Starbucks Corporation

Starbucks Cor por ation

Financial Analysis

Starbucks Corporation Background

Founded 1971 in Pike Place Market Corporation formed in 1985; went public in 1992 Original Name: Starbucks Coffee, Tea and Spices Named after first mate in Moby Dick; logo is a mermaid The largest specialty coffee company in the world; total assets = $5.3B as of March 2009  CEO: Howard Schultz • Joins in 1982 as Director of Retail Operations & Marketing • Notices the popularity of espresso bars while visiting Milan, Italy and sees potential to develop in Seattle     

Starbucks Corporation Industry

 Specialty coffee – • A small, distinct niche • Revolves around specialty coffees and teas, whole coffee beans and coffee-making equipment and accessories  Also part of larger restaurant industry that serves fast or ready to eat foods

Starbucks Corporation Markets Served

 U.S. and international through 3 segments: ­ U.S: 76% of Starbucks’ 2008 net revenues ­ International: 20% of 2008 net revenues ­ Global Consumer Products Group: 4% of net revs  Over 11,000 U.S. stores; also in 30 countries around the globe

Number of Stores by Region – Mar 2009 Region/ Country

No. of Stores

United States Asia Europe Canada Middle East Cent/ So. America Austr/ New Zealand

11,446 2,369 1,183 1,016 413 370 65

Total

16,862

Starbucks Corporation Primary Products

 Coffee - more than 30 blends and single-origin coffees; also owns Seattle’s Best Coffee and Torrefazione Italia Coffee  Beverages to Order – hot and cold espresso beverages, Tazo teas  Merchandise – home brewing machines, grinders, mugs, gift items, a line of premium chocolate, etc.  Fresh food – ready to eat sandwiches, salads, pastries, juices  Entertainment – selections of music, books and films under the Starbucks label  Global Consumer Products – line of bottled Starbucks drinks, premium ice cream, Tazo tea all sold through supermarkets

Starbucks Corporation

Major Competitors - Coffee  Other specialty coffee stores and chains: • Caribou Coffee, Minneapolis, MN – 2nd largest by number of stores • Green Mountain Coffee Roasters, Inc, Waterbury, VT 2nd largest by assets (acquired Tully’s Coffee in 2009; also owns Newman’s Own brand) • Peet’s Coffee and Tea, Inc. – Emeryville, CA • Diedrich Coffee, Inc. – Irvine, CA (Gloria Jean brand) • Farmer Brothers Company – Torrance, CA • Other smaller and/or privately held companies  Top 5 combined are less than $1B in assets

Starbucks Corporation Major Competitors Restaurants

 Quick-service restaurants – top 5 competitors: • McDonald’s Corporation – the largest at $28B • Others are close to Starbucks’ size: ­ Yum! Brands Restaurants (KFC, Pizza Hut, Taco Bell) ­ Darden Restaurants (Red Lobster, Olive Garden, etc) ­ Brinker International, Inc (Chili’s, On the Border, etc) ­ Jack in the Box, Inc. • Other smaller/privately held quick service restaurants (Burger King, Dunkin Donuts, etc)  Largest have considerable corporate resources to rely on

Starbucks Corporation Overall Strategic Plan

 Goal: to become one of the most recognized and respected brands in the world by: • Selling the finest coffee and related products • Culturing customer loyalty by providing customers with the unique “Starbucks Experience” of a “third place” to gather, outside of home or work • Increase market share by:

­ selectively opening new stores in new and existing markets ­ growing the specialty operations ­ selectively pursuing other new products & distribution channels

 Short term goal: cut costs by closing underperforming stores  Global Responsibility Strategy and commitment to environmental responsibility integral to overall strategy • Ethically sourcing and roasting coffee • Reducing environmental impacts • Contributing positively to sourcing & other communities

Starbucks Corporation

FINANCIAL ANALYSIS: Part 1 Profitability

Starbucks Corporation Gross Profits

Gross Profit Margin 30% 25% 20% 1 5% 1 0% 5% 0% 2001

2002

Starbucks

2003

2004

2005

Competitor Avg

2006

2007

2008

1st H 09

Coffee Co Avg

 Major quick-service restaurants maintaining margins as sales remain strong in a weak economy  Top 5 coffee company group – much lower margins due to lack of economies of scale, purchasing power and limited market size

Starbucks Corporation Changes in Revenues Change in Revenues

35% 30% 25% 20% 1 5% 1 0% 5% 0% -5%

2001

2002

2003

2004

2005

2006

2007

2008

1stH09Ann

-1 0% Starbucks

Competitor Avg

Coffee Co Avg

 Starbucks’ revenues being impacted by: ­ Customer “downgrades” to cheaper beverages ­ Customers making coffee at home ­ Fewer customer visits  Major quick-service restaurants benefiting from downgraders  Small coffee companies seeing a slow decline, but benefit from customer loyalty to a local brand even in a downturn

Starbucks Corporation Operating Expenses Operating Expense/Total Revenues

55% 50% 45% 40% 35% 30% 25% 20% 1 5% 1 0% 2001 Starbucks

2002

2003

2004

SBUX - Excl Restructuring Chgs

2005

2006

2007

Competitor Avg

2008

1stH09Ann

Coffee Co Avg

 Size matters! Larger competitors gain economies of scale and spread fixed operating expenses over a much larger asset base than small coffee company competitors

Starbucks Corporation

Components of Op Expense Components of Operating Expense/AA

60% 50% 40% 30% 20% 1 0% 0% Starbucks

Selling/Gen/Admin

MajorCompetitors Depreciation

CoffeeCoCompetitors Other

 Larger competitors can spread fixed overhead over a much larger asset base than small coffee company competitors  Depreciation expense significant for Starbucks since SBUX owns the majority of its stores, unlike large competitors

Starbucks Corporation

Return on Common Equity Return on Common Stockholders' Equity

40% 35% 30% 25% 20% 1 5% 1 0% 5% 0% -5%

2001

Starbucks

2002

2003

2004

SBUX Excl Restructuring Charges

2005

2006

Competitor Avg

2007

2008

1stH09Ann

Coffee Co Avg

 Restructuring charges have strong impact on Starbucks’ earnings  Coffee company competitors have limited markets sources of net income and a more limited market for their stock  Quick-service restaurants still show strong results as customers trade down  Starbucks’ equity has increased 20% in the last 6 years, with a 4% decline for major restaurant competitors - most of whom pay dividends & have purchased Treasury stock during that period

Starbucks Corporation Net Profit Margin

Net Profit Margin

14% 12% 10% 8% 6% 4% 2% 0% -2%

2001 Starbucks

2002

2003

2004

2005

SBUX - Excl Restructuring Chgs

2006

2007

Competitor Avg

2008

1stH09 Ann

Coffee Co Avg

 Similar pattern as ROCE and ROA  3 of the top 5 coffee company competitors posted net losses in 2008

Starbucks Corporation Asset Turnover

Asset Turnover 2.2 2.0 1 .8 1 .6 1 .4 1 .2 1 .0 0.8 0.6 2001

2002 Starbucks

2003

2004

2005

Competitor Avg

2006

2007

2008

1stH09Ann

Coffee Co Avg

 SBUX earns $1.60 - $2.00 for each dollar in assets  Trending down but still well above both peer groups  Peer groups trending up  Small coffee companies could overtake SBUX  SBUX downsizing may stave off small coffee companies

Starbucks Corporation Quality of Earnings Net Operating Income/EBIT 1 50% 1 25% 1 00% 75% 50% 25% 0% -25%

2001

2002

2003

2004

2005

2006

2007

2008

-50%

1stH09 Ann

(227%)

-75% Starbucks

Competitor Avg

Coffee Co Avg

 SBUX net op inc/EBIT has declined slightly but remains in a narrow range  Major competitors’ earnings come from operating sources  Coffee companies have been unprofitable the last 2 years, due to poor quality operating earnings

Starbucks Corporation

Median Earnings Per Share Median Earnings Per Share

$2.50 $2.00 $1 .50 $1 .00 $0.50 $0.00 -$0.50

2001

2002

2003

2004

2005

2006

2007

2008

1stH09 Ann

-$1 .00 Starbucks

SBUX Excl Restructuring Chg - Est

Competitor Avg

Coffee Co Avg

 Larger competitors’ EPS strong and increasing  SBUX EPS influenced mostly by restructuring charges

Starbucks Corporation

FINANCIAL ANALYSIS: Part 2 Liquidity

Starbucks Corporation Current Ratio

Current Ratio 5.00 4.50 4.00 3.50 3.00 2.50 2.00 1 .50 1 .00 0.50 0.00

6.77

2001

2002

2003

Starbucks

2004

2005

Competitor Avg

2006

2007

Coffee Co Avg

2008

1stH09 Ann

 SBUX Current Ratio has been similar to quick service restaurant competitors since 2005  Working capital that hovers near zero has been typical for large quick-service food establishments

Starbucks Corporation Quick (“Acid Test”) Ratio Quick Ratio 4.00

5.87%

3.50 3.00 2.50 2.00 1 .50 1 .00 0.50 0.00 2001

2002

Starbucks

2003

2004

2005

Competitor Avg

2006

2007

Coffee Co Avg

2008

1stH09 Ann

 SBUX carries relatively higher inventories than the major quick-service restaurants, thus excluding inventories causes SBUX Quick ratio to decline below the quick-service sector

Starbucks Corporation Inventory Turnover Days In Inventory 90 80 70 60 50 40 30 20 1 0 0 2001

2002

2003

Starbucks

2004

2005

Competitor Avg

2006

2007

2008

Coffee Co Avg

1stH09 Ann

 SBUX inventory turns over more slowly than the quickservice restaurant average, likely due to differing inventory management policies for extremely perishable components of fast food  Smaller markets mean slower turnover for small coffee companies

Starbucks Corporation Short Term Debt Rating

 Moody’s downgraded to Prime-3 from Prime-2 on May 13 due to: • Weak consumer spending • Increasing competition  Moody’s believes that current initiatives by SBUX will limit further deterioration  Short term debt has declined by more than half from Sept 2008, to $226M

Starbucks Corporation

FINANCIAL ANALYSIS: Part 3 Solvency

Starbucks Corporation Liabilities

Starbucks' Liabilities (Year End)

$3,500

$ in Millions

$3,000 $2,500 $2,000 $1 ,500 $1 ,000 $500 $0 2000

2001

2002

2003

2004

Current liabilities

2005

2006

2007

2008

1stH09

Long-term liabilities

 Long term liabilities were 31% of total liabilities at the end of 2008, compared to only 6% at the end of 2002  Policy of financing growth mostly from retained earnings changed around 2004  Long term liabilities were almost $1B at the end of 2008, half of which was senior notes due in 2017

Starbucks Corporation Times Interest Earned Times Interest Earned

60

108.9

50 40 30 20 1 0 0 2003

2004

Starbucks

2005

2006

Competitor Avg

2007

2008

1stH09Ann

Coffee Co Avg

 SBUX reported no interest expense prior to 2006  Trend for SBUX is negative, indicating declining ability to meet interest expense as it comes due  Major competitor group trend has been flat for several years

Starbucks Corporation Long Term Debt Rating

 Moody’s downgraded long term debt rating to Baa3 (one step above junk) on May 13 due to: • Weaker than anticipated operating performance • Challenge of refocusing without damage to the brand

Starbucks Corporation Debt to Assets

Debt to Asset Ratio

0.70 0.60 0.50 0.40 0.30 0.20 0.1 0 0.00 2001

2002

2003

Starbucks

2004

2005

Competitor Avg

2006

2007

2008

1stH09

Coffee Co Avg

 SBUX apparently aiming to reduce short term borrowing while holding long term debt steady; debt to TA starting to decline slowly  Small coffee companies have less access to debt markets so tend to carry less debt

Starbucks Corporation

Conclusions & Recommendation  A superstar for many years  New economic reality: • SBUX approach toward maturity • Maturity of the “fad” portion of upscale coffee sales – however, some permanent shift • Current economic conditions  Open questions: • Will restructuring work soon enough • Will restructuring be effective  Most stock analysts give SBUX a “Hold” rating  We concur • Would not buy or sell at the current time • “Wait-and-see” approach