Is a Starbucks Shakeup Brewing?

As I said over breakfast this morning, Starbucks (Nasdaq: SBUX  ) poured investors a pretty uninspiring quarterly earnings report following the coffee giant's recent warning. But however much Starbucks' problems seem centered around slower consumer spending, it's interesting to note that roasting rival Green Mountain Coffee Roasters (Nasdaq: GMCR  ) seems to be having no such problems.

Starbucks' net income dropped 28% to $108.7 million, or $0.15 per share. Revenue increased 12% to $2.5 billion. In another obvious development, Starbucks said the lower-than-expected revenue was driven by a mid-single-digit decline in comps, which owed to decreased traffic.

To many observers' relief, Starbucks plans to sharply decrease its U.S. store openings. Investors often feared that new Starbucks stores would cannibalize older ones, and while those worries previously seemed unfounded, they now appear to be a real issue at last. Shareholders may also be glad that Starbucks is more sharply decreasing its targets for opening licensed locations, a move many feared could tarnish the Starbucks brand.

An energetic future?
In the conference call, Howard Schultz discussed lots of strategies, many of which involve getting back to basics. The much-discussed Clover coffee-brewing machine is designed to help Starbucks acquire the same reputation for brewed coffee as it has for espresso. In related news, the company said the Pike Place roast is showing preliminary positive signs.

The company will not only expand Clover into 80 stores in Seattle, San Francisco, and Boston by the end of this calendar year, but also install an espresso machine called the Mastrena in many of its stores.

If you thought the new smoothie idea was a little off-base, I found Starbucks' announcement of a new energy drink in its pipeline even stranger. Starbucks plans to use its DoubleShot platform -- part of its joint venture with Pepsi (NYSE: PEP  ) -- to launch the new beverage, though supermarket shelves seem already crammed with similar contenders these days.

Running the numbers
In addition to its latest earnings, Starbucks offered up guidance for the next several years. In 2008, earnings will come in lower than the $0.87 per share in earnings Starbucks reported last year. Here are its near-term earnings expectations:

  • 2009: $0.90 per share to $1.00 per share
  • 2010: $1.10 per share to $1.20 per share
  • 2011: $1.35 per share to $1.50 per share

It also expects to generate $2 billion in cumulative free cash flow from 2009 through 2011, as it ratchets down capital expenditures to $800 million per year. Those of you hoping the company would use its spare cash for a dividend will have to wait; Starbucks plans to continue reinvesting in its business and repurchasing its shares instead.

Trading places?
It will be interesting to see how the ugly consumer spending environment that Starbucks cites extends to rivals Peet's (Nasdaq: PEET  ) and Caribou (Nasdaq: CBOU  ) . (Schultz reiterated his belief that Starbucks' diminishing traffic doesn't stem from alternatives such as McDonald's (NYSE: MCD  ) luring away its patrons.) However, at least one competitor seems to be taking the current economic climate in stride.  

Green Mountain Coffee Roasters and Starbucks aren't exactly an apples-to-apples comparison. Although Starbucks also sells beans, its role as an actual coffee store operator is a major distinction.

However, a quick glance at Green Mountain today intriguingly shows a company that continues to fire on all cylinders. Revenue grew an impressive 46% to $120.9 million. Net income surged 89% to $6.0 million, or $0.23 per share.

Most interesting of all, perhaps, Green Mountain's top-line growth was driven by sales of its Keurig Single-Cup brewers and its K-Cup portion packs. I've often fielded emails from Green Mountain fans who pointed out the convenience of Green Mountain's one-cup home brewers, which allow people to make fresh single cups of coffee with their choice of a variety of different blends. (I tried its single-cup system on a trip to Maine, and I must admit that Green Mountain's coffee was very good.) 

We'll see whether Green Mountain can keep up this pace. Also, note its price-to-earnings ratio of 67. Pricey, sure ... but doesn't it remind you of a certain omnipresent, mermaid-emblazoned rival?

I'm still optimistic about Starbucks, and feel it's a bargain for long-term investors. While I am leery of Green Mountain's high multiples, especially in an economic slowdown, I have to give it credit for its recent success. It may gain a lot of ground by capitalizing on consumers' desire to "nest" at home. However grim the economy may get, the right strategies can still help some companies benefit.

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