Starbucks' Stirring Quarter

Let the good times roll! At least, that's what the market seems to think when it comes to Starbucks (Nasdaq: SBUX  ) . The company reported what it described as a solid quarter, but there are still some elements that deserve recognition and pondering.

To see the full rundown of the quarter, check out our related Fool by Numbers, but here's a quick review of the major points. Starbucks' first-quarter earnings climbed 18% to $205 million, or $0.26 per share. Revenues increased 22% to $2.4 billion. Same-store sales increased 6% -- which, granted, is at the high end of the company's long-term target for comps growth between 3% and 7%, and of course doesn't exceed it. The comps growth included a 4% increase in the number of transactions and a 2% increase in the average value of transactions, and sales growth was helped along by the large number of Starbucks outlets that were opened during the quarter (that's 728, to be exact, or a little more than eight per day).

The quarter included the all-important holiday season, which Starbucks really excels at, given its red cups and festive atmosphere -- not to mention the expanding array of gift choices it's been stocking in its stores. That also brings to mind the fact that Starbucks gift cards were a hot item. Indeed, Starbucks said it experienced a record number of activations in the quarter, up 30% at $287 million.

On the other hand, what should also jump out at us is that costs did rise. Starbucks' margins decreased across the board (and Starbucks did warn last quarter that margins in 2007 would be flat). Starbucks attributed increased costs to higher rent expenses, a shift in sales to higher-cost products, increased distribution costs, and raises for hourly employees. Also, management noted in the conference call that while its increasing food offerings represent lower-margin sales than beverages, that's somewhat mitigated by the fact that food sales represent higher operating margin.

The last half of last year heralded some bearishness on Starbucks, and of course there are always competitive concerns that rivals like McDonald's (NYSE: MCD  ) , Caribou (Nasdaq: CBOU  ) , or Dunkin' Donuts might start wooing Starbucks' loyal customers. I'm not sure I'd go that far, but Starbucks' growth does rely not only on its loyal repeat customers but also on pulling more customers in, and there are challenges inherent in developments like McDonald's deal to supply coffee from Green Mountain Coffee Roasters (Nasdaq: GMCR  ) , for example.

I'm a Starbucks shareholder, so it's not like I'm complaining that the shares didn't get slammed today on the rising costs (although the price has since given back earlier gains). Of course, the first quarter of last year was a pretty tough act to follow, and as I said before, we already knew to expect some margin pressure this year. And I also can't complain if some of the rising costs are attributed to raises for Starbucks' hard-working employees. For goodness' sake, they have to know how to make something like tens of thousands of different drink combinations, the idea of which always floors me. I'd rather see them happy and well-paid, since they are a big component of Starbucks' success as the company's public face. Some might disagree with me, but I interpret wage increases as a good long-term investment as opposed to simply pushing short-term profit.

Of course, I would be remiss to ignore the fact that there are plenty of elements to watch as Starbucks not only continues to grow its store base, but also delves into offering many more products beyond its signature coffee, some of which may not be nearly as profitable. Watching 2007 unfold for Starbucks should be interesting indeed.

Pour yourself some related Foolishness right here:

Starbucks is a Motley Fool Stock Advisor recommendation. To find out what other companies David and Tom Gardner have recommended to subscribers, click here for a 30-day free trial.

Alyce Lomax owns shares of Starbucks. The Fool has a disclosure policy.


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