Green Mountain: Too Hot to Touch

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Another day, another coffee stock kicking derriere. Two days ago it was Dunkin' Brands (Nasdaq: DNKN  ) ; today it's Green Mountain Coffee Roasters (Nasdaq: GMCR  ) , on the heels of a new earnings report. Who would have thought 10 years ago that the next big thing wouldn't be Sun's Java, but regular old java? And when Bill Schultheis wrote The Coffeehouse Investor back in 2005, I don't think this is quite what he meant.

So what was so great about Green Mountain's earnings?

Triple-digit growth all around
Green Mountain's net income grew a staggering 206% from last year's third quarter, on the back of a sales increase of 127%. Earnings per share went from $0.13 per diluted share to $0.37. Positive chatter by Wall Street analysts and a forecast of 100% year-over-year sales growth for next quarter added to the fun

Any time a company almost triples its EPS, the stock is bound to see some action. Green Mountain didn't disappoint; its share price rose 16% on Thursday.

Any downside?
Notice that while earnings tripled, the stock price went up 17%, not 200%. That's because Green Mountain's share price already reflected most of that fantastic growth. Believe me, if Starbucks (Nasdaq: SBUX  ) suddenly tripled its profits, its stock would move much more than 20%. (When net income did nearly triple for Starbucks in 2010, the stock itself had already tripled from its 2009 low). Since investors have relatively low expectations for Starbucks, any improvements there would come as a big surprise.

In contrast, so much of Green Mountain's $100 price tag and 129 P/E is already built on expectations of aggressive future growth that there's little left to surprise investors. And if Green Mountain doesn't continue to meet or beat those expectations, the stock will be severely punished.

Compounding my worry, I note that Green Mountain has never had a year of positive free cash flow since 2007. And I look more heavily to free cash flow than I do to reported earnings (or dividends).

Therefore I recommend that aggressive growth investors look to SodaStream (Nasdaq: SODA  ) , Starbucks, and Dunkin' Brands instead.

SodaStream has a lower P/E and P/S, and a large growth opportunity in our soda-guzzling country. Dunkin' Brands has the steadiness and operating leverage of an established franchise, with a much lower P/E than Green Mountain. And Starbucks still continues to crush the market with surprising growth.

Green Mountain may continue to outperform, but I think you can find a better trade-off between risk and reward elsewhere.

The Motley Fool owns shares of Starbucks. Motley Fool newsletter services have variously recommended buying shares of Starbucks, SodaStream, and Green Mountain; creating a lurking gator position in Green Mountain; and shorting Green Mountain. Try any of our Foolish newsletter services free for 30 days.

Fool contributor Chris Baines loves coffee but loves value investing even more. Follow him on Twitter @askchrisbaines. Chris's stock picks and pans have outperformed 89% of players on CAPS. Chris owns no shares of the companies mentioned. We Fools may not 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.

Read/Post Comments (6) | Recommend This Article (3)

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 July 29, 2011, at 11:36 AM, spinner213 wrote:

    Chris- How can someone at Motley Fool trash soda stream yest. and then recommend it today?

  • Report this Comment On July 29, 2011, at 12:07 PM, emphature wrote:

    Read the comments from yesterday's (laughable) article and you will see that it was garbage...written by someone who took all of 2 minutes or less to assess SodaStream based on a Yahoo Headline.

  • Report this Comment On July 29, 2011, at 1:32 PM, GundersonGroup wrote:

    I thought you looked more heavily to free cash flow? And you just recommended Sodastream? Do you guys engage your grey matter at all when you write this garbage?

  • Report this Comment On July 29, 2011, at 11:26 PM, cbaines2 wrote:


    SodaStream generated free cash flow in 2008 and 2009. I've inclined to think 2010's result was an aberration and not the rule. We shall see.

    Thanks for reading,

    Chris Baines

  • Report this Comment On July 29, 2011, at 11:30 PM, cbaines2 wrote:

    spinner...I have not read the other SODA article yet, but each of the different writers here have their own opinion. There is no official "Motley Fool" viewpoint, just different writers and analysts.

    Thanks for reading,

    Chris Baines

  • Report this Comment On August 01, 2011, at 10:44 AM, David369 wrote:

    The thing about growth stocks is that they almost always crest like a wave at some point. I keep expecting GMCR to crest but dang if it doesn't keep growing. Of course, the day after I invest in it THEN it would crash. Those of you getting rich can thank me for keeping out of it...

    Soda does look promising. I figure it will be another GMCR if it does half as well as it has done in Europe.

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