How much of Starbucks' revenue depends on the United States, and why does that matter?

The U.S. segment generated 79% of total net revenues in fiscal 2006 ($6.18 billion), and the company's risk factors state that a substantial or sustained decline there could materially hurt results. Growth is increasingly reliant on the International segment, which accounted for 17% of revenue, so international execution is becoming more important to the growth targets.

Why did operating margin decline even though revenues grew strongly?

Operating margin fell to 11.5% from 12.3% primarily because the company began expensing stock-based compensation in fiscal 2006 under SFAS 123R ($105 million pre-tax). Higher payroll, incentive compensation, and professional fees for global systems also pushed up store, specialty, and G&A costs, though cost of sales as a percentage of revenue improved slightly.

Is Starbucks' balance sheet stretched by its share buybacks and expansion?

Shareholders' equity remains about $2.2 billion, but the company moved to a working capital deficit of $406 million, largely because $700 million was drawn on its revolving credit facility to fund buybacks and growth. Management says operating cash flow, existing liquid investments of about $459 million, and remaining credit capacity should cover core capital needs, though significant new acquisitions or buybacks may require outside funding.

What are the main risks to Starbucks' growth outlook?

Key risks include market expectations that are already high, rising arabica coffee and dairy costs (with $546 million of fixed-price green coffee commitments), intensifying competition from quick-service restaurants and supermarkets, execution risk in China and other developing markets, health-related publicity about caffeine and sugar, and wage-and-hour class actions over store manager and barista classifications, including a trial set for August 2007 in the Pendlebury case.

What growth does management expect in fiscal 2007?

Management expects revenue growth of about 20%, comparable store sales growth of 3% to 7%, and roughly 2,400 new store openings, with capital expenditures of $950 million to $1.0 billion and an effective tax rate near 38%. Its long-term aspiration is about 20,000 U.S. stores and at least 20,000 international stores, with a 20–25% annual EPS growth target over three to five years.

SBUX 10-K FY2006 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K filed December 14, 2006. Cited figures are marked; the original filing is the authoritative source.

Starbucks' fiscal 2006 10-K (year ended October 1, 2006) shows a company still delivering strong top-line and earnings growth while absorbing a sharp rise in stock-based compensation.

Total net revenues rose 22% to $7.79 billion^a, driven by 1,040 new Company-operated stores (7% comparable store sales growth) and a 28% increase in licensing revenue. Operating income grew 15% to $894 million, but operating margin fell to 11.5% from 12.3% as stock-based compensation expense of $105 million (adopted under SFAS 123R) hit store, specialty and G&A lines. Diluted EPS rose to $0.71 from $0.61, with net earnings up 14% to $564 million.

Balance sheet and cash flow highlights: operating cash flow was $1.13 billion^b, capital expenditures were $771 million, and the company repurchased $854 million of stock, funded partly by a $700 million draw on its revolver (expanded to $1 billion). Working capital turned negative (-$406 million), largely due to that short-term borrowing, and management guides to fiscal 2007 capex of $950 million to $1.0 billion.

Investors should weigh strong unit growth and cash generation against margin compression, rising leverage on the revolver, and a heavy reliance on the U.S. segment (79%^c of revenue). Key forward-looking items include guidance for roughly 20% revenue growth and 3–7% comparable store sales growth in fiscal 2007, a long-term target of 20,000 U.S. and at least 20,000 international stores, and a risk profile highlighted by commodity (arabica coffee, dairy) exposure, China expansion, and wage-and-hour litigation in the U.S. Management's ability to sustain comparable sales growth while expanding store count and absorbing stock-compensation costs will be the central question for future returns.

02—Key points

Key Highlights

Total net revenues up 22% to $7.79 billion; Company-operated retail revenue up 22% to $6.58 billion, with 1,040 new company-operated stores opened in fiscal 2006.
Comparable store sales grew 7% globally (U.S. 7%, International 8%), the 15th consecutive year of growth of 5% or more.
Operating income rose 15% to $894 million, but operating margin declined to 11.5% from 12.3% due to $105 million of stock-based compensation under SFAS 123R.
Diluted EPS increased to $0.71 from $0.61; net earnings rose 14% to $564 million.
Operating cash flow of $1.13 billion funded $771 million in net capital expenditures; $854 million was spent on share repurchases (14.6 million shares repurchased in Q4 alone).
Short-term borrowings of $700 million under the revolving credit facility (now $1 billion capacity) produced a working capital deficit of $406 million.
Fiscal 2007 guidance: ~20% revenue growth, 3–7% comparable store sales growth, 2,400 planned store openings, and $950 million–$1.0 billion in capex; effective tax rate expected near 38%.

03—Questions

Frequently Asked Questions

How much of Starbucks' revenue depends on the United States, and why does that matter?
The U.S. segment generated 79% of total net revenues in fiscal 2006 ($6.18 billion), and the company's risk factors state that a substantial or sustained decline there could materially hurt results. Growth is increasingly reliant on the International segment, which accounted for 17% of revenue, so international execution is becoming more important to the growth targets.
Why did operating margin decline even though revenues grew strongly?
Operating margin fell to 11.5% from 12.3% primarily because the company began expensing stock-based compensation in fiscal 2006 under SFAS 123R ($105 million pre-tax). Higher payroll, incentive compensation, and professional fees for global systems also pushed up store, specialty, and G&A costs, though cost of sales as a percentage of revenue improved slightly.
Is Starbucks' balance sheet stretched by its share buybacks and expansion?
Shareholders' equity remains about $2.2 billion, but the company moved to a working capital deficit of $406 million, largely because $700 million was drawn on its revolving credit facility to fund buybacks and growth. Management says operating cash flow, existing liquid investments of about $459 million, and remaining credit capacity should cover core capital needs, though significant new acquisitions or buybacks may require outside funding.
What are the main risks to Starbucks' growth outlook?
Key risks include market expectations that are already high, rising arabica coffee and dairy costs (with $546 million of fixed-price green coffee commitments), intensifying competition from quick-service restaurants and supermarkets, execution risk in China and other developing markets, health-related publicity about caffeine and sugar, and wage-and-hour class actions over store manager and barista classifications, including a trial set for August 2007 in the Pendlebury case.
What growth does management expect in fiscal 2007?
Management expects revenue growth of about 20%, comparable store sales growth of 3% to 7%, and roughly 2,400 new store openings, with capital expenditures of $950 million to $1.0 billion and an effective tax rate near 38%. Its long-term aspiration is about 20,000 U.S. stores and at least 20,000 international stores, with a 20–25% annual EPS growth target over three to five years.

04—Continue

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