Is Starbucks Wasting Your Money?

Stock buybacks are generally considered a bullish signal on Wall Street. They return capital to shareholders, while declaring management's belief that its own cheap shares are its best return on investment. As long as profits remain consistent, share repurchases can even increase earnings per share, by dividing the same amount of earnings among a smaller pool of shares outstanding.

But don't forget -- a company isn't obligated to repurchase shares just because it announced its intention to do so. So don't use the announcement as a reason to buy by itself, rather use it as a launching pad for additional research.

Boiling over
People aren't about to stop going to their local Starbucks (Nasdaq: SBUX  ) or their corner coffee shop because of the home brewing phenomenon, but to deny that Green Mountain Coffee Roasters (Nasdaq: GMCR  ) , despite all its faults (and they are legion), isn't having an impact is to ignore the obvious.

With the expiration of the Keurig maker's patents, there are now a flood of similar, less expensive machines on the market from rivals like Kraft (Nasdaq: KRFT  ) , with cheaper, generic pods hitting the shelf from grocery chains like Kroger (NYSE: KR  ) and SUPERVALU (NYSE: SVU  ) and specialty food makers such as TreeHouse Foods (NYSE: THS  ) . All of this is going to bring the phenomenon to even more people.

That's likely Starbucks and even Dunkin Brands (Nasdaq: DNKN  ) signed agreements with Green Mountain to package their coffee in pods for them, and why Starbucks has introduced its own brew machine. There is a simmering movement that they can still profit from indirectly.

Fourth-quarter channel development sales for Starbucks, which includes its packaged coffees, rose 32% to $319 million from the year-ago period while full-year 2012 sales surged 50%. It said Green Mountain's sales of K-Cup pods were directly responsible for that growth.

Still business is good in general for the coffee shop overall revenues were up 11% and Starbucks announced an expansion of its stock buyback program by purchasing up to 25 million shares. That's in addition to the 12 million or so shares still remaining on its existing repurchase program, which at current prices would equate to more than $1 billion, a significant attempt at returning value to shareholders.

Going vertical
Starbucks has also sought to capitalize on the growing tea-drinking trend by snapping up Teavana (NYSE: TEA  ) in a $620 million deal. Considering its own line of Tazo tea, it's a complementary acquisition that ought to fit in well. The cultures are undoubtedly similar between the two companies as Teavana was trying to recreate the Starbucks experience in its teahouses and tea drinking is growing in popularity.

Americans are still by and large coffee drinkers, consuming 146 billion cups of joe every year, but U.S. tea sales are forecast to hit $15 billion this year. Yet tea drinkers down just a third of that amount, and most of that is iced tea. So as much as Teavana wants to expand the number of sippers out there, it has an uphill battle.

Growth rates in its tea sales are slowing. Revenues are up 33% over the last 12 months, but 2011 saw a 35% increase in sales, which was actually below the 38% growth rate it recorded in 2010 and the 41% growth it enjoyed in 2009. Coffee houses don't have to worry about the U.S. adopting a 4 o'clock tea time like London, but like the home brew movement, it does chip away incrementally at sales. So Starbucks once again is playing it smart by playing all sides of the field.

One lump or two?
At less than 19 times earnings estimates, Starbucks may not seem particularly overvalued, and it does produce copious amounts of free cash flow -- almost $900 million as of last quarter -- but the coffee shop's enterprise value trades at 38 times that cash, making its $48 share price seem a bit, well, pricey. Still that's in the realm of the industry where Dunkin Donuts' parent goes off at almost 20 times earnings and sports an EV-FCF ratio of 37. Green Mountain, by contrast, trades at less than 10 times estimates, but is burning through cash.

I'll admit to never having been enamored of Starbucks' coffee or its stock, but the latter might be worth a gamble, here, as it brings all these trends under one roof, so I'll make a CAPScall and rate it to outperform the broad market indexes on Motley Fool CAPS, the 180,000 member-driven investor community where informed opinion translates into stock ratings of one to five stars. I'm holding myself accountable for the bullish sentiments expressed here that over the long haul, I think Starbucks' shares will appreciate in value, so any buybacks it makes now will eventually be a good deal, let me know in the comments section below if you think Starbucks shares will perk up over time.

Buy back the future
With Green Mountain as cheap as it's ever been, many investors are wondering whether this is the end of the former market darling, or the perfect entry point for an enormous rebound. You can find our recommendation for how to play the company in the Motley Fool's new premium research report. In it, you'll find everything you need to know about Green Mountain, including whether it's a buy at today's prices. Click here for instant access.

 


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  • Report this Comment On November 19, 2012, at 4:43 PM, LQM2 wrote:

    Perhaps MF is wasting its money since the option position in GMCR disclosed at the end of this article lost 40-50% today.

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