How fast is Starbucks expanding and how is that growth funded?

Starbucks opened 602 Company-operated stores in fiscal 2003 and 1,201 net new stores in total across all channels, ending the year with 7,225 stores. Growth is funded internally: operating cash flow of $566.4 million covered net capital expenditures of $357.3 million, and the company held $486.2 million in cash and liquid investments. Fiscal 2004 capex is planned at $450-$475 million to support about 625 Company-operated openings.

Is the International business profitable yet?

Not meaningfully. International generated $603 million in revenue but only $5.5 million of operating income, a 0.9% margin. Excluding Canada, the segment lost $18.5 million in fiscal 2003, and management states the segment is not currently profitable and is in an early phase of development. Results are also exposed to foreign currency and country-specific economic risks.

What are the main risks to margins and earnings?

The most cited risks are green coffee price volatility, which has risen since historic lows in 2002 and is partly hedged through $287.2 million of fixed-price purchase commitments, rising payroll and advertising costs in store operating expenses, and the effect of expensing stock options in future periods. The company also warns that store growth depends on finding real estate at acceptable rents and that a sustained decline in U.S. retail operations would be materially adverse. Its effective tax rate rose to 38.5% and is guided to 38.0% for fiscal 2004.

Does the company pay dividends or buy back stock?

Starbucks pays no cash dividends and intends to retain earnings for growth. It repurchased 3.3 million shares for $75.7 million in fiscal 2003 at an average price of $22.95, and about 14.6 million additional shares remained authorized. Management says repurchases are discretionary and mainly intended to offset dilution from employee stock plans.

What is the company's exposure to legal and currency risks?

Management reports no pending legal proceedings expected to have a material adverse effect, after a $18.0 million settlement of two California class action lawsuits was recorded in fiscal 2002. On currency, a 10% dollar decline would reduce the fair value of the company's foreign exchange derivatives by about $17 million, of which $7 million could hit future earnings, while the company also holds a guarantee of up to $11.8 million on yen-denominated loans of its Japanese equity investee.

SBUX 10-K FY2003 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K filed December 23, 2003. Cited figures are marked; the original filing is the authoritative source.

Starbucks' fiscal 2003 10-K (year ended September 28, 2003) shows a company still in a rapid expansion phase, with total net revenues up 23.9% to $4.08 billion^a and operating income up 34.3% to $424.7 million, lifting the operating margin to 10.4% from 9.6%.

Growth was driven by 602 new Company-operated stores, 8% consolidated comparable store sales growth (9% in the U.S.), and a 26.2% increase in Specialty revenues to $625.9 million^b. Diluted EPS rose to $0.67 from $0.54, and net earnings reached $268.3 million. The U.S. segment is the profit engine, generating $606.5 million of operating income on $3.47 billion of revenue, while the International segment earned only $5.5 million on $603 million of revenue and excluding Canada posted an operating loss of $18.5 million.

Cash generation remained strong, with $566.4 million^c from operations against $357.3 million of net capital expenditures, leaving $486.2 million in cash and liquid investments and no meaningful debt (long-term debt of about $5 million). The company also repurchased $75.7 million of stock. Management guided to roughly 1,300 new stores worldwide in fiscal 2004, comparable store sales growth of 3%-7%, approximately 20% revenue growth, and 20%-25% EPS growth over the next three to five years.

Capital expenditures of $450^d-$475 million are planned. Key risks for investors include green coffee price volatility (fixed-price commitments of $287.2 million), execution risk in store growth and real estate, the unprofitable International segment, the expensing of future stock options, and a stock that trades at a high multiple to expected earnings. The filing also notes a higher effective tax rate of 38.5% and that the company faces no material pending legal proceedings.

02—Key points

Key Highlights

Total net revenues rose 23.9% to $4.08 billion, with retail revenues up 23.5% to $3.45 billion and specialty revenues up 26.2% to $625.9 million.
Operating income grew 34.3% to $424.7 million, and operating margin expanded to 10.4% from 9.6% on leverage over fixed costs.
Diluted EPS increased to $0.67 from $0.54, and net earnings rose 26.2% to $268.3 million.
Consolidated comparable store sales grew 8%, driven almost entirely by higher transaction volume (U.S. up 9%, International up 7%).
The U.S. segment generated $606.5 million in operating income, while the International segment earned just $5.5 million on $603 million in revenue, and excluding Canada it posted an operating loss of $18.5 million.
Strong balance sheet and cash flow: $566.4 million of operating cash flow, $486.2 million of cash and liquid investments, and essentially no debt.
Management guides to about 1,300 new stores in fiscal 2004, 3%-7% comparable store sales growth, and 20%-25% annual EPS growth over the next 3-5 years.

03—Questions

Frequently Asked Questions

How fast is Starbucks expanding and how is that growth funded?
Starbucks opened 602 Company-operated stores in fiscal 2003 and 1,201 net new stores in total across all channels, ending the year with 7,225 stores. Growth is funded internally: operating cash flow of $566.4 million covered net capital expenditures of $357.3 million, and the company held $486.2 million in cash and liquid investments. Fiscal 2004 capex is planned at $450-$475 million to support about 625 Company-operated openings.
Is the International business profitable yet?
Not meaningfully. International generated $603 million in revenue but only $5.5 million of operating income, a 0.9% margin. Excluding Canada, the segment lost $18.5 million in fiscal 2003, and management states the segment is not currently profitable and is in an early phase of development. Results are also exposed to foreign currency and country-specific economic risks.
What are the main risks to margins and earnings?
The most cited risks are green coffee price volatility, which has risen since historic lows in 2002 and is partly hedged through $287.2 million of fixed-price purchase commitments, rising payroll and advertising costs in store operating expenses, and the effect of expensing stock options in future periods. The company also warns that store growth depends on finding real estate at acceptable rents and that a sustained decline in U.S. retail operations would be materially adverse. Its effective tax rate rose to 38.5% and is guided to 38.0% for fiscal 2004.
Does the company pay dividends or buy back stock?
Starbucks pays no cash dividends and intends to retain earnings for growth. It repurchased 3.3 million shares for $75.7 million in fiscal 2003 at an average price of $22.95, and about 14.6 million additional shares remained authorized. Management says repurchases are discretionary and mainly intended to offset dilution from employee stock plans.
What is the company's exposure to legal and currency risks?
Management reports no pending legal proceedings expected to have a material adverse effect, after a $18.0 million settlement of two California class action lawsuits was recorded in fiscal 2002. On currency, a 10% dollar decline would reduce the fair value of the company's foreign exchange derivatives by about $17 million, of which $7 million could hit future earnings, while the company also holds a guarantee of up to $11.8 million on yen-denominated loans of its Japanese equity investee.

04—Continue

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