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Crumbs: The $66 Million Cupcake Empire

Daniel Gross

The cupcakes produced by Crumbs are rich. Now they are about to make their founders rich, too.

In January, Crumbs, the chain founded in 2003 as a single store on New York's Upper West Side, agreed to be acquired by a public special-purpose company, 57th St. General Acquisition Corp. The price: about $66 million, including $27 million in cash and $39 million in stock. Once the transaction closes later this month, the shares of Crumbs Bake Shop will trade on the NASDAQ. So, as we note in the accompanying video, you'll be able to take $10 and buy a few 500-calorie Crumbs cupcakes, or a share in the company.

The rapid growth of the sector has raised eyebrows. Crumbs has expanded to 35 locations. Sprinkles, which bills itself as the first cupcake bakery, has expanded from its base in Beverly Hills to 11 locations. Magnolia Bakery, made famous in Sex and the City, has six outlets. Throw a rock in a downtown shopping district, and you'll break a window at a cute cupcake joint. The trend has even spawned a reality show. Some astute observers (OK, me), have warned about the potential for a cupcake bubble.

But Jason and Mia Bauer, the husband and wife team behind Crumbs, believe the trend has staying power. And they plan to use the cash to fund expansion beyond the New York and Los Angeles regions, where most Crumbs stores are located, to areas such as Dallas, Atlanta and Denver. The goal: 200 stores by 2014.

The story of Crumbs is a love story, and not just between urbanites and fattening confections. Jason, who had worked in his family's beverage business and owned his own company, and Mia, a lawyer who loved baking, decided to open their first bakery when they were still dating. When Crumbs Bake Shop opened on the Upper West Side of Manhattan, in 2003, the three varieties of cupcakes were just a few of the 150 items on offer.

When the cupcakes began selling like hotcakes, Mia began rolling out cupcakes with different toppings, stuffings and decorations. The couple also realized that their customer base was much larger than the moms-with-strollers crowd they had first envisioned. Cubicle slaves liked their cupcakes, too, and tended to buy them in bulk to share with coworkers. The average transaction at Crumbs is $18-$20, larger than the typical bill at a Chipotle outlet, says Jason Bauer, co-founder and CEO of the company.

The cupcake boom may seem counterintuitive in these health-conscious, penny-pinching times. But just as the housing bubble was popping and consumers were reining in purchases, cupcakes surfaced as nostalgic, sugar-packed, affordable luxuries. Instead of a $200 dinner, parents could treat their family to a half-dozen cupcakes for $20 -- "and the kids were just as happy," says Jason Bauer. What's more, the carnage in the retail sector allowed Crumbs to snap up prime storefronts on the cheap. And so Crumbs opened shops in high-income, densely-populated areas: Manhattan, the New Jersey and Connecticut suburbs, Los Angeles. Now it plans to go national.

By concluding a transaction that will effectively take it public, Crumbs will subject itself to a higher level of scrutiny. After all, many hot food concepts leave investors with, well, crumbs. For each Chipotle, which is a publicly traded firm worth $8.5 billion, there's a Sbarro, which just filed for bankruptcy. Crumbs' investors want to know whether it can grow into the next Starbucks and whether it can avoid the fate of Krispy Kreme.

About a decade ago, Krispy Kreme stormed into New York from its rural, southern base, landed on the cover of Fortune, sold franchises and opened stores with abandon, and made the donuts available in convenience and grocery stores — and then collapsed dramatically. For the Bauers, Krispy Kreme offers a lesson in what not to do. "We won't do franchising, and we don't do licensing," said Jason Bauer. "When you started to see Krispy Kreme donuts in your gas station, to me that was the end." For now and for the foreseeable future, the only place to buy Crumbs cupcakes will be at company-owned stores, on Crumbs.com and at a couple of select outlets in New York (such as Zabar's).

Of course the food business is a fickle one. But Crumbs is putting up impressive numbers. Sales last year were $31 million, up 33 percent from 2009, and up nearly six-fold from $5.3 million in 2007. The typical store does sales of $1.1 million and has operating income of $231,000. Crumbs runs a tight bake shop. It eschews advertising, and its primary marketing strategy is to give away free cupcakes when it opens a new store. Since it contracts out production, new outlets don't have to be equipped with expensive baking equipment. Keeping opening costs low -- about $300,000 per store -- has allowed Crumbs to expand without taking on debt.

Having made it in New York, Crumbs is seeking places with lots of daytime population, density and foot-traffic -- "urban markets, big buildings with lots of people working all day long," as Jason Bauer put it. This year Crumbs plans to open 14-16 stores in existing markets, including one on 125th St. in Harlem, and one in Washington, D.C.'s Union Station. Next year it plans to open more than three dozen in entirely new markets such as Atlanta, Dallas, Denver, San Francisco and Seattle.

Chains often run into trouble when they try to alter the original recipe. Starbucks' ill-fated move to boost revenues by stuffing egg-sausage-muffins in its counters turned off many devotees. But Jason and Mia Bauer, who holds the title of chief creative officer, don't foresee significant changes: as slide #11 in this presentation shows, cupcakes account for 78 percent of revenues, while beverages account for 9 percent. The company is comfortable with the mix. "Our goal, ultimately, is to not change everything," said Jason Bauer. "We're not looking to add soups or salads."

But what if we're in the middle of a cupcake bubble? Cupcakes have been around for decades and are part of America's dessert culture. Says Jason Bauer: "If you can convince me that someone is going to stop eating a cookie, then I can understand why they are going to stop eating a cupcake." Bauer believes that cupcakes are essentially taking market share from cake.

The ultimate answer to those concerned about a bubble lies in the numbers. For the past eight years, Crumbs' comparable-store sales have on average grown by double-digits annually. And while the cupcake industry has boomed from just a few stores several years ago to between 400 and 500 today, Bauer believes many of them will close. "There are a lot of great bakers out there with great recipes, but it takes more than a great recipe," he says. "You need to make payroll in January when there are five feet of snow on the ground...Ultimately, a lot of the mom and pops will close down and ones like us will be here for the long term."

If that's true, then the Bauers will own a big chunk of a large company that has a liquid stock. They'll be able to have their cupcakes and eat them, too.

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