Could It Be Time to Sell This Coffee Stock?

Between the hours of 6 a.m. and 4 p.m., all I drink is coffee. I don't know if I'd call myself a connoisseur, but living in Seattle, I feel blessed with vast amounts of coffee knowledge almost through osmosis. Not surprisingly, coffee stocks are one of my favorite sectors to follow because it contains companies I can easily understand and get a taste for (insert laughter here).

All joking aside though, not every coffee stock is the right flavor for investors. Last year both I and Foolish colleague Rick Munarriz warned about the dangers of Jammin Java, a company with no revenue that had amassed a $400 million valuation. The stock wound up being ground into bits shortly thereafter.

That leads me to Caribou Coffee (Nasdaq: CBOU  ) , which reported its fourth-quarter results after the bell last night.

The company, which owns coffeehouses but also has commercial partnerships to sell its coffee, reported sales growth of 19% for the quarter and a 5.6% rise in same-store sales. Profit for the quarter came in at $0.14 -- edging out Wall Street's estimate by $0.01 -- and was helped out by a 69% rise in commercial and enterprise sales derived largely from its K-Cup partnership with Green Mountain Coffee Roasters (Nasdaq: GMCR  ) . For fiscal 2012, Caribou forecast net sales growth of 10%, same-store sales growth of 2% to 4%, and EPS in the range of $0.48 to $0.51.

Not too bad, right? Not so fast...

Consider first that, despite the rapid growth of its commercial and franchise sales, these are lower-margin, higher-cost business segments. In the fourth quarter, cost of sales and occupancy-related costs rose 36% (nearly double the sales growth). Operating expenses also increased by 6%, although they lessened as a percentage of revenue. If rising costs continue to outpace growth, Caribou could run into serious problems.

Without question, higher coffee prices played a part in Caribou's shrinking margins. We've seen nearly every company in the sector affected by higher prices. Starbucks (Nasdaq: SBUX  ) in early January was forced to raise prices in certain regions due to rising coffee prices. Similarly, Peet's Coffee & Tea (Nasdaq: PEET  ) has needed to raise its prices to counter soaring coffee costs.

Finally, comparing Caribou's valuation to some of its peers, I just don't see how buying the stock here would make sense. The company's implied same-store sales growth is in the range of 15% to 57% below what it grew in 2011, and its predicted EPS range implied a forward P/E of 34 to 37. There just isn't enough growth or cost control to support this type of valuation. Starbucks has a lower forward multiple and a faster projected growth rate in 2012 than Caribou -- and pays a dividend to top it off. Even Peet's, which is by no means cheap, is forecast to grow at the same pace as Caribou but trades at only 30 times forward earnings.

Investors should tread lightly around Caribou's lofty valuation; otherwise they may wind up with a case of heartburn. I've already made my CAPScall of underperform on Caribou. Would you do the same?

Share your call with your fellow Fools in the comments section below and consider adding Caribou Coffee to your free and personalized Watchlist.

If coffee isn't your thing, then perhaps you'd be interested in finding out which stock our analysts are fancying the most in 2012. The good news is you can do so for free, but only for a limited time. Get your copy of "The Motley Fool's Top Stocks for 2012" today!

Fool contributor Sean Williams has no material interest in any companies mentioned in this article. He has been ordering the same drink at Starbucks for 16 years. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.

The Motley Fool owns shares of Starbucks. Motley Fool newsletter services have recommended buying shares of Starbucks and Green Mountain Coffee Roasters, as well as writing covered calls in Starbucks and creating a lurking gator position in Green Mountain Coffee Roasters. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy that never needs caffeine.

Read/Post Comments (4) | Recommend This Article (5)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 23, 2012, at 12:33 PM, EnigmaDude wrote:

    There just isn't enough growth...

    Really? With $40M in cash and no debt the company plans to open as many as 70 new coffeehouses this year.

    They are also expecting sales to grow 2-4 percent at coffeehouses open at least one year. Not Starbucks level of growth perhaps, but pretty darn good for a small company that makes better tasting coffee (in my opinion).

  • Report this Comment On February 23, 2012, at 2:43 PM, Maiestas wrote:

    Cbou has plenty of room for growth, but lack a genuine emotional connection with their cosumers, thereby not developing an enormous loyal consumer base as Starbucks has and continues to do. They lack the aggressive advertising and continuous product/ drink and now food innovation of Sbux. I would take a small position in Cbou merely to cover my bases in terms of the North America coffee market. And why do I continue to add to my SBux holdings? insatiable management with Howard Schultz, solid 5 year growth rate of about 7%, 5 stock splits and a growing dividend.

  • Report this Comment On February 24, 2012, at 9:54 AM, pennyfortune wrote:

    Set up a short and then publish an article dissing the company? The market reacts with lightening speed on any bad news. Is this ethical?

  • Report this Comment On February 24, 2012, at 10:57 AM, RScottK26 wrote:

    Great article, and dead-on. I bought CBOU at 9-10 and sold around 16. Thier overall growth looks good on paper, and with zero debt and tons of expansion room, you would think this would be a great buy. But as this article points out, their growth is being driven by very low margin business. The stores should be the source of their profits, but they are only projecting same store sales growth of 2-4%?? And people think this is good?? Yuk. CBOU does have better beans (craft-roasted ya know) but their drinks are consistently inferior to SBUX. I grew up in MN, so my heart wants them to compete well with, and be the better brand than, SBUX. But they simply are not. I would happily re-buy CBOU back at 11 or 12, but I have 16-17 as fully valued. If you want to make some money in coffee and pastries, check out the KKD turnaround. I've been in that since the high 6's, but it has a lot of room to run over the next 2 years.

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