franchisees which own and operate Krispy Kreme stores), dividends, transactions with affiliates, asset sales, acquisitions, capital expenditures, mergers and consolidations, prepayments of other indebtedness and other activities customarily restricted in such agreements. The Secured Credit Facilities also prohibit the transfer of cash or other assets to KKDI from its subsidiaries, whether by dividend, loan or otherwise, but provide for exceptions to enable KKDI to pay taxes and operating expenses and certain judgment and settlement costs.

The operation of the restrictive financial covenants described above may limit the amount the Company may borrow under the Revolver. In addition, the maximum amount which may be borrowed under the Revolver is reduced by the amount of outstanding letters of credit, which totaled approximately $13 million as of October 31, 2010, the substantial majority of which secure the Company’s reimbursement obligations to insurers under the Company’s self-insurance arrangements. The restrictive covenants did not limit the Company’s ability to borrow the full $12 million of unused credit under the Revolver at October 31, 2010.

The Secured Credit Facilities also contain customary events of default including, without limitation, payment defaults, breaches of representations and warranties, covenant defaults, cross-defaults to other indebtedness in excess of $5 million, certain events of bankruptcy and insolvency, judgment defaults in excess of $5 million and the occurrence of a change of control.

Note 5 — Impairment Charges and Lease Termination Costs

The components of impairment charges and lease termination costs are as follows:

	Three Months Ended					Nine Months Ended
	October 31,		November 1,			October 31,			November 1,
	2010		2009			2010			2009
	(In thousands)
Impairment of long-lived assets:
Current period charges	$	-	$	178		$	899		$	1,398
Recovery from bankruptcy estate of former subsidiary		-		(482	)		-			(482	)
Adjustments to previously recorded estimates		81		-			(109	)		-
Total impairment of long-lived assets		81		(304	)		790			916
Lease termination costs:
Provision for termination costs		318		631			1,336			3,964
Less — reversal of previously recorded accrued rent
expense		-		(218	)		(644	)		(958	)
Net provision		318		413			692			3,006
	$	399	$	109		$	1,482		$	3,922

The Company tests long-lived assets for impairment when events or changes in circumstances indicate that their carrying value may not be recoverable. These events and changes in circumstances include store closing and refranchising decisions, the effects of changing costs on current results of operations, observed trends in operating results, and evidence of changed circumstances observed as a part of periodic reforecasts of future operating results and as part of the Company’s annual budgeting process. When the Company concludes that the carrying value of long-lived assets is not recoverable (based on future projected undiscounted cash flows), the Company records impairment charges to reduce the carrying value of those assets to their estimated fair values. During the three months ended November 1, 2009, the Company received $482,000 of cash proceeds from the bankruptcy estate of Freedom Rings, LLC (“Freedom Rings”), a former subsidiary which filed for bankruptcy in the third quarter of fiscal 2006. During fiscal 2006, the Company recorded impairment provisions related to long-lived assets of Freedom Rings under the assumption that there would be no recovery from the Freedom Rings bankruptcy estate. Had any such recovery been assumed, the impairment charges would have been reduced by the amount of the assumed recovery. Accordingly, the amount recovered in the third quarter of fiscal 2010 has been reported as a credit to impairment charges in the accompanying consolidated statement of operations.

The transactions reflected in the accrual for lease termination costs are summarized as follows:

	Three Months Ended						Nine Months Ended
	October 31,			November 1,			October 31,			November 1,
	2010			2009			2010			2009
	(In thousands)
Balance at beginning of period	$	2,100		$	2,428		$	1,679		$	1,880
Provision for lease termination costs:
Provisions associated with store closings, net of estimated
sublease rentals		-			212			394			2,427
Adjustments to previously recorded provisions resulting
from settlements with lessors and adjustments of previous
estimates		266			372			795			1,395
Accretion of discount		52			47			147			142
Total provision		318			631			1,336			3,964
Proceeds from assignment of leases		-			62			-			62
Payments on unexpired leases, including settlements with
lessors		(374	)		(1,344	)		(971	)		(4,129	)
Total reductions		(374	)		(1,282	)		(971	)		(4,067	)
Balance at end of period	$	2,044		$	1,777		$	2,044		$	1,777

Note 6 — Segment Information

The Company’s reportable segments are Company Stores, Domestic Franchise, International Franchise and KK Supply Chain. The Company Stores segment is comprised of the stores operated by the Company. These stores sell doughnuts and complementary products through both on-premises and off-premises sales channels, although some stores serve only one of these distribution channels. The Domestic Franchise and International Franchise segments consist of the Company’s franchise operations. Under the terms of franchise agreements, domestic and international franchisees pay royalties and fees to the Company in return for the use of the Krispy Kreme name and ongoing brand and operational support. Expenses for these segments include costs to recruit new franchisees, to assist in store openings, to support franchisee operations and marketing efforts, as well as allocated corporate costs. The majority of the ingredients and materials used by Company stores are purchased from the KK Supply Chain segment, which supplies doughnut mix, other ingredients and supplies and doughnut making equipment to both Company and franchisee-owned stores.

All intercompany sales by the KK Supply Chain segment to the Company Stores segment are at prices intended to reflect an arms-length transfer price and are eliminated in consolidation. Operating income for the Company Stores segment does not include any profit earned by the KK Supply Chain segment on sales of doughnut mix and other items to the Company Stores segment; such profit is included in KK Supply Chain operating income.

The following table presents the results of operations of the Company’s operating segments for the three and nine months ended October 31, 2010 and November 1, 2009. Segment operating income is consolidated operating income before unallocated general and administrative expenses and impairment charges and lease termination costs.

	Three Months Ended						Nine Months Ended
	October 31,			November 1,			October 31,			November 1,
	2010			2009			2010			2009
	(In thousands)
Revenues:
Company Stores	$	61,565		$	60,020		$	184,069		$	185,730
Domestic Franchise		2,040			1,945			6,314			5,798
International Franchise		4,389			3,583			13,158			11,267
KK Supply Chain:
Total revenues	45,001				39,314			135,798			121,926
Less – intersegment sales elimination	(22,767		)		(21,262	)		(69,062	)		(64,971	)
External KK Supply Chain revenues	22,234				18,052			66,736			56,955
Total revenues	$	90,228		$	83,600		$	270,277		$	259,750

Operating income (loss):
Company Stores	$	(1,449	)	$	(1,380	)	$	(3,214	)	$	2,951
Domestic Franchise		499			811			2,694			2,425
International Franchise		3,018			2,117			9,004			6,495
KK Supply Chain		7,342			5,549			23,361			19,375
Total segment operating income		9,410			7,097			31,845			31,246
Unallocated general and administrative expenses	(4,936		)		(6,355	)		(16,078	)		(17,970	)
Impairment charges and lease termination costs		(399	)		(109	)		(1,482	)		(3,922	)
Consolidated operating income	$	4,075		$	633		$	14,285		$	9,354

Depreciation and amortization expense:
Company Stores	$	1,410		$	1,694		$	4,264		$	4,709
Domestic Franchise		56			14			166			57
International Franchise		2			-			5			-
KK Supply Chain		198			219			615			669
Corporate administration		152			227			569			711
Total depreciation and amortization expense	$	1,818		$	2,154		$	5,619		$	6,146

Segment information for total assets and capital expenditures is not presented as such information is not used in measuring segment performance or allocating resources among segments.

Note 7 — Investments in Franchisees

As of October 31, 2010, the Company had investments in four franchisees. These investments have been made in the form of capital contributions and, in certain instances, loans evidenced by promissory notes. These investments are reflected as “Investments in equity method franchisees” in the consolidated balance sheet.

The Company’s financial exposures related to franchisees in which the Company has an investment are summarized in the tables below.

	October 31, 2010
	Company	Investment
	Ownership	and						Notes			Loan
	Percentage	Advances			Receivables			Receivable			Guarantees
	(Dollars in thousands)
Kremeworks, LLC	25.0%	$	900		$	353		$	-		$	1,064
Kremeworks Canada, LP	24.5%		-			26			-			-
Krispy Kreme of South Florida, LLC	35.3%		-			161			-			2,245
Krispy Kreme Mexico, S. de R.L. de C.V.	30.0%		1,401			36			887			-
			2,301			576			887		$	3,309
Less: reserves and allowances			(900	)		-			(887	)
		$	1,401		$	576		$	-

	January 31, 2010
	Company	Investment
	Ownership	and						Notes			Loan
	Percentage	Advances			Receivables			Receivable			Guarantees
	(Dollars in thousands)
Kremeworks, LLC	25.0%	$	900		$	327		$	-		$	1,241
Kremeworks Canada, LP	24.5%		-			16			-			-
Krispy Kreme of South Florida, LLC	35.3%		-			138			-			2,489
Krispy Kreme Mexico, S. de R.L. de C.V.	30.0%		781			782			-			-
			1,681			1,263			-		$	3,730
Less: reserves and allowances			(900	)		(739	)		-
		$	781		$	524		$	-

The loan guarantee amounts represent the portion of the principal amount outstanding under the related loan that is subject to the Company’s guarantee.

Current liabilities at October 31, 2010 and January 31, 2010 include accruals for potential payments under loan guarantees of approximately $2.2 million and $2.5 million, respectively, related to Krispy Kreme of South Florida, LLC (“KKSF”). The underlying indebtedness related to approximately $1.6 million of the Company’s KKSF guarantee exposure matured by its terms in October 2009. Such maturity has been extended on a month-to-month basis pursuant to an informal agreement between KKSF and the lender.

There was no liability reflected in the financial statements for other guarantees of franchisee obligations because the Company did not believe it was probable that the Company would be required to perform under such other guarantees.

The Company has a 25% interest in Kremeworks, LLC (“Kremeworks”), and has guaranteed 20% of the outstanding principal balance of certain of Kremeworks’ bank indebtedness, which originally matured in January 2009 and subsequently was refinanced with the lender through July 2010. During the third quarter of fiscal 2010, Kremeworks completed an amendment to its debt agreement which, among other things, waived certain defaults related to the failure to comply with the financial covenants and extended the maturity of the indebtedness until July 2010. In connection with that amendment, during fiscal 2010, the Company and the majority owner of Kremeworks (which also is a guarantor of the indebtedness) made capital contributions to Kremeworks in the aggregate amount of $1 million (of which the Company’s contribution was $250,000), the proceeds of which were used to prepay a portion of the indebtedness as required by the amendment. In the second quarter of fiscal 2011, Kremeworks’ lender granted a one-month extension of the maturity of the bank indebtedness to August 31, 2010 in connection with an expected refinancing by the lender. During the third quarter of fiscal 2011, Kremeworks refinanced its debt agreement which extended the maturity of the indebtedness until October 2011. The aggregate amount of such indebtedness was approximately $5.3 million at October 31, 2010.

Kremeworks’ unaudited revenues, operating loss and net loss for the three and nine months ended October 31, 2010 and November 1, 2009, based upon information provided by the franchisee, are set forth in the following table.

	Three Months Ended						Nine Months Ended
	October 31,			November 1,			October 31,			November 1,
	2010			2009			2010			2009
	(In thousands)
Revenues	$	4,124		$	3,933		$	12,831		$	13,015
Operating loss		(519	)		(681	)		(1,151	)		(1,506	)
Net loss		(597	)		(785	)		(1,382	)		(1,832	)

The Company has a 30% interest in Krispy Kreme Mexico, S. de R.L. de C.V. (“KK Mexico”). In the first half of fiscal 2010, KK Mexico was adversely affected by economic weakness in that country as well as by a significant decline in the value of the country’s currency relative to the U.S. dollar, which made the cost of goods imported from the U.S. more expensive, and which increased the amount of cash required to service the portion of the franchisee’s debt that is denominated in U.S. dollars. In the second quarter of fiscal 2010, management concluded that the decline in the value of the investment was other than temporary and, accordingly, the Company recorded a charge of approximately $500,000 in the quarter then ended to reduce the carrying value of the investment in KK Mexico to its then estimated fair value of $700,000. Such charge was included in “Other non-operating income and expense, net” in the accompanying consolidated statement of operations. In addition, during the nine months ended November 1, 2009, the Company increased its bad debt reserve related to KK Mexico by approximately $500,000, of which approximately $120,000 and $380,000 was included in KK Supply Chain and International Franchise direct operating expenses, respectively. KK Mexico’s operations have improved in recent quarters, and in the second quarter of fiscal 2011, the Company converted its past due receivables from the franchisee to a note in the amount of $967,000 payable in installments, together with interest. The Company has maintained reserves equal to substantially all amounts due from KK Mexico, including the balance of the note. KK Mexico’s unaudited revenues, operating income and net income for the three and nine months ended October 31, 2010 and November 1, 2009, based upon information provided by the franchisee, are set forth in the following table.

	Three Months Ended					Nine Months Ended
	October 31,		November 1,			October 31,		November 1,
	2010		2009			2010		2009
	(In thousands)
Revenues	$	4,573	$	3,110		$	12,816	$	8,849
Operating income (loss)		913		(470	)		1,938		(553	)
Net income (loss)		872		(487	)		1,813		(606	)

Note 8 — Shareholders’ Equity

The Company measures and recognizes compensation expense for share-based payment (“SBP”) awards based on their fair values. The fair value of SBP awards for which employees render the requisite service necessary for the award to vest is recognized over the related vesting period.

The aggregate cost of SBP awards charged to earnings for the three and nine months ended October 31, 2010 and November 1, 2009 is set forth in the following table. The Company did not realize any excess tax benefits from the exercise of stock options or the vesting of restricted stock or restricted stock units during any of the periods.

	Three Months Ended				Nine Months Ended
	October 31,		November 1,		October 31,		November 1,
	2010		2009		2010		2009
	(In thousands)
Costs charged to earnings related to:
Stock options	$	141	$	378	$	645	$	844
Restricted stock and restricted stock units		1,122		1,000		2,552		2,604
Total costs	$	1,263	$	1,378	$	3,197	$	3,448

Costs included in:
Direct operating expenses	$	722	$	524	$	1,510	$	1,246
General and administrative expenses		541		854		1,687		2,202
Total costs	$	1,263	$	1,378	$	3,197	$	3,448

Note 9 — Fair Value Measurements

The accounting standards for fair value measurements define fair value as the price that would be received for an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date.

The accounting standards for fair value measurements establish a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. This hierarchy requires entities to maximize the use of observable inputs and minimize the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:

Level 1 - Quoted prices in active markets that are accessible at the measurement date for identical assets or liabilities.
Level 2 - Observable inputs other than quoted prices included within Level 1, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets and liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value measurement of the assets or liabilities. These include certain pricing models, discounted cash flow methodologies and similar techniques that use significant unobservable inputs.

Assets and Liabilities Measured at Fair Value on a Recurring Basis

The following table presents the Company’s assets and liabilities that are measured at fair value on a recurring basis at October 31, 2010 and January 31, 2010.

	October 31, 2010
	Level 1		Level 2		Level 3
	(In thousands)
Assets:
401(k) mirror plan assets	$	728	$	-	$	-
Commodity futures contracts		30		-		-
Total assets	$	758	$	-	$	-

	January 31, 2010
	Level 1		Level 2		Level 3
	(In thousands)
Assets:
401(k) mirror plan assets	$	455	$	-	$	-
Liabilities:
Interest rate derivatives	$	-	$	641	$	-
Commodity futures contracts		92		-		-
Total liabilities	$	92	$	641	$	-

Assets and Liabilities Measured at Fair Value on a Non-Recurring Basis

The following tables present the nonrecurring fair value measurements recorded during the three and nine months ended October 31, 2010 and November 1, 2009.

	Three Months Ended October 31, 2010
	Level 1		Level 2		Level 3		Total gain (loss)
	(In thousands)
Long-lived assets	$	-	$	-	$	-	$	-
Lease termination liabilities	$	-	$	-	$	-	$	-

	Nine Months Ended October 31, 2010
	Level 1		Level 2		Level 3		Total gain (loss)
	(In thousands)
Long-lived assets	$	-	$	3,638	$	-	$	(899	)
Lease termination liabilities	$	-	$	394	$	-	$	250

	Three Months Ended November 1, 2009
	Level 1		Level 2		Level 3		Total gain (loss)
	(In thousands)
Long-lived assets	$	-	$	2,838	$	-	$	(178	)
Lease termination liabilities	$	-	$	212	$	-	$	6

	Nine Months Ended November 1, 2009
	Level 1		Level 2		Level 3		Total gain (loss)
	(In thousands)
Long-lived assets	$	-	$	5,768	$	-	$	(1,398	)
Investment in Equity Method Franchisee	$	-	$	-	$	700	$	(500	)
Lease termination liabilities	$	-	$	2,427	$	-	$	(1,469	)

Long-Lived Assets

During the nine months ended October 31, 2010, long-lived assets with an aggregate carrying value of $4.5 million were written down to their estimated fair values of $3.6 million, resulting in recorded impairment charges of $899,000. During the three and nine months ended November 1, 2009, long-lived assets having an aggregate carrying value of $3.0 million and $7.2 million, respectively, were written down to their estimated fair values of $2.8 million and $5.8 million, respectively, resulting in recorded impairment charges of $178,000 and $1.4 million, respectively. Substantially all of such long-lived assets were real properties, the fair values of which were estimated based on independent appraisals or, in the case of properties which the Company was negotiating to sell, based on the Company’s negotiations with unrelated third-party buyers. These inputs are classified as Level 2 within the valuation hierarchy.

Investment in Equity Method Franchisee

During the nine months ended November 1, 2009, the Company concluded that a decline in the value of an Equity Method Franchisee was other than temporary and, accordingly, recorded a writedown of $500,000 to reduce the carrying value of the investment to its estimated fair value of $700,000 as described in Note 7. The fair value of the investment was estimated based upon a multiple of the investee’s current normalized trailing earnings before interest, income taxes and depreciation and amortization. These inputs are classified as Level 3 within the valuation hierarchy.

Lease Termination Liabilities

During the nine months ended October 31, 2010 and the three and nine months ended November 1, 2009, the Company recorded provisions for lease termination costs related to closed stores based upon the estimated fair values of the liabilities under unexpired leases as described in Note 5; such provisions were reduced by previously recorded accrued rent expense related to those stores. The fair value of these liabilities was computed as the excess, if any, of the contractual payments required under the unexpired leases over the current market lease rates for the properties, discounted at a credit-adjusted risk-free rate over the remaining term of the leases. These inputs are classified as Level 2 within the valuation hierarchy. For the nine months ended October 31, 2010, $644,000 of previously recorded accrued rent expense related to a store closure and a store relocation exceeded the $394,000 fair value of lease termination liabilities related to such stores, and such excess has been reflected as a credit to lease termination costs during the period. For the three months ended November 1, 2009, $218,000 of previously recorded accrued rent expense related to closed stores exceeded the $212,000 fair value of lease termination liabilities related to such stores, and such excess was reflected as a credit to lease termination costs during the period. For the nine months ended November 1, 2009, the fair value of lease termination liabilities related to closed stores of $2.4 million exceeded the $958,000 of previously recorded accrued rent expense related to such stores, and such excess was reflected as a charge to lease termination costs during the period.

Fair Values of Financial Instruments at the Balance Sheet Dates

The carrying values and approximate fair values of certain financial instruments as of October 31, 2010 and January 31, 2010 were as follows:

	October 31, 2010				January 31, 2010
	Carrying		Fair		Carrying		Fair
	Value		Value		Value		Value
	(In thousands)
Assets:
Cash and cash equivalents	$	21,756	$	21,756	$	20,215	$	20,215
Receivables		21,329		21,329		17,839		17,839
Receivables from Equity Method Franchisees		576		576		524		524
Commodity futures contracts		30		30		-		-

Liabilities:
Accounts payable		8,287		8,287		6,708		6,708
Interest rate derivatives		-		-		641		641
Commodity futures contracts		-		-		92		92
Long-term debt (including current maturities)		35,385		35,385		43,447		41,872

Note 10 — Derivative Instruments

The Company is exposed to certain risks relating to its ongoing business operations. The primary risks managed by using derivative instruments are commodity price risk and interest rate risk. The Company does not hold or issue derivative instruments for trading purposes.

The Company was exposed to credit-related losses in the event of non-performance by the counterparties to its derivative instruments which expired in April 2010. The Company mitigated this risk of nonperformance by dealing with highly rated counterparties.

Additional disclosure about the fair value of derivative instruments is included in Note 9.

Commodity Price Risk

The Company is exposed to the effects of commodity price fluctuations in the cost of ingredients of its products, of which flour, sugar and shortening are the most significant. In order to bring greater stability to the cost of ingredients, the Company purchases, from time to time, exchange-traded commodity futures contracts, and options on such contracts, for raw materials which are ingredients of its products or which are components of such ingredients, including wheat and soybean oil. The Company is also exposed to the effects of commodity price fluctuations in the cost of gasoline used by its delivery vehicles. To mitigate the risk of fluctuations in the price of its gasoline purchases, the Company may purchase exchange-traded commodity futures contracts and options on such contracts. The difference between the cost, if any, and the fair value of commodity derivatives is reflected in earnings because the Company has not designated any of these instruments as hedges. Gains and losses on these contracts are intended to offset losses and gains on the hedged transactions in an effort to reduce the earnings volatility resulting from fluctuating commodity prices. The settlement of commodity derivative contracts is reported in the consolidated statement of cash flows as cash flow from operating activities. At October 31, 2010, the Company had commodity derivatives with an aggregate contract volume of 5,000 bushels of wheat and 294,000 gallons of gasoline. Other than the requirement to meet minimum margin requirements with respect to the commodity derivatives, there are no collateral requirements related to such contracts.

Interest Rate Risk

All of the borrowings under the Company’s secured credit facilities bear interest at variable rates based upon either the Fed funds rate or LIBOR, with LIBOR subject to a floor of 3.25%. The interest cost of the Company’s debt may be affected by changes in these short-term interest rates and increases in those rates may adversely affect the Company’s results of operations. On May 16, 2007, the Company entered into interest rate derivative contracts having an aggregate notional principal amount of $60 million. The derivative contracts entitled the Company to receive from the counterparties the excess, if any, of three-month LIBOR over 5.40%, and required the Company to pay to the counterparties the excess, if any, of 4.48% over three-month LIBOR, in each case multiplied by the notional amount of the contracts. The contracts expired in April 2010. Settlements under these derivative contracts are reported as cash flow from operating activities in the consolidated statement of cash flows.

These derivatives were accounted for as cash flow hedges from their inception through April 8, 2008. Hedge accounting was discontinued on that date because the derivative contracts could no longer be shown to be effective in hedging interest rate risk as a result of amendments to the Company’s Secured Credit Facilities, which provided that interest on LIBOR-based borrowings is payable based upon the greater of the LIBOR rate for the selected interest period or 3.25%. As a consequence of the discontinuance of hedge accounting, changes in the fair value of the derivative contracts subsequent to April 8, 2008 were reflected in earnings as they occurred. Amounts included in accumulated other comprehensive income related to changes in the fair value of the derivative contracts for periods prior to April 9, 2008 were charged to earnings in the periods in which the hedged forecasted transaction (interest on $60 million of the principal balance of the Term Loan) affected earnings, or earlier upon a determination that some or all of the forecasted transaction would not occur. The derivative contracts expired in April 2010; accordingly, there were no such charges during the three months ended October 31, 2010. Such charges totaled approximately $152,000 for the nine months ended October 31, 2010, and $275,000 and $941,000 for the three and nine months ended November 1, 2009, respectively.

Quantitative Summary of Derivative Positions and Their Effect on Results of Operations

The following table presents the fair values of derivative instruments included in the consolidated balance sheet as of October 31, 2010 and January 31, 2010:

		Asset Derivatives
		Fair Value
		October 31,		January 31,
Derivatives Not Designated as Hedging Instruments	Balance Sheet Location	2010		2010
		(In thousands)
Commodity futures contracts	Other current assets	$	30	$	-

		Liability Derivatives
		Fair Value
		October 31,		January 31,
Derivatives Not Designated as Hedging Instruments	Balance Sheet Location	2010		2010
		(In thousands)
Interest rate contracts	Accrued liabilities	$	-	$	641
Commodity futures contracts	Accrued liabilities		-		92
		$	-	$	733

The effect of derivative instruments on the consolidated statement of operations for the three and nine months ended October 31, 2010 and November 1, 2009, was as follows:

		Amount of Derivative Gain or (Loss) Recognized in Income
		Three Months Ended						Nine Months Ended
Derivatives Not Designated as	Location of Derivative Gain or	October 31,			November 1,			October 31,		November 1,
Hedging Instruments	(Loss) Recognized in Income	2010			2009			2010		2009
		(In thousands)
Interest rate contracts	Interest expense	$	-		$	(118	)	$	-	$	(537	)
Agricultural commodity
futures contracts	Direct operating expenses		(77	)		(256	)		164		(796	)
Gasoline commodity
futures contracts	Direct operating expenses		5			(22	)		135		120
Total		$	(72	)	$	(396	)	$	299	$	(1,213	)

Item 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion of the Company’s financial condition and results of operations should be read in conjunction with the consolidated financial statements and notes thereto appearing elsewhere herein.

Results of Operations

The following table sets forth operating metrics for the three and nine months ended October 31, 2010 and November 1, 2009.

	Three Months Ended						Nine Months Ended
	October 31,			November 1,			October 31,			November 1,
	2010			2009			2010			2009
Change in Same Store Sales (on-premises sales only):
Company stores		5.0	%		5.1	%		4.6	%		4.2	%
Domestic Franchise stores		5.7			1.0			4.4			1.4
International Franchise stores		(8.6	)		(15.6	)		(9.2	)		(28.8	)
International Franchise stores, in constant dollars(1)		(12.3	)		(16.8	)		(14.8	)		(21.9	)

Change in Same Store Customer Count - Company stores		2.5	%		N/A			3.1	%		N/A

Off-Premises Metrics (Company stores only):
Average weekly number of doors served:
Grocers/mass merchants		5,731			5,619			5,642			5,692
Convenience stores		5,152			5,230			5,114			5,373

Average weekly sales per door:
Grocers/mass merchants	$	251		$	241		$	259		$	241
Convenience stores		207			210			207			210

Systemwide Sales (in thousands):(2)
Company stores	$	61,146		$	59,738		$	182,936		$	185,008
Domestic Franchise stores		58,185			52,918			179,460			164,968
International Franchise stores		84,039			65,192			235,850			189,415
International Franchise stores, in constant dollars(3)		84,039			67,719			235,850			200,529

Average Weekly Sales Per Store (in thousands):(4)(5)
Company stores:
Factory stores:
Commissaries — off-premises	$	176.6		$	149.5		$	173.1		$	156.7
Dual-channel stores:
On-premises		30.2			27.7			29.9			27.8
Off-premises		39.3			37.2			39.7			36.8
Total		69.5			64.9			69.6			64.6
On-premises only stores		31.4			31.8			31.7			32.4
All factory stores		64.6			61.3			64.4			62.2
Satellite stores		17.9			18.1			18.1			18.1
All stores		55.9			54.9			56.5			56.2

Domestic Franchise stores:
Factory stores	$	39.5		$	35.8		$	40.4		$	37.4
Satellite stores		11.6			13.7			12.4			15.4

International Franchise stores:
Factory stores	$	41.3		$	35.7		$	40.9		$	35.7
Satellite stores		9.0			9.0			8.9			9.0

(1)	Represents the change in International Franchise same store sales computed by reconverting franchise store sales in each foreign currency to U.S. dollars at a constant rate of exchange for each period.

(2)	Excludes sales among Company and franchise stores.

(3)	Represents International Franchise store sales computed by reconverting International Franchise store sales for the three and nine months ended November 1, 2009 to U.S. dollars based upon the weighted average of the exchange rates prevailing in the three and nine months ended October 31, 2010.

(4)	Includes sales between Company and franchise stores.

(5)	Metrics for the three and nine months ended October 31, 2010 include only stores open at October 31, 2010 and metrics for the three and nine months ended November 1, 2009 include only stores open at January 31, 2010.

The change in “same store sales” is computed by dividing the aggregate on-premises sales (including fundraising sales) during the current year period for all stores which had been open for more than 56 consecutive weeks during the current year (but only to the extent such sales occurred in the 57th or later week of each store’s operation) by the aggregate on-premises sales of such stores for the comparable weeks in the preceding year. Once a store has been open for at least 57 consecutive weeks, its sales are included in the computation of same store sales for all subsequent periods. In the event a store is closed temporarily (for example, for remodeling) and has no sales during one or more weeks, such store’s sales for the comparable weeks during the earlier or subsequent period are excluded from the same store sales computation. The change in same store customer count is similarly computed, but is based upon the number of retail transactions reported in the Company’s point-of-sale system.

For off-premises sales, “average weekly number of doors” represents the average number of customer locations to which product deliveries were made during a week, and “average weekly sales per door” represents the average weekly sales to each such location.

Systemwide sales, a non-GAAP financial measure, include sales by both Company and franchise stores. The Company believes systemwide sales data are useful in assessing the overall performance of the Krispy Kreme brand and, ultimately, the performance of the Company. The Company’s consolidated financial statements appearing elsewhere herein include sales by Company stores, sales to franchisees by the KK Supply Chain business segment, and royalties and fees received from franchise stores based on their sales, but exclude sales by franchise stores to their customers.

The following table sets forth data about the number of systemwide stores as of October 31, 2010 and November 1, 2009.

	October 31,	November 1,
	2010	2009
Number of Stores Open At Period End:
Company stores:
Factory:
Commissaries	6	6
Dual-channel stores	37	40
On-premises only stores	26	25
Satellite stores	16	13
Total Company stores	85	84

Domestic Franchise stores:
Factory stores	101	101
Satellite stores	42	37
Total Domestic Franchise stores	143	138

International Franchise stores:
Factory stores	106	93
Satellite stores	315	248
Total International Franchise stores	421	341

Total systemwide stores	649	563

The following table sets forth data about the number of store operating weeks for the three and nine months ended October 31, 2010 and November 1, 2009.

	Three Months Ended		Nine Months Ended
	October 31,	November 1,	October 31,	November 1,
	2010	2009	2010	2009
Store Operating Weeks:
Company stores:
Factory stores:
Commissaries	78	78	238	234
Dual-channel stores	481	606	1,443	1,991
On-premises only stores	338	307	1014	918
Satellite stores	205	153	569	410

Domestic Franchise stores:(1)
Factory stores	1,326	1,322	3,978	3,947
Satellite stores	517	391	1452	1,037

International Franchise stores:(1)
Factory stores	1,154	1,075	3,241	3,209
Satellite stores	4,009	2,915	11,476	8,025

(1)	Metrics for the three and nine months ended October 31, 2010 include only stores open at October 31, 2010 and metrics for the three and nine months ended November 1, 2009 include only stores open at January 31, 2010.

The following table sets forth the types and locations of Company stores as of October 31, 2010.

	Number of Company Stores
	Factory
State	Stores	Hot Shops	Fresh Shops	Total
Alabama	3	-	-	3
District of Columbia	-	1	-	1
Florida	4	-	-	4
Georgia	6	4	-	10
Indiana	3	1	-	4
Kansas	3	-	-	3
Kentucky	3	1	-	4
Louisiana	1	-	-	1
Maryland	2	-	-	2
Michigan	3	-	-	3
Missouri	4	-	-	4
Mississippi	1	-	-	1
North Carolina	11	3	1	15
Ohio	6	-	-	6
South Carolina	2	1	-	3
Tennessee	7	4	-	11
Texas	3	-	-	3
Virginia	6	-	-	6
West Virginia	1	-	-	1
Total	69	15	1	85

Changes in the number of Company stores during the three and nine months ended October 31, 2010 and November 1, 2009 are summarized in the table below.

	Number of Company Stores
	Factory
	Stores		Hot Shops		Fresh Shops		Total
Three months ended October 31, 2010
August 1, 2010	69		13		2		84
Opened	-		1		-		1
Changed store type	-		1		(1	)	-
October 31, 2010	69		15		1		85

Nine months ended October 31, 2010
January 31, 2010	69		12		2		83
Opened	-		3		-		3
Closed	-		(1	)	-		(1	)
Changed store type	-		1		(1	)	-
October 31, 2010	69		15		1		85

Three months ended November 1, 2009
August 2, 2009	77		11		1		89
Opened	-		1		1		2
Closed	(3	)	(1	)	-		(4	)
Transferred	(3	)	-		-		(3	)
November 1, 2009	71		11		2		84

Nine months ended November 1, 2009
February 1, 2009	83		10		-		93
Opened	1		2		2		5
Closed	(9	)	(2	)	-		(11	)
Change in store type	(1	)	1		-		-
Transferred	(3	)	-		-		(3	)
November 1, 2009	71		11		2		84

The following table sets forth the types and locations of domestic franchise stores as of October 31, 2010.

	Number of Domestic Franchise Stores
	Factory
State	Stores	Hot Shops	Fresh Shops	Total
Alabama	5	2	-	7
Arkansas	2	-	-	2
Arizona	2	-	9	11
California	11	-	3	14
Connecticut	1	-	3	4
Colorado	2	-	-	2
Florida	11	5	1	17
Georgia	7	4	-	11
Hawaii	1	-	-	1
Iowa	1	-	-	1
Idaho	1	-	-	1
Illinois	4	-	-	4
Louisiana	3	-	-	3
Missouri	2	1	-	3
Mississippi	2	-	-	2
North Carolina	6	1	-	7
Nebraska	1	-	1	2
New Mexico	1	-	1	2
Nevada	3	1	3	7
Oklahoma	3	-	1	4
Oregon	2	-	-	2
Pennsylvania	4	1	1	6
South Carolina	6	1	2	9
Tennessee	1	-	-	1
Texas	8	-	1	9
Utah	2	-	-	2
Wisconsin	1	-	-	1
Washington	8	-	-	8
Total	101	16	26	143

Changes in the number of domestic franchise stores during the three and nine months ended October 31, 2010 and November 1, 2009 are summarized in the table below.

	Number of Domestic Franchise Stores
	Factory
	Stores		Hot Shops	Fresh Shops		Total
Three months ended October 31, 2010
August 1, 2010	102		15	23		140
Opened	-		-	3		3
Closed	-		-	-		-
Change in store type	(1	)	1	-		-
October 31, 2010	101		16	26		143

Nine months ended October 31, 2010
January 31, 2010	104		14	23		141
Opened	-		1	4		5
Closed	(2	)	-	(1	)	(3	)
Change in store type	(1	)	1	-		-
October 31, 2010	101		16	26		143

Three months ended November 1, 2009
August 2, 2009	100		12	21		133
Opened	-		-	2		2
Closed	-		-	-		-
Change in store type	(2	)	2	-		-
Transferred	3		-	-		3
November 1, 2009	101		14	23		138

Nine months ended November 1, 2009
February 1, 2009	104		13	15		132
Opened	-		-	7		7
Closed	(3	)	-	(1	)	(4	)
Change in store type	(3	)	1	2		-
Transferred	3		-	-		3
November 1, 2009	101		14	23		138

The types and locations of international franchise stores as of October 31, 2010 are summarized in the table below.

	Number of International Franchise Stores
	Factory
Country	Stores	Hot Shops	Fresh Shops	Kiosks	Total
Australia	6	3	24	20	53
Bahrain	2	-	2	5	9
Canada	4	-	-	-	4
China	1	-	-	-	1
Dominican Republic	1	-	-	-	1
Indonesia	2	-	2	3	7
Japan	12	-	7	-	19
Kuwait	3	-	23	2	28
Lebanon	2	-	6	3	11
Malaysia	2	1	1	1	5
Mexico	5	1	22	21	49
Philippines	4	3	12	1	20
The Commonwealth of Puerto Rico	4	-	-	-	4
Qatar	2	-	3	1	6
The Republic of Korea	31	1	8	-	40
The Kingdom of Saudi Arabia	9	-	63	9	81
The Kingdom of Thailand	2	-	-	-	2
Turkey	1	-	10	2	13
The United Arab Emirates	2	-	16	4	22
The United Kingdom	11	4	23	8	46
Total	106	13	222	80	421

Changes in the number of international franchise stores during the three and nine months ended October 31, 2010 and November 1, 2009 are summarized in the table below.

	Number of International Franchise Stores
	Factory
	Stores		Hot Shops		Fresh Shops		Kiosks		Total
Three months ended October 31, 2010
August 1, 2010	103		14		214		78		409
Opened	6		-		8		2		16
Closed	(3	)	(1	)	-		-		(4	)
October 31, 2010	106		13		222		80		421

Nine Months Ended October 31, 2010
January 31, 2010	95		14		180		69		358
Opened	17		-		46		12		75
Closed	(6	)	(1	)	(4	)	(1	)	(12	)
October 31, 2010	106		13		222		80		421

Three months ended November 1, 2009
August 2, 2009	93		26		154		53		326
Opened	2		-		10		8		20
Closed	(2	)	-		(2	)	(1	)	(5	)
Change in store type	-		-		(4	)	4		-
November 1, 2009	93		26		158		64		341

Nine Months Ended November 1, 2009
February 1, 2009	94		26		126		52		298
Opened	5		2		39		13		59
Closed	(6	)	-		(5	)	(5	)	(16	)
Change in store type	-		(2	)	(2	)	4		-
November 1, 2009	93		26		158		64		341

Three months ended October 31, 2010 compared to three months ended November 1, 2009

Overview

Total revenues rose by 7.9% for the three months ended October 31, 2010 compared to the three months ended November 1, 2009. The Company refranchised three stores in Northern California and one store in South Carolina in fiscal 2010. Those refranchisings had the effect of reducing consolidated revenues because the sales of these refranchised stores (which are no longer reported as revenues by the Company) exceed the royalties and KK Supply Chain sales recorded by the Company subsequent to the refranchisings. Excluding the Company’s revenues related to the refranchised stores in both periods, total revenues rose 9.6% in the three months ended October 31, 2010 compared to the three months ended November 1, 2009.

A reconciliation of total revenues as reported to adjusted total revenues exclusive of the effects of refranchising follows:

	Three Months Ended
	October 31,			November 1,
	2010			2009
	(In thousands)
Total revenues as reported	$	90,228		$	83,600
Sales by refranchised stores(1)		-			(1,904	)
Royalties from refranchised stores(1)		(78	)		(7	)
KK Supply Chain sales to refranchised stores(1)		(657	)		-
Adjusted total revenues exclusive of the effects of refranchising	$	89,493		$	81,689

(1)	Adjustments reflect amounts only for stores refranchised in fiscal 2010 because earlier refranchisings do no affect comparability between the periods presented.

The Company believes that adjusted total revenues exclusive of the effects of refranchising, a non-GAAP measure, is a useful measure because it enables comparisons of the Company’s revenues that are unaffected by the Company’s decisions to sell operating Krispy Kreme stores to franchisees instead of continuing to operate the stores as Company locations. In addition, this comparison is one of the performance metrics adopted by the compensation committee of the Company’s board of directors to determine the amount of incentive compensation potentially payable to the Company’s executive officers for fiscal 2011.

Consolidated operating income increased from $633,000 in the three months ended November 1, 2009 to $4.1 million in the three months ended October 31, 2010. Consolidated net income was $2.4 million in the three months ended October 31, 2010 compared to a net loss of $2.4 million in the three months ended November 1, 2009.

Revenues by business segment (expressed in dollars and as a percentage of total revenues) are set forth in the table below (percentage amounts may not add to totals due to rounding).

	Three Months Ended
	October 31,			November 1,
	2010			2009
	(Dollars in thousands)
Revenues by business segment:
Company Stores	$	61,565		$	60,020
Domestic Franchise		2,040			1,945
International Franchise		4,389			3,583
KK Supply Chain:
Total revenues		45,001			39,314
Less - intersegment sales elimination		(22,767	)		(21,262	)
External KK Supply Chain revenues		22,234			18,052
Total revenues	$	90,228		$	83,600

Segment revenues as a percentage of total revenues:
Company Stores		68.2	%		71.8	%
Domestic Franchise		2.3			2.3
International Franchise		4.9			4.3
KK Supply Chain (external sales)		24.6			21.6
		100.0	%		100.0	%

Operating income (loss):
Company Stores	$	(1,449	)	$	(1,380	)
Domestic Franchise		499			811
International Franchise		3,018			2,117
KK Supply Chain		7,342			5,549
Total segment operating income		9,410			7,097
Unallocated general and administrative expenses		(4,936	)		(6,355	)
Impairment charges and lease termination costs		(399	)		(109	)
Consolidated operating income	$	4,075		$	633

A discussion of the revenues and operating results of each of the Company’s four business segments follows, together with a discussion of income statement line items not associated with specific segments.

Company Stores

The components of Company Stores revenues and expenses (expressed in dollars and as a percentage of total revenues) are set forth in the table below (percentage amounts may not add to totals due to rounding).

							Percentage of Total Revenue
	Three Months Ended						Three Months Ended
	October 31,			November 1,			October 31,		November 1,
	2010			2009			2010		2009
	(In thousands)
Revenues:
On-premises sales:
Retail sales	$	24,886		$	24,682		40.4	%	41.1	%
Fundraising sales		4,058			3,753		6.6		6.3
Total on-premises sales		28,944			28,435		47.0		47.4
Off-premises sales:
Grocers/mass merchants		18,564			17,413		30.2		29.0
Convenience stores		13,334			13,555		21.7		22.6
Other off-premises		723			617		1.2		1.0
Total off-premises sales		32,621			31,585		53.0		52.6
Total revenues		61,565			60,020		100.0		100.0

Operating expenses:
Cost of sales:
Food, beverage and packaging		22,694			20,910		36.9		34.8
Shop labor		12,278			11,938		19.9		19.9
Delivery labor		5,228			5,211		8.5		8.7
Employee benefits		4,409			5,259		7.2		8.8
Total cost of sales		44,609			43,318		72.5		72.2
Vehicle costs(1)		3,726			3,081		6.1		5.1
Occupancy(2)		2,165			2,366		3.5		3.9
Utilities expense		1,475			1,451		2.4		2.4
Depreciation expense		1,410			1,694		2.3		2.8
Settlement of litigation		-			750		-		1.2
Other operating expenses		4,830			4,603		7.8		7.7
Total store level costs		58,215			57,263		94.6		95.4
Store operating income		3,350			2,757		5.4		4.6
Other segment operating costs (3)		3,674			2,560		6.0		4.3
Allocated corporate overhead		1,125			1,577		1.8		2.6
Segment operating income (loss)	$	(1,449	)	$	(1,380	)	(2.4	)%	(2.3	)%

(1)	Includes fuel, maintenance and repairs, rent, taxes and other costs of operating the delivery fleet, exclusive of depreciation.

(2)	Includes rent, property taxes, common area maintenance charges, insurance, building maintenance and other occupancy costs, exclusive of utilities and depreciation.

(3)	Includes marketing costs not charged to stores, segment management costs, off-premises selling expenses and support functions.

A reconciliation of Company Store segment sales from the third quarter of fiscal 2010 to the third quarter of fiscal 2011 follows:

	On-Premises			Off-Premises			Total
	(In thousands)
Sales for the three months ended November 1, 2009	$	28,435		$	31,585		$	60,020
Fiscal 2010 sales at refranchised stores		(1,250	)		(654	)		(1,904	)
Fiscal 2010 sales at closed stores		(577	)		(74	)		(651	)
Increase in sales at mature stores (open stores only)		1,395			1,764			3,159
Increase in sales at stores opened in fiscal 2010		180			-			180
Sales at stores opened in fiscal 2011		761			-			761
Sales for the three months ended October 31, 2010	$	28,944		$	32,621		$	61,565

Sales at Company Stores increased 2.6% in the third quarter of fiscal 2011 from the third quarter of fiscal 2010 due to an increase in sales from existing stores and stores opened in fiscal 2010 and fiscal 2011, partially offset by store closings and refranchisings. Excluding the effects of refranchising, Company Stores sales increased 5.9%.

The following table presents sales metrics for Company stores:

	Three Months Ended
	October 31,		November 1,
	2010		2009
On-premises:
Change in same store sales	5.0	%	5.1	%
Change in same store customer count	2.5	%	N/A
Off-premises:
Grocers/mass merchants:
Change in average weekly number of doors	2.0	%	(10.4	)%
Change in average weekly sales per door	4.1	%	14.2	%
Convenience stores:
Change in average weekly number of doors	(1.5	)%	(12.0	)%
Change in average weekly sales per door	(1.4	)%	(1.9	)%

On-premises sales

Same store sales at Company stores rose 5.0% in the third quarter of fiscal 2011 over the third quarter of fiscal 2010, of which the Company estimates approximately 3.4 percentage points is attributable to price increases. Additionally, the same store sales increase in the third quarter of fiscal 2011 reflects increased customer traffic partially offset by a decrease in the average guest check.

The Company is implementing programs intended to improve on-premises sales, including increased focus on local store marketing efforts, improved employee training, store refurbishment efforts and the introduction of new products.

Off-premises sales

Sales to grocers and mass merchants increased to $18.6 million, with a 4.1% increase in average weekly sales per door and a 2.0% increase in the average number of doors served. Convenience store sales fell due to both a decline in the average number of doors served and in the average weekly sales per door. Among other reasons, sales to convenience stores declined in the third quarter of fiscal 2011 as a result of a large customer implementing an in-house doughnut program in fiscal 2010 to replace the Company’s products; the loss of doors associated with this customer accounted for approximately 1.2 percentage points of the 1.5% decline in the average number of convenience store doors served for the three months ended October 31, 2010. Declines in the average weekly sales per door adversely affect profitability because of the increased significance of delivery costs in relation to sales.

The Company started implementing price increases for some products offered in the off-premises channel late in the first quarter of fiscal 2011, and substantially completed implementing the increases during the second quarter. Those price increases affect products comprising approximately 30% of off-premises sales. The average price increase on those products was approximately 8%.

The Company is implementing steps intended to increase sales, increase average per door sales and reduce costs in the off-premises channel. These steps include improved route management and route consolidation (including elimination of or reduction in the number of stops at relatively low volume doors), new sales incentives and performance-based pay programs, increased emphasis on relatively longer shelf-life products and the development of order management systems to more closely match merchandised quantities and assortments with consumer demand.

Costs and expenses

Cost of sales as a percentage of revenues rose by 0.3 percentage points from the third quarter of fiscal 2010 to 72.5% of revenues in the third quarter of fiscal 2011, due to increases in the cost of food, beverage and packaging. The cost of sugar rose approximately 27% from the third quarter of fiscal 2010 as a result of price increases implemented by KK Supply Chain to reflect the expiration of a favorable sugar supply contract. The cost of shortening also rose year over year. In addition to higher ingredient costs, an increase in product returns in the off-premises channel also increased product costs as a percentage of revenues.

Prices of agricultural commodities have been volatile in recent quarters, and that volatility continued in the third quarter of fiscal 2011. Notwithstanding that volatility, the trend in the Company’s costs for doughnut mix, shortening and sugar has been upward in recent years. In particular, the Company’s cost of sugar has been dramatically higher in fiscal 2011 as a result of the expiration earlier this year of a favorable KK Supply Chain sugar supply contract.

In the third quarter of fiscal 2011, KK Supply Chain extended its sugar supply contract, supplies under which are expected to be exhausted in the second quarter of fiscal 2012; such extension is expected to cover the Company’s sugar requirements for the balance of fiscal 2012 and approximately half of the estimated requirements for fiscal 2013. The extension is expected to increase the Company Stores segment’s cost of sugar in the range of $2.5 million to $3.0 million in the second half of fiscal 2012. The cost increase under the contract in fiscal 2013 is less than the increase in the second half of fiscal 2012 because the contract price declines in fiscal 2013 compared to fiscal 2012. The Company also currently anticipates significant increases in the cost of doughnut mix, shortening and other ingredients in fiscal 2012 as a result of higher commodity prices. With the exception of sugar, the Company has not fixed the prices of a significant percentage of its raw materials and ingredients for fiscal 2012. The Company is evaluating the timing and scope of price increases necessary to mitigate these cost increases, and is also investigating other means to mitigate these increases, including changes to its production methods and processes.

Employee benefits as a percentage of revenues declined by 1.6 percentage points from the third quarter of fiscal 2010 to 7.2% of revenues in the third quarter of fiscal 2011, principally due to lower store incentive provisions and a decrease in health care claims in the third quarter of fiscal 2011 compared to the prior year.

Vehicle costs as a percentage of revenues rose from 5.1% of revenues in the third quarter of fiscal 2010 to 6.1% of revenues in the third quarter of fiscal 2011, principally as a result of higher rental expense on leased delivery trucks as a result of the Company replacing a portion of its aging delivery fleet. Fuel costs also increased in the third quarter of fiscal 2011. These increases were partially offset by a decrease in repairs and maintenance expense in the quarter.

Company Stores’ expenses for the third quarter of fiscal 2010 include a charge of $750,000 for the settlement of environmental litigation.

The Company is implementing programs intended to improve store operations and reduce costs as a percentage of revenues, including improved employee training and the introduction of food and labor cost management tools.

Other segment operating costs as a percentage of revenues rose by 1.7 percentage points from the third quarter of fiscal 2010 to 6.0% of revenues in the third quarter of fiscal 2011 reflecting, among other things, increased spending on marketing costs not charged to stores, real estate and construction management costs and off-premises selling and support expenses.

The Company Stores segment closed or refranchised a total of 17 stores since the end of fiscal 2009, none of which have been accounted for as discontinued operations because the Company continues to have significant continuing involvement in the markets in which the stores were or are located, through either continuing operations of other stores in or serving the market or through its role as a franchisor. In order to assist readers in understanding the results of operations of the Company’s ongoing stores, the following table presents the components of revenues and expenses for stores operated by the Company as of October 31, 2010, and excludes the revenues and expenses for stores closed and refranchised prior to that date. Percentage amounts may not add to totals due to rounding.

	Stores in Operation at October 31, 2010
							Percentage of Total Revenues
	Three Months Ended						Three Months Ended
	October 31,			November 1,			October 31,		November 1,
	2010			2009			2010		2009
	(In thousands)
Revenues:
On-premises sales:
Retail sales	$	24,886		$	22,966		40.4	%	40.0	%
Fundraising sales		4,058			3,642		6.6		6.3
Total on-premises sales		28,944			26,608		47.0		46.3
Off-premises sales:
Grocers/mass merchants		18,564			16,941		30.2		29.5
Convenience stores		13,334			13,310		21.7		23.2
Other off-premises		723			606		1.2		1.1
Total off-premises sales		32,621			30,857		53.0		53.7
Total revenues		61,565			57,465		100.0		100.0

Operating expenses:
Cost of sales:
Food, beverage and packaging		22,694			19,985		36.9		34.8
Shop labor		12,263			11,274		19.9		19.6
Delivery labor		5,228			5,056		8.5		8.8
Employee benefits		4,408			4,952		7.2		8.6
Total cost of sales		44,593			41,267		72.4		71.8
Vehicle costs		3,726			2,993		6.1		5.2
Occupancy		2,093			1,996		3.4		3.5
Utilities expense		1,467			1,306		2.4		2.3
Depreciation expense		1,410			1,638		2.3		2.9
Other operating expenses		4,820			4,073		7.8		7.1
Total store level costs		58,109			53,273		94.4		92.7
Store operating income - ongoing stores		3,456			4,192		5.6	%	7.3	%
Store operating loss - closed and refranchised stores		(106	)		(1,435	)
Store operating income	$	3,350		$	2,757

Domestic Franchise

	Three Months Ended
	October 31,		November 1,
	2010		2009
	(In thousands)
Revenues:
Royalties	$	1,929	$	1,891
Development and franchise fees		-		-
Other		111		54
Total revenues		2,040		1,945

Operating expenses:
Segment operating expenses		1,385		1,009
Depreciation expense		56		14
Allocated corporate overhead		100		111
Total operating expenses		1,541		1,134
Segment operating income	$	499	$	811

Domestic Franchise revenues increased 4.9% to $2.0 million in the third quarter of fiscal 2011 from $1.9 million in the third quarter of fiscal 2010. The increase reflects higher domestic royalty revenues resulting from an increase in sales by domestic franchise stores from approximately $53 million in the third quarter of fiscal 2010 to $58 million in the third quarter of fiscal 2011. Approximately $2.1 million of the increase in sales by domestic franchisees is the result of refranchising Company stores. Domestic Franchise same store sales rose 5.7% in the third quarter of fiscal 2011.

Beginning in fiscal 2011, the Company began allocating to the business segments the legal fees and expenses directly related to their businesses; such costs were included in general and administrative expenses in prior years. Such fees and expenses totaled approximately $410,000 in the Domestic Franchise segment for the three months ended October 31, 2010, most of which represented legal costs relating to the Company’s termination of the franchise agreements of one of its domestic franchisees.

Domestic franchisees opened three stores in the third quarter of fiscal 2011. Royalty revenues are directly related to sales by franchise stores and, accordingly, the success of franchisees’ operations has a direct effect on the Company’s revenues, results of operations and cash flows.

International Franchise

	Three Months Ended
	October 31,		November 1,
	2010		2009
	(In thousands)
Revenues:
Royalties	$	4,005	$	3,165
Development and franchise fees		384		418
Total revenues		4,389		3,583

Operating expenses:
Segment operating expenses		1,044		1,198
Depreciation expense		2		-
Allocated corporate overhead		325		268
Total operating expenses		1,371		1,466
Segment operating income	$	3,018	$	2,117

International Franchise royalties increased 26.5%, driven by an increase in sales by international franchise stores from $65 million in the third quarter of fiscal 2010 to $84 million in the third quarter of fiscal 2011. Changes in the rates of exchange between the U.S. dollar and the foreign currencies in which the Company’s international franchisees do business increased sales by international franchisees measured in U.S. dollars by approximately $3.1 million in the third quarter of fiscal 2011 compared to the third quarter of fiscal 2010. The Company did not recognize as revenue approximately $700,000 and $560,000 of uncollected royalties which accrued during the third quarter of fiscal 2011 and 2010, respectively, because the Company did not believe collection of these royalties was reasonably assured. Substantially all of the unrecognized royalties in the third quarter of fiscal 2011 related to the Company’s Australian franchisee, which commenced a voluntary administration process (similar to a bankruptcy filing in the U.S.) in October 2010. In connection with that process, in November 2010, the franchisee closed 24 of the 53 shops the franchisee operated prior to the reorganization. The aggregate royalty revenues earned from this franchisee were approximately $1.9 million for the year ended January 31, 2010, net of unrecognized royalty amounts and bad debt expense.

International Franchise same store sales, measured on a constant currency basis to remove the effects of changing exchange rates between foreign currencies and the U.S. dollar, fell 12.3%. The decline in International Franchise same store sales reflects, among other things, waning honeymoon effects from the large number of new stores opened internationally in recent years and the cannibalization effects on initial stores in new markets of additional store openings in those markets. “Honeymoon effect” means the common pattern for many start-up restaurants in which a flurry of activity due to start-up publicity and natural curiosity is followed by a decline during which a steady repeat customer base develops. “Cannibalization effect” means the tendency for new stores to become successful, in part or in whole, by “stealing” sales from existing stores in the same market.

International Franchise operating expenses include costs to recruit new international franchisees, to assist in international store openings, and to monitor and aid in the performance of international franchise stores, as well as allocated corporate costs. International Franchise operating expenses declined in the third quarter of fiscal 2011 compared to the third quarter of fiscal 2010 primarily due to reduced bad debt expense, which totaled a credit of $130,000 in the third quarter of fiscal 2011 compared to an expense of $230,000 in the third quarter of fiscal 2010. The bad debt expense recorded in the third quarter of last year related principally to the Australian franchisee discussed above. This decline was partially offset by an increase in resources devoted to the development and support of international franchisees and higher incentive compensation provisions in the third quarter of fiscal 2011 compared to the third quarter of fiscal 2010.

International franchisees opened 16 stores and closed four stores in the third quarter of fiscal 2011. Royalty revenues are directly related to sales by franchise stores and, accordingly, the success of franchisees’ operations has a direct effect on the Company’s revenues, results of operations and cash flows.

KK Supply Chain

The components of KK Supply Chain revenues and expenses (expressed in dollars and as a percentage of total revenues before intersegment sales elimination) are set forth in the table below (percentage amounts may not add to totals due to rounding).

					Percentage of Total Revenues
					Before Intersegment
					Sales Elimination
	Three Months Ended				Three Months Ended
	October 31,		November 1,		October 31,		November 1,
	2010		2009		2010		2009
	(In thousands)
Revenues:
Doughnut mixes	$	15,699	$	14,096	34.9	%	35.9	%
Other ingredients, packaging and supplies		27,529		23,732	61.2		60.4
Equipment		1,597		1,486	3.5		3.8
Fuel surcharge		176		-	0.4		-
Total revenues before intersegment sales elimination		45,001		39,314	100.0		100.0

Operating expenses:
Cost of sales:
Cost of goods produced and purchased		29,869		26,696	66.4		67.9
Mark-to-market adjustment on agricultural derivatives		77		256	0.2		0.7
Inbound freight		887		852	2.0		2.2
Total cost of sales		30,833		27,804	68.5		70.7
Distribution costs:
Outbound freight		2,483		2,276	5.5		5.8
Other distribution costs		932		785	2.1		2.0
Total distribution costs		3,415		3,061	7.6		7.8
Other segment operating costs		2,938		2,395	6.5		6.1
Depreciation expense		198		219	0.4		0.6
Allocated corporate overhead		275		286	0.6		0.7
Total operating costs		37,659		33,765	83.7		85.9
Segment operating income	$	7,342	$	5,549	16.3	%	14.1	%

KK Supply Chain revenues before intersegment sales elimination increased $5.7 million, or 14.5%, in the third quarter of fiscal 2011 compared to the third quarter of fiscal 2010. The increase reflects selling price increases for sugar and certain other ingredients instituted by KK Supply Chain in order to pass along to Company and franchise stores increases in KK Supply Chain’s cost of sugar, flour and shortening. The increase also reflects higher unit volumes of most product categories compared to the third quarter of last year resulting from higher systemwide sales.

An increasing percentage of franchise store sales is attributable to sales by franchisees outside North America. Many of the ingredients and supplies used by international franchisees are acquired locally instead of from KK Supply Chain. Accordingly, KK Supply Chain revenues are less correlated with sales by international franchisees than with sales by domestic franchisees.

The decrease in cost of goods produced and purchased as a percentage of sales in the third quarter of fiscal 2011 compared to the third quarter of fiscal 2010 reflects, among other things, an increase in the percentage of doughnut mix sales composed of mix concentrates, which carry higher profit margins than sales of finished doughnut mixes. Mix concentrates have higher profit margins than finished doughnut mixes because the Company attempts to maintain the gross profit on sales of mix concentrates and on finished mixes relatively constant when measured on a finished mix equivalent basis.

Other segment operating costs include segment management, purchasing, customer service and support, laboratory and quality control costs, and research and development expenses.

Franchisees opened 19 stores and closed four stores in the third quarter of fiscal 2011. A substantial portion of KK Supply Chain’s revenues are directly related to sales by franchise stores and, accordingly, the success of franchisees’ operations has a direct effect on the Company’s revenues, results of operations and cash flows.

General and Administrative Expenses

General and administrative expenses were $4.8 million, or 5.3% of total revenues, in the third quarter of fiscal 2011 compared to $6.1 million, or 7.3% of total revenues, in the third quarter of fiscal 2010. General and administrative expenses in the third quarter of fiscal 2010 reflect professional fees and expenses of approximately $870,000 relating to the settlement in late fiscal 2010 of certain environmental litigation, and approximately $400,000 relating to the resolution of certain securities and shareholder derivative litigation, the last element of which was settled in fiscal 2010.

Impairment Charges and Lease Termination Costs

Impairment charges and lease termination costs were $399,000 in the third quarter of fiscal 2011 compared to $109,000 in the third quarter of fiscal 2010.

	Three Months Ended
	October 31,		November 1,
	2010		2009
	(In thousands)
Impairment of long-lived assets:
Current period charges	$	-	$	178
Recovery from bankruptcy estate of former subsidiary		-		(482	)
Adjustments to previously recorded estimates		81		-
Total impairment of long-lived assets		81		(304	)

Lease termination costs		318		413
	$	399	$	109

Impairment charges relate principally to Company Stores. The Company tests long-lived assets for impairment when events or changes in circumstances indicate that their carrying value may not be recoverable. These events and changes in circumstances include store closing and refranchising decisions, the effects of changing costs on current results of operations, observed trends in operating results, and evidence of changed circumstances observed as a part of periodic reforecasts of future operating results and as part of the Company’s annual budgeting process. Impairment charges generally relate to stores expected to be closed or refranchised, as well as to stores management believes will not generate sufficient future cash flows to enable the Company to recover the carrying value of the stores’ assets, but which management has not yet decided to close. When the Company concludes that the carrying value of long-lived assets is not recoverable (based on future projected undiscounted cash flows), the Company records impairment charges to reduce the carrying value of those assets to their estimated fair values. The fair values of these assets are estimated based on the present value of estimated future cash flows, on independent appraisals and, in the case of assets the Company currently is negotiating to sell, based on the Company’s negotiations with unrelated third-party buyers. Impairment charges in the third quarter of fiscal 2010 reflect a one-time recovery of $482,000 from the bankruptcy estate of Freedom Rings, LLC, a former subsidiary of the Company which filed for bankruptcy in the third quarter of fiscal 2006, as more fully described in Note 5 to the consolidated financial statements appearing elsewhere herein.

Lease termination costs represent the estimated fair value of liabilities related to unexpired leases, after reduction by the amount of accrued rent expense, if any, related to the leases, and are recorded when the lease contracts are terminated or, if earlier, the date on which the Company ceases use of the leased property. The fair value of these liabilities were estimated as the excess, if any, of the contractual payments required under the unexpired leases over the current market lease rates for the properties, discounted at a credit-adjusted risk-free rate over the remaining term of the leases. In the third quarter of fiscal 2011 and 2010, the Company recorded lease termination charges of $318,000 and $413,000, respectively, principally reflecting a change in estimated sublease rentals on stores previously closed.

The Company intends to refranchise certain geographic markets, expected to consist principally of, but not necessarily limited to, markets outside the Company’s traditional base in the Southeastern United States. The franchise rights and other assets in many of these markets were acquired by the Company in business combinations in prior years. Since the beginning of fiscal 2009, the Company has refranchised a total of 11 stores and received consideration totaling $2.5 million in connection with those transactions. During this period, the Company has recorded impairment charges totaling approximately $490,000 related to completed and anticipated refranchisings. The Company cannot predict the likelihood of refranchising any additional stores or markets or the amount of proceeds, if any, which might be received therefrom, including the amounts which might be realized from the sale of store assets and the execution of any related franchise agreements. Refranchising could result in the recognition of additional impairment losses on the related assets.

Interest Expense

The components of interest expense are as follows:

	Three Months Ended
	October 31,		November 1,
	2010		2009
	(In thousands)
Interest accruing on outstanding indebtedness	$	1,071	$	1,449
Letter of credit and unused revolver fees		266		243
Amortization of deferred financing costs		248		206
Mark-to-market adjustments on interest rate derivatives		-		118
Amortization of unrealized losses on interest rate derivatives		-		275
Other		-		4
	$	1,585	$	2,295

The decrease in interest accruing on outstanding indebtedness principally reflects the reduction of the principal outstanding under the Company’s term loan. The interest rate derivative contracts which gave rise to the mark-to-market adjustments and the amortization of unrealized losses on interest rate derivatives expired in April 2010.

Equity in Income (Losses) of Equity Method Franchisees

The Company recorded equity in the earnings of equity method franchisees of $190,000 in the third quarter of fiscal 2011 compared to losses of $393,000 in the third quarter of fiscal 2010. This caption represents the Company’s share of operating results of equity method franchisees which develop and operate Krispy Kreme stores.

Provision for Income Taxes

The provision for income taxes was $417,000 in the third quarter of fiscal 2011 compared to $487,000 in the third quarter of fiscal 2010. Each of these amounts includes, among other things, adjustments to the valuation allowance for deferred income tax assets to maintain such allowance at an amount sufficient to reduce the Company’s aggregate net deferred income tax assets to zero, and a provision for income taxes estimated to be currently payable, the majority of which represents foreign tax withholdings.

Net Income

The Company reported net income of $2.4 million for the three months ended October 31, 2010 and a net loss of $2.4 million for the three months ended November 1, 2009.

Nine months ended October 31, 2010 compared to nine months ended November 1, 2009

Overview

Total revenues rose by 4.1% for the nine months ended October 31, 2010 compared to the nine months ended November 1, 2009. The Company refranchised three stores in Northern California and one store in South Carolina in fiscal 2010. Those refranchisings had the effect of reducing consolidated revenues because the sales of these refranchised stores (which are no longer reported as revenues by the Company) exceed the royalties and KK Supply Chain sales recorded by the Company subsequent to the refranchisings. Excluding the Company’s revenues related to the refranchised stores in both periods, total revenues rose 5.8% in the nine months ended October 31, 2010 compared to the nine months ended November 1, 2009.

A reconciliation of total revenues as reported to adjusted total revenues exclusive of the effects of refranchising follows:

	Nine Months Ended
	October 31,			November 1,
	2010			2009
	(In thousands)
Total revenues as reported	$	270,277		$	259,750
Sales by refranchised stores(1)		-			(6,483	)
Royalties from refranchised stores(1)		(239	)		(7	)
KK Supply Chain sales to refranchised stores(1)		(2,007	)		-
Adjusted total revenues exclusive of the effects of refranchising	$	268,031		$	253,260

(1)

Adjustments reflect amounts only for stores refranchised in fiscal 2010 because earlier refranchisings do no affect comparability between the periods presented.

Consolidated operating income increased from $9.4 million in the nine months ended November 1, 2009 to $14.3 million in the nine months ended October 31, 2010. Consolidated net income was $9.1 million in the nine months ended October 31, 2010 compared to a net loss of $677,000 in the nine months ended November 1, 2009.

Revenues by business segment (expressed in dollars and as a percentage of total revenues) are set forth in the table below (percentage amounts may not add to totals due to rounding).

	Nine Months Ended
	October 31,			November 1,
	2010			2009
	(Dollars in thousands)
Revenues by business segment:
Company Stores	$	184,069		$	185,730
Domestic Franchise		6,314			5,798
International Franchise		13,158			11,267
KK Supply Chain:
Total revenues		135,798			121,926
Less - intersegment sales elimination		(69,062	)		(64,971	)
External KK Supply Chain revenues		66,736			56,955
Total revenues	$	270,277		$	259,750

Segment revenues as a percentage of total revenues:
Company Stores		68.1	%		71.5	%
Domestic Franchise		2.3			2.2
International Franchise		4.9			4.3
KK Supply Chain (external sales)		24.7			21.9
		100.0	%		100.0	%

Operating income (loss):
Company Stores	$	(3,214	)	$	2,951
Domestic Franchise		2,694			2,425
International Franchise		9,004			6,495
KK Supply Chain		23,361			19,375
Total segment operating income		31,845			31,246
Unallocated general and administrative expenses		(16,078	)		(17,970	)
Impairment charges and lease termination costs		(1,482	)		(3,922	)
Consolidated operating income	$	14,285		$	9,354

Company Stores

						Percentage of Total Revenues
	Nine Months Ended					Nine Months Ended
	October 31,			November 1,		October 31,		November 1,
	2010			2009		2010		2009
	(In thousands)
Revenues:
On-premises sales:
Retail sales	$	74,315		$	77,410	40.4	%	41.7	%
Fundraising sales		11,412			10,804	6.2		5.8
Total on-premises sales		85,727			88,214	46.6		47.5
Off-premises sales:
Grocers/mass merchants		56,576			53,154	30.7		28.6
Convenience stores		39,730			42,620	21.6		22.9
Other off-premises		2,036			1,742	1.1		0.9
Total off-premises sales		98,342			97,516	53.4		52.5
Total revenues		184,069			185,730	100.0		100.0

Operating expenses:
Cost of sales:
Food, beverage and packaging		68,113			63,246	37.0		34.1
Shop labor		36,753			36,430	20.0		19.6
Delivery labor		15,794			16,156	8.6		8.7
Employee benefits		13,326			14,841	7.2		8.0
Total cost of sales		133,986			130,673	72.8		70.4
Vehicle costs(1)		10,306			8,547	5.6		4.6
Occupancy(2)		6,956			8,041	3.8		4.3
Utilities expense		4,385			4,467	2.4		2.4
Depreciation expense		4,264			4,709	2.3		2.5
Settlement of litigation		-			750	-		0.4
Other operating expenses		14,068			13,633	7.6		7.3
Total store level costs		173,965			170,820	94.5		92.0
Store operating income		10,104			14,910	5.5		8.0
Other segment operating costs(3)		9,943			7,229	5.4		3.9
Allocated corporate overhead		3,375			4,730	1.8		2.5
Segment operating income (loss)	$	(3,214	)	$	2,951	(1.7	)%	1.6	%

(1)		Includes fuel, maintenance and repairs, rent, taxes and other costs of operating the delivery fleet, exclusive of depreciation.

(2)		Includes rent, property taxes, common area maintenance charges, insurance, building maintenance and other occupancy costs, exclusive of utilities and depreciation.

(3)		Includes marketing costs not charged to stores, segment management costs, off-premises selling expenses and support functions.

A reconciliation of Company Stores segment sales from the nine months ended November 1, 2009 to the nine months ended October 31, 2010 follows:

	On-Premises			Off-Premises			Total
	(In thousands)
Sales for the nine months ended November 1, 2009	$	88,214		$	97,516		$	185,730
Fiscal 2010 sales at refranchised stores		(4,434	)		(2,049	)		(6,483	)
Fiscal 2010 sales at closed stores		(4,647	)		(1,480	)		(6,127	)
Fiscal 2011 sales at closed stores		247			-			247
Increase in sales at mature stores (open stores only)		3,594			4,355			7,949
Increase in sales at stores opened in fiscal 2010		1,707			-			1,707
Sales at stores opened in fiscal 2011		1,046			-			1,046
Sales for the nine months ended October 31, 2010	$	85,727		$	98,342		$	184,069

Sales at Company Stores decreased 0.9% in the first nine months of fiscal 2011 from the first nine months of fiscal 2010 due to store closings and refranchisings, partially offset by an increase in sales from existing stores and stores opened in fiscal 2010 and fiscal 2011. Excluding the effects of refranchising, Company Stores sales increased 2.7%.

The following table presents sales metrics for Company stores:

	Nine Months Ended
	October 31,		November 1,
	2010		2009
On-premises:
Change in same store sales	4.6	%	4.2	%
Change in same store customer count (retail sales only)	3.1	%	N/A
Off-premises:
Grocers/mass merchants:
Change in average weekly number of doors	(0.9	)%	(10.7	)%
Change in average weekly sales per door	7.5	%	10.0	%
Convenience stores:
Change in average weekly number of doors	(4.8	)%	(11.1	)%
Change in average weekly sales per door	(1.4	)%	(4.5	)%

On-premises sales

Same store sales at Company stores rose 4.6% in the first nine months of fiscal 2011 over the first nine months of fiscal 2010, of which the Company estimates approximately 3.6 percentage points is attributable to price increases. Additionally, the same store sales increase in the first nine months of fiscal 2011 reflects increased customer traffic partially offset by a decrease in the average guest check.

Off-premises sales

Sales to grocers and mass merchants increased to $56.6 million, with a 7.5% increase in average weekly sales per door more than offsetting a 0.9% decline in the average number of doors served. Convenience store sales fell due to both a decline in the average number of doors served and in the average weekly sales per door. Among other reasons, sales to convenience stores declined in the first nine months of fiscal 2011 as a result of two large customers implementing in-house doughnut programs in fiscal 2010 to replace the Company’s products; the loss of doors associated with those two customers accounted for approximately 2.2 percentage points of the 4.8% decline in the average number of convenience store doors served for the nine months ended October 31, 2010. Declines in the average weekly sales per door adversely affect profitability because of the increased significance of delivery costs in relation to sales.

The Company started implementing price increases for some products offered in the off-premises channel late in the first quarter of fiscal 2011, and substantially completed implementing the price increases in the second quarter. Those price increases affect products comprising approximately 30% of off-premises sales. The average price increase on those products was approximately 8%.

Costs and expenses

Cost of sales as a percentage of revenues rose by 2.4 percentage points from the first nine months of fiscal 2010 to 72.8% of revenues in the first nine months of fiscal 2011, principally reflecting an increase in the cost of food, beverage and packaging. The cost of sugar rose approximately 27% from the first nine months of fiscal 2010 as a result of price increases implemented by KK Supply Chain to reflect the expiration of a favorable sugar supply contract. In addition, the cost of shortening and other ingredients also rose year over year. While on-premises and off-premises price increases approximated the amount of the cost increases, the substantially equal revenue and cost increases resulted in higher material cost measured as a percentage of revenues. In addition to higher ingredient costs, an increase in product returns in the off-premises channel also increased product costs as a percentage of revenues.

In the third quarter of fiscal 2011, KK Supply Chain extended its sugar supply contract, supplies under which are expected to be exhausted in the second quarter of fiscal 2012; such extension is expected to cover the Company’s sugar requirements for the balance of fiscal 2012 and approximately half of the estimated requirements for fiscal 2013. The extension is expected to increase the Company Stores segment’s cost of sugar in the range of $2.5 million to $3.0 million in the second half of fiscal 2012. The cost increase under the contract in fiscal 2013 is less than the increase in the second half of fiscal 2012 because the contract price declines in fiscal 2013 compared to fiscal 2012. The Company also currently anticipates significant increases in the cost of doughnut mix, shortening and other ingredients in fiscal 2012 as a result of higher commodity prices. With the exception of sugar, the Company has not fixed the prices of a significant percentage of its raw materials and ingredients for fiscal 2012. The Company is evaluating the timing and scope of price increases necessary to mitigate these cost increases, and also investigating other means to mitigate these increases, including changes to its production methods and processes.

Employee benefits as a percentage of revenues declined by 0.8 percentage points from the first nine months of fiscal 2010 to 7.2% of revenues in the first nine months of fiscal 2011, principally due to lower store incentive provisions and a decrease in health care claims in the first nine months of fiscal 2011 compared to the prior year.

Vehicle costs as a percentage of revenues rose from 4.6% of revenues in the first nine months of fiscal 2010 to 5.6% of revenues in the first nine months of fiscal 2011, principally as a result of higher rental expense on leased delivery trucks as a result of the Company replacing a portion of its aging delivery fleet. Fuel costs were also higher in the first nine months of fiscal 2011. These increases were partially offset by a decrease in repairs and maintenance expense in the first nine months of fiscal 2011. Favorable adjustments to self-insurance reserves for vehicle liability claims in the first nine months of fiscal 2010 were approximately $300,000 higher than in the first nine months of fiscal 2011, as described below.

The Company is self-insured for workers’ compensation, vehicle and general liability claims, but maintains stop-loss coverage for individual claims exceeding certain amounts. The Company provides for claims under these self-insured programs using actuarial methods as described in the 2010 Form 10-K, and updates actuarial valuations of its self-insurance reserves at least annually. Such periodic actuarial valuations result in changes over time in the estimated amounts which ultimately will be paid for claims under these programs to reflect the Company’s actual claims experience for each policy year as well as trends in claims experience over multiple years. Such claims, particularly workers’ compensation claims, often are paid over a number of years following the year in which the insured events occur, and the estimated ultimate cost of each year’s claims accordingly is adjusted over time as additional information becomes available. The Company updated the actuarial valuations of its self-insurance reserves during the second quarter of fiscal 2011 and during the second quarter of fiscal 2010. The Company recorded favorable adjustments to its self-insurance claims liabilities related to prior policy years of approximately $690,000 in the second quarter of fiscal 2011 and $1.2 million in the second quarter of fiscal 2010. Of the $690,000 in favorable adjustments recorded in the second quarter of fiscal 2011, approximately $640,000 relates to workers’ compensation liability claims and is included in employee benefits in the table above and approximately $50,000 relates to vehicle liability claims and is included in vehicle costs in the table above. Of the $1.2 million in favorable adjustments recorded in the second quarter of fiscal 2010, approximately $560,000 relates to workers’ compensation liability claims, approximately $350,000 relates to vehicle liability claims, and approximately $240,000 relates to general liability claims and is included in other operating expenses in the table above.

Company Stores expenses for the first nine months of fiscal 2010 include a charge of $750,000 for the settlement of environmental litigation.

Other segment operating costs as a percentage of revenues rose by 1.5 percentage points from the first nine months of fiscal 2010 to 5.4% of revenues in the first nine months of fiscal 2011 reflecting, among other things, increased spending on marketing costs not charged to stores and off-premises selling and support expenses. Additionally, beginning in fiscal 2011, the Company began allocating to the business segments the legal fees and expenses directly related to their businesses; such costs were included in general and administrative expenses in prior years. Such fees and expenses totaled approximately $380,000 in the Company Stores segment for the nine months ended October 31, 2010 and are included in other segment operating costs.

	Stores in Operation at October 31, 2010
							Percentage of Total Revenues
	Nine Months Ended						Nine Months Ended
	October 31,			November 1,			October 31,		November 1,
	2010			2009			2010		2009
	(In thousands)
Revenues:
On-premises sales:
Retail sales	$	74,081		$	68,875		40.3	%	39.8	%
Fundraising sales		11,399			10,258		6.2		5.9
Total on-premises sales		85,480			79,133		46.5		45.7
Off-premises sales:
Grocers/mass merchants		56,576			51,116		30.8		29.5
Convenience stores		39,730			41,168		21.6		23.8
Other off-premises		2,036			1,703		1.1		1.0
Total off-premises sales		98,342			93,987		53.5		54.3
Total revenues		183,822			173,120		100.0		100.0

Operating expenses:
Cost of sales:
Food, beverage and packaging		68,012			58,902		37.0		34.0
Shop labor		36,639			33,232		19.9		19.2
Delivery labor		15,793			15,460		8.6		8.9
Employee benefits		13,300			13,474		7.2		7.8
Total cost of sales		133,744			121,068		72.8		69.9
Vehicle costs		10,296			8,098		5.6		4.7
Occupancy		6,641			6,521		3.6		3.8
Utilities expense		4,343			3,881		2.4		2.2
Depreciation expense		4,247			4,442		2.3		2.6
Other operating expenses		13,995			12,078		7.6		7.0
Total store level costs		173,266			156,088		94.3		90.2
Store operating income - ongoing stores		10,556			17,032		5.7	%	9.8	%
Store operating loss - closed and refranchised stores		(452	)		(2,122	)
Store operating income	$	10,104		$	14,910

	Nine Months Ended
	October 31,		November 1,
	2010		2009
	(In thousands)
Revenues:
Royalties	$	5,937	$	5,636
Development and franchise fees		20		-
Other		357		162
Total revenues		6,314		5,798

Operating expenses:
Segment operating expenses		3,154		2,986
Depreciation expense		166		57
Allocated corporate overhead		300		330
Total operating expenses		3,620		3,373
Segment operating income	$	2,694	$	2,425

Domestic Franchise revenues increased 8.9% to $6.3 million in the first nine months of fiscal 2011 from $5.8 million in the first nine months of fiscal 2010. The increase reflects higher domestic royalty revenues resulting from an increase in sales by domestic franchise stores from approximately $165 million in the first nine months of fiscal 2010 to $179 million in the first nine months of fiscal 2011. Approximately $7.1 million of the increase in sales by domestic franchisees is the result of refranchising Company stores. Domestic Franchise same store sales rose 4.4% in the first nine months of fiscal 2011.

Domestic Franchise operating expenses include costs to recruit new domestic franchisees, to assist in domestic store openings, and to monitor and aid in the performance of domestic franchise stores, as well as allocated corporate costs. Domestic Franchise operating expenses rose in the first nine months of fiscal 2011 compared to the first nine months of fiscal 2010 primarily due to an increase in resources devoted to the development and support of domestic franchisees and higher incentive compensation provisions. The increase was partially offset by a credit to bad debt expense in first nine months of fiscal 2011 compared to a charge in the first nine months of fiscal 2010. Bad debt expense was approximately $165,000 in the first nine months of fiscal 2010 due principally to provisions related to a single domestic franchisee. In the first nine months of fiscal 2011, bad debt expense was a credit of approximately $190,000, resulting principally from a recovery of receivables previously written off. Additionally, during the second quarter of fiscal 2010, the Company recorded charges of approximately $150,000 to the Domestic Franchise segment for the settlement of certain litigation.

Beginning in fiscal 2011, the Company began allocating to the business segments the legal fees and expenses directly related to their businesses; such costs were included in general and administrative expenses in prior years. Such fees and expenses totaled approximately $720,000 in the Domestic Franchise segment for the nine months ended October 31, 2010, the majority of which represented legal costs relating to the Company’s termination of the franchise agreements of one of its domestic franchisees.

Domestic franchisees opened five stores and closed three stores in the first nine months of fiscal 2011. Royalty revenues are directly related to sales by franchise stores and, accordingly, the success of franchisees’ operations has a direct effect on the Company’s revenues, results of operations and cash flows.

International Franchise

	Nine Months Ended
	October 31,		November 1,
	2010		2009
	(In thousands)
Revenues:
Royalties	$	11,576	$	10,119
Development and franchise fees		1,582		1,148
Total revenues		13,158		11,267

Operating expenses:
Segment operating expenses		3,174		3,972
Depreciation expense		5		-
Allocated corporate overhead		975		800
Total operating expenses		4,154		4,772
Segment operating income	$	9,004	$	6,495

International Franchise royalties increased 14.4% driven by an increase in sales by international franchise stores from $189 million in the first nine months of fiscal 2010 to $236 million in the first nine months of fiscal 2011. Changes in the rates of exchange between the U.S. dollar and the foreign currencies in which the Company’s international franchisees do business increased sales by international franchisees measured in U.S. dollars by approximately $12.7 million in the first nine months of fiscal 2011 compared to the first nine months of fiscal 2010. The Company did not recognize as revenue approximately $1.7 million and $720,000 of uncollected royalties which accrued during the first nine months of fiscal 2011 and fiscal 2010, respectively, because the Company did not believe collection of these royalties was reasonably assured. Substantially all of the unrecognized royalties in the first nine months of fiscal 2011 related to the Company’s Australian franchisee, which commenced a voluntary administration process (similar to a bankruptcy filing in the U.S.) in October 2010. In connection with that process, in November 2010, the franchisee closed 24 of the 53 shops the franchisee operated prior to the reorganization. The aggregate royalty revenues earned from this franchisee were approximately $1.9 million for the year ended January 31, 2010, net of unrecognized royalty amounts and bad debt expense.

International Franchise same store sales, measured on a constant currency basis to remove the effects of changing exchange rates between foreign currencies and the U.S. dollar, fell 14.8%. The decline in International Franchise same store sales reflects, among other things, waning honeymoon effects from the large number of new stores opened internationally in recent years and the cannibalization effects on initial stores in new markets of additional store openings in those markets. “Honeymoon effect” means the common pattern for many start-up restaurants in which a flurry of activity due to start-up publicity and natural curiosity is followed by a decline during which a steady repeat customer base develops. “Cannibalization effect” means the tendency for new stores to become successful, in part or in whole, by “stealing” sales from existing stores in the same market.

International development and franchise fees increased $434,000 in the first nine months of fiscal 2011 due to more store openings by international franchisees in the first nine months of fiscal 2011 than in the first nine months of last year.

Beginning in fiscal 2011, the Company began allocating to the business segments the legal fees and expenses directly related to their businesses; such costs were included in general and administrative expenses in prior years. Such fees and expenses totaled approximately $340,000 in the International Franchise segment for the nine months ended October 31, 2010.

International franchisees opened 75 stores and closed 12 stores in the first nine months of fiscal 2011. Royalty revenues are directly related to sales by franchise stores and, accordingly, the success of franchisees’ operations has a direct effect on the Company’s revenues, results of operations and cash flows.

KK Supply Chain

						Percentage of Total Revenues
						Before Intersegment
						Sales Elimination
	Nine Months Ended					Nine Months Ended
	October 31,			November 1,		October 31,			November 1,
	2010			2009		2010			2009
	(In thousands)
Revenues:
Doughnut mixes	$	46,906		$	44,093	34.5		%	36.2	%
Other ingredients, packaging and supplies		83,590			73,180	61.6			60.0
Equipment		4,738			4,653	3.5			3.8
Fuel surcharge		564			-	0.4			-
Total revenues before intersegment sales elimination		135,798			121,926	100.0			100.0

Operating expenses:
Cost of sales:
Cost of goods produced and purchased		89,740			81,288	66.1			66.7
Mark-to-market adjustment on agricultural derivatives		(164	)		796	(0.1	)		0.7
Inbound freight		2,659			2,734	2.0			2.2
Total cost of sales		92,235			84,818	67.9			69.6
Distribution costs:
Outbound freight		7,633			7,307	5.6			6.0
Other distribution costs		2,756			2,691	2.0			2.2
Total distribution costs		10,389			9,998	7.7			8.2
Other segment operating costs		8,373			6,216	6.2			5.1
Depreciation expense		615			669	0.5			0.5
Allocated corporate overhead		825			850	0.6			0.7
Total operating costs		112,437			102,551	82.8			84.1
Segment operating income	$	23,361		$	19,375	17.2		%	15.9	%

KK Supply Chain revenues before intersegment sales elimination increased $13.9 million, or 11.4%, in the first nine months of fiscal 2011 compared to the first nine months of fiscal 2010. The increase principally reflects selling price increases for sugar and certain other ingredients instituted by KK Supply Chain in order to pass along to Company and franchise stores increases in KK Supply Chain’s cost of sugar, flour and shortening. The increase also reflects higher unit volumes of most product categories compared to the first nine months of last year resulting from higher sales by Domestic and International Franchise stores.

The decrease in cost of goods produced and purchased as a percentage of sales in the first nine months of fiscal 2011 compared to the first nine months of fiscal 2010 reflects, among other things, an increase in the percentage of doughnut mix sales composed of mix concentrates, which carry higher profit margins than sales of finished doughnut mixes. Mix concentrates have higher profit margins than finished doughnut mixes because the Company attempts to maintain the gross profit on sales of mix concentrates and on finished mixes relatively constant when measured on a finished mix equivalent basis.

Distribution costs as a percentage of total revenues fell in the first nine months of fiscal 2011 compared to the first nine months of fiscal 2010 as a result of freight cost reductions resulting from contracting with a third party manufacturer to produce doughnut mix for stores in the Western United States.

Other segment operating costs include segment management, purchasing, customer service and support, laboratory and quality control costs, and research and development expenses. These costs also include a net credit in bad debt expense of approximately $860,000 in the first nine months of fiscal 2010. The net credits principally reflected sustained improved payment performance and/or reduced credit exposure with respect to a small number of franchisees. Net credits in bad debt expense should not be expected to occur on a regular basis. As of October 31, 2010, the Company’s allowance for doubtful accounts from affiliated and unaffiliated franchisees totaled approximately $1.7 million.

Franchisees opened 80 stores and closed 15 stores in the first nine months of fiscal 2011. A substantial portion of KK Supply Chain’s revenues are directly related to sales by franchise stores and, accordingly, the success of franchisees’ operations has a direct effect on the Company’s revenues, results of operations and cash flows.

General and Administrative Expenses

General and administrative expenses were $15.5 million, or 5.7% of total revenues, in the first nine months of fiscal 2011 compared to $17.3 million, or 6.6% of total revenues, in the first nine months of fiscal 2010. General and administrative expenses decreased in the first nine months of fiscal 2011 compared to the first nine months of fiscal 2010, reflecting the allocation to the segments of approximately $1.5 million of legal fees and expenses directly related to their operations that were included in general and administrative expenses prior to fiscal 2011. General and administrative expenses also reflect a decrease in professional fees and expenses of approximately $1.3 million as a result of the settlement in late fiscal 2010 of certain environmental litigation. General and administrative expenses in the first nine months of fiscal 2010 reflect a one-time credit of approximately $1.2 million of costs incurred in connection with certain securities and shareholder derivative litigation settled in October of 2006.

Impairment Charges and Lease Termination Costs

Impairment charges and lease termination costs were $1.5 million in the first nine months of fiscal 2011 compared to $3.9 million in the first nine months of fiscal 2010.

	Nine Months Ended
	October 31,			November 1,
	2010			2009
	(In thousands)
Impairment of long-lived assets:
Current period charges	$	899		$	1,398
Recovery from bankruptcy estate of former subsidiary		-			(482	)
Adjustments to previously recorded estimates		(109	)		-
Total impairment of long-lived assets		790			916

Lease termination costs		692			3,006
	$	1,482		$	3,922

Impairment charges relate principally to Company Stores. The Company tests long-lived assets for impairment when events or changes in circumstances indicate that their carrying value may not be recoverable. These events and changes in circumstances include store closing and refranchising decisions, the effects of changing costs on current results of operations, observed trends in operating results, and evidence of changed circumstances observed as a part of periodic reforecasts of future operating results and as part of the Company’s annual budgeting process. Impairment charges relate to stores expected to be closed or refranchised, as well as to stores management believes will not generate sufficient future cash flows to enable the Company to recover the carrying value of the stores’ assets, but which management has not yet decided to close. When the Company concludes that the carrying value of long-lived assets is not recoverable (based on future projected undiscounted cash flows), the Company records impairment charges to reduce the carrying value of those assets to their estimated fair values. The fair values of these assets are estimated based on the present value of estimated future cash flows, on independent appraisals and, in the case of assets the Company currently is negotiating to sell, based on the Company’s negotiations with unrelated third-party buyers. Impairment charges for the first nine months of fiscal 2010 reflect a one-time recovery of $482,000 from the bankruptcy estate of Freedom Rings, LLC, a former subsidiary of the Company which filed for bankruptcy in the third quarter of fiscal 2006, as more fully described in Note 5 to the consolidated financial statements appearing elsewhere herein.

Lease termination costs represent the estimated fair value of liabilities related to unexpired leases, after reduction by the amount of accrued rent expense, if any, related to the leases, and are recorded when the lease contracts are terminated or, if earlier, the date on which the Company ceases use of the leased property. The fair value of these liabilities were estimated as the excess, if any, of the contractual payments required under the unexpired leases over the current market lease rates for the properties, discounted at a credit-adjusted risk-free rate over the remaining term of the leases. In the first nine months of fiscal 2011, the Company recorded lease termination charges of $692,000 reflecting a change in estimated sublease rentals on stores previously closed and charges related to a store closure and a store relocation, offset by the reversal of previously recorded accrued rent related to those stores. In the first nine months of fiscal 2010, the Company recorded lease termination charges of $3.0 million related principally to the termination of two leases having rental rates substantially above the current market levels.

Interest Expense

The components of interest expense are as follows:

	Nine Months Ended
	October 31,		November 1,
	2010		2009
	(In thousands)
Interest accruing on outstanding indebtedness	$	3,382	$	4,529
Letter of credit and unused revolver fees		866		752
Fees associated with credit agreement amendments		-		925
Write-off of deferred financing costs associated with credit agreement amendments		-		89
Amortization of deferred financing costs		560		547
Mark-to-market adjustments on interest rate derivatives		-		537
Amortization of unrealized losses on interest rate derivatives		152		941
Other		63		104
	$	5,023	$	8,424

The decrease in interest accruing on outstanding indebtedness principally reflects the reduction of principal outstanding under the Company’s term loan. The resulting reduction in interest expense was partially offset by the effects of higher lender margin and fees resulting from amendments to the Company’s Secured Credit Facilities in April 2009. The April 2009 Amendments to the credit facilities increased the interest rate on the Company’s outstanding borrowings and letters of credit by 200 basis points annually. The interest rate derivative contracts which gave rise to the mark-to-market adjustments and the amortization of unrealized losses on interest rate derivatives expired in April 2010.

Equity in Income (Losses) of Equity Method Franchisees

The Company recorded equity in the earnings of equity method franchisees of $371,000 in the first nine months of fiscal 2011 compared to losses of $506,000 in the first nine months of fiscal 2010. This caption represents the Company’s share of operating results of equity method franchisees which develop and operate Krispy Kreme stores.

Provision for Income Taxes

The provision for income taxes was $979,000 in the first nine months of fiscal 2011 compared to $783,000 in the first nine months of fiscal 2010. Each of these amounts includes, among other things, adjustments to the valuation allowance or deferred income tax assets to maintain such allowance at an amount sufficient to reduce the Company’s aggregate net deferred income tax assets to zero, and a provision for income taxes estimated to be currently payable, the majority of which represents foreign tax withholdings.

Net Income

The Company reported net income of $9.1 million for the nine months ended October 31, 2010 and a net loss of $677,000 for the nine months ended November 1, 2009.

LIQUIDITY AND CAPITAL RESOURCES

The following table presents a summary of the Company’s cash flows from operating, investing and financing activities for the first nine months of fiscal 2011 and fiscal 2010.

	Nine Months Ended
	October 31,			November 1,
	2010			2009
	(In thousands)
Net cash provided by operating activities	$	12,834		$	15,897
Net cash used for investing activities		(2,763	)		(5,795	)
Net cash used for financing activities		(8,530	)		(27,097	)
Net increase (decrease) in cash and cash equivalents	$	1,541		$	(16,995	)

Cash Flows from Operating Activities

Net cash provided by operating activities was $12.8 million and $15.9 million in the first nine months of fiscal 2011 and fiscal 2010, respectively.

Cash payments on leases related to closed stores were approximately $3.2 million higher in the first nine months of fiscal 2010 than in the first nine months of fiscal 2011. Net cash provided by operating activities for the first nine months of fiscal 2011 reflects the payment of approximately $4.8 million of incentive compensation earned in fiscal 2010; there were no corresponding payments in the nine months ended November 1, 2009. In addition, cash provided by operating activities in the first nine months of fiscal 2011 reflects the payment of approximately $2.0 million to a landlord in connection with the renegotiation and renewal of the lease for the Company’s headquarters. An increase in KK Supply Chain revenues and higher royalty revenues resulting from growth in the number of franchisees, as well as higher off-premises sales, resulted in a $3.0 million increase in accounts receivable in the first nine months of fiscal 2011. The balance in the change in cash flows from operating activities reflects normal fluctuations in working capital.

Cash Flows from Investing Activities

Net cash used for investing activities was $2.8 million in the first nine months of fiscal 2011 and $5.8 million in the first nine months of fiscal 2010.

Cash used for capital expenditures decreased to approximately $5.5 million in the first nine months of fiscal 2011 from $6.2 million in the first nine months of fiscal 2010. The Company currently expects capital expenditures not to exceed $13 million in fiscal 2011. In addition, the Company realized proceeds from the sale of property and equipment of $2.7 million in the first nine months of fiscal 2011 from the sale of closed stores compared to $156,000 of proceeds from the sale of property and equipment in the first nine months of fiscal 2010.

Cash Flows from Financing Activities

Net cash used by financing activities was $8.5 million in the first nine months of fiscal 2011, compared to $27.1 million in the first nine months of fiscal 2010.

During the first nine months of fiscal 2011, the Company repaid $8.1 million of outstanding term loan and capitalized lease indebtedness, consisting of approximately $550,000 of scheduled principal amortization, $2.6 million of prepayments from the sale of assets related to a closed store and a discretionary prepayment of $5 million made on the term loan during the third quarter. During the first nine months of fiscal 2010, the Company repaid approximately $25.9 million of outstanding term loan and capitalized lease indebtedness, consisting of approximately $900,000 of scheduled principal amortization, a prepayment of $20 million in connection with amendments to the Company’s credit facilities as described in Note 4 to the consolidated financial statements appearing elsewhere herein, and a discretionary prepayment of $5 million made on the term loan during the third quarter. Additionally, the Company paid approximately $1.9 million in fees to its lenders in the first nine months of fiscal 2010 to amend its credit facilities. Of such aggregate amount, $954,000 was capitalized as deferred financing costs and the balance of approximately $925,000 was charged to interest expense.

Recent Accounting Pronouncements

In the first quarter of fiscal 2011, the Company adopted amended accounting standards related to the consolidation of variable-interest entities. The amended standards require an enterprise to qualitatively assess the determination of the primary beneficiary of a variable interest entity (“VIE”) based on whether the enterprise has the power to direct matters that most significantly impact the activities of the VIE and has the obligation to absorb losses of, or the right to receive benefits from, the VIE that could potentially be significant to the VIE. Adoption of the new standards resulted in the Company recognizing a divestiture of three stores sold by the Company in the October 2009 refranchising transaction described under “Basis of Consolidation,” in Note 1 to the consolidated financial statements appearing elsewhere herein. The cumulative effect of adoption of the new standards has been reflected as a $1.3 million credit to the opening balance of retained earnings as of February 1, 2010, the first day of fiscal 2011. Adoption of the standards had no material effect on the Company’s financial position, results of operations or cash flows.

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

There have been no material changes from the disclosures in Part II, Item 7A, “Quantitative and Qualitative Disclosures About Market Risk,” in the 2010 Form 10-K.

Item 4. CONTROLS AND PROCEDURES.

Evaluation of Disclosure Controls and Procedures

As of October 31, 2010, the end of the period covered by this Quarterly Report on Form 10-Q, management performed, under the supervision and with the participation of the Company’s chief executive officer and chief financial officer, an evaluation of the effectiveness of the Company’s disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act. The Company’s disclosure controls and procedures are designed to ensure that information required to be disclosed in the reports the Company files or submits under the Exchange Act 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 management, including the Company’s chief executive officer and chief financial officer, to allow timely decisions regarding required disclosures. Based on this evaluation, the Company’s chief executive officer and chief financial officer have concluded that, as of October 31, 2010, the Company’s disclosure controls and procedures were effective.

Changes in Internal Control Over Financial Reporting

During the quarter ended October 31, 2010, there were no changes in the Company’s internal control over financial reporting that materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

Part II – Other Information

Item 1. LEGAL PROCEEDINGS.

Except as described below, there have been no material changes from the disclosures contained in Part 1, Item 3, “Legal Proceedings,” in the 2010 Form 10-K.

California Wage/Hour Litigation

On October 1, 2010, the Alameda, California County Superior Court concluded this litigation by issuing a final order approving the class-action settlement and entering judgment consistent with the settlement in principle described in the Company's 2010 Form 10-K. The Company paid $950,000 previously recorded in January 2010 for settlement of this matter.

Item 1A. RISK FACTORS.

Except as described below, there have been no material changes from the risk factors disclosed in Part I, Item 1A, “Risk Factors,” in the 2010 Form 10-K.

Recent healthcare legislation could adversely affect our business.

Recent Federal legislation regarding government-mandated health benefits may increase our and our domestic franchisees’ costs. Due to the breadth and complexity of the healthcare legislation, the lack of implementing regulations and interpretive guidance, and the phased-in nature of the implementation, it is difficult to predict the overall impact of the healthcare legislation on our business and the businesses of our domestic franchisees over the coming years. Possible adverse effects of the legislation include increased costs, exposure to expanded liability and requirements for us to revise the ways in which we conduct business. Our results of operations, financial position and cash flows could be adversely affected. Our domestic franchisees face the potential of similar adverse effects.

Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

None.

Item 3. DEFAULTS UPON SENIOR SECURITIES.

None.

Item 4. (REMOVED AND RESERVED).

Item 5. OTHER INFORMATION.

None.

Item 6. EXHIBITS.

Exhibit
Number			Description of Exhibits
	3.1	—	Amended Articles of Incorporation of the Registrant (incorporated by reference to Exhibit 3.1 to the Registrant’s Annual Report on Form 10-K, filed on April 15, 2010)

	3.2	—	Amended and Restated Bylaws of the Registrant (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K filed December 15, 2008)

	10.1	—	Employment agreement, dated as of September 14, 2010, among Krispy Kreme Doughnuts, Inc., Krispy Kreme Doughnut Corporation and G. Dwayne Chambers

	31.1	—	Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended

	31.2	—	Certification of Chief Financial Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended

	32.1	—	Certification by Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

	32.2	—	Certification by Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	Krispy Kreme Doughnuts, Inc.


Date: December 1, 2010	By:	/s/ Douglas R. Muir
	Name:	Douglas R. Muir
	Title:	Chief Financial Officer
		(Duly Authorized Officer and Principal Financial Officer)