Starbucks' (NASDAQ:SBUX) core input -- coffee beans, of course -- might get notably more expensive soon.
A group of nine commodities analysts and traders recently polled by Reuters believe that the price of arabica beans will rise by nearly 25% above current levels by the end of this year. That's a scary prospect for Starbucks' profitability, eh? Well, actually...
The anticipated price rise isn't due to some scary one-off factor. Rather, it's related to the fact that the coffee market is coming off a bulge in supply last year from Brazil, a major arabica producer, which drove down prices. Reports that this year's crop would be less bountiful have contributed to a recent price increase.
Over the years, the price for arabica has swung around considerably. This is why Starbucks hedges its coffee purchases. These arrangements totaled nearly $1.2 billion as of the end of fiscal 2018, and Starbucks said that they were "expected to provide an adequate supply of green [i.e., unroasted] coffee through fiscal 2019." So basically, we can take these as the current annual coffee purchase expenditures for the company.
This makes for a revealing detail about Starbucks' relationship with its core commodity: The cost of beans forms only a small percentage of its overall costs. Poured into the big cup of fiscal 2018's total operating expenses (over $21 billion), that $1.2 billion is barely the foam in your cappuccino.
Check out the latest Starbucks earnings call transcript.
But that isn't so surprising. Starbucks has a massive brick-and-mortar footprint throughout the world. Physical stores are costly to build, maintain, furnish, supply, and staff. On top of that, coffee is not the only commodity the company has to buy. Its shopping list includes copious amounts of goods like milk and sugar, too.
All of the above helps explain why Starbucks' key metrics correlate weakly, at best, to the arabica coffee price.
Dunkin' does it, too
For the sake of comparison, let's see how these correlations play out with another big American java slinger, Dunkin' Brands (NASDAQ:DNKN).
Like Starbucks, Dunkin' (through the third-party supplier it uses) is an active hedger of coffee purchases. I'll compress the line items above for the sake of space, but you can still see the dynamic with Dunkin'. For reasons similar to those of its rival, none of the three chosen metrics correlates much to the development of the coffee price.
Turning back to Starbucks, on the revenue side, the company has a well-recognized brand name and a big global presence. So it has numerous levers it can pull to improve its top line, not to mention profitability.
One of its tried-and-true techniques is to simply open more stores; those in hot markets can bring in a rush of revenue for a sustained period of time if managed right. Another is price increases, since it's essentially selling a premium product and the experience of drinking it. Such an offering tends to be price-inelastic, as the economists say, meaning you and I will probably continue to pay what the company feels like charging for it.
Ultimately, then, Starbucks isn't subject to coffee-price movements as much as a small buyer of the commodity might be. So unless said price really moves around violently -- and there's little reason to think it will -- investors shouldn't worry about the expected boost in the bean's cost.