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Sunday, March 4, 2007

The McDonald's of $4 coffee

Fascinating story in the Times yesterday about Howard Schultz and the current state of Starbucks. If you've got a Times subscription, you can read it here. If not, here's a really quick summary: Schultz recently sent around a memo lamenting that the company has drifted too far from its roots. But in order to keep its stock from collapsing, it has to. Wall Street wants to see growth, especially at established stores, and to produce the kind of numbers that the stock market wants, the company has to automate drink production and sell food and merchandise. That, and six new stores opening somewhere in the world every day.

Doesn't sound "sustainable" to me. But the stock has had quite a ride; at the moment, it's worth something like 50 times what it originally sold for.

Oh, and did you know there's an unofficial Starbucks gossip blog? Well, now you do. Apparently that's where the Schultz memo was first leaked.

Comments (19)

Here is a nice little thread describing how Starbuck's espresso has descended into suck. My guess is that's one reason why they push all those foo-foo espresso drinks. (The same reason you make mimosas out of Andre instead of Dom Perignon.)

Also, I recall reading that Consumer Reports recently ranked McDonald's drip coffee higher than Starbucks.

Starbucks is now so expensive, I just skip the drink part and snort the coffee grounds right off the counter.

Not only expensive, but their coffee and coffee drinks are crap. A latte with near boiled milk and a weak pulled shot of espresso, burnt coffee that has been sitting long past it's prime, and super sugary flavored abominations that belong at Dairy Queen, not a "gourmet" coffee retailer.

With such a great choice of other (mostly locally owned independant) cafes in town, Starbucks is a last resort.

I agree that Starbucks coffee sucks. I just don't drink it. I agree that Starbucks is so commoditized that it might as well be McDonalds. Nevertheless, we invested early on in Starbucks and over time the stock kept splitting and splitting. I finally took about 2/3 of my position off the table two weeks ago and pocketed enough to pay for the first two years of my daughter's college education and pretty much any school. If the other 1/3 position holds or goes up much further, we'll sell it and we should make enough to pay for another year of college. It would have to lose about 90% of its current share value before we'd actually lose any money. Ain't capitalism grand.

Starbucks started out with great products and service, but now its coffee is cold and weak, and the pastries are becoming too familiar and always taste as if they are 1-2 days old. I go there, but only because it's close. I sure wish Peet's and/or a good independent coffee shop would open near our house.

It's a fascinating dilemma for Starbucks. They can't just be profitable -- the size of their profit must grow each year, otherwise the stock price tanks.

If you and I had a business that pulled in a million bucks in profits each year, we'd pat ourselves on the back on the way to the bank -- even if the size of that profit didn't budge at all.

But the curious logic of the modern stock market means that a company can't have the same extraordinary profits each year -- rather the profit must grow, or the stock price tanks...

It used to be that folks were happy with "utilities" that didn't grow, but were just massive profit-producers. Take your dividend, and be happy. Not anymore.

That's one of the reasons that some companies are choosing to return to privately-held, rather than publicly-traded. Weird, weird, weird.

Y'know...I don't hit Starbucks or any of the coffee shops much, as I'm happier making my brews at home, and for way cheaper. But I gotta say, people may think their drinks are "crap" but the five Starbucks by my office all seem to doing a thriving business.

When I was last in Madrid there was a "native" coffee shop in this plaza near our hotel and a Starbucks. At 11pm the "native" was empty --and where we got our brews-- but the Starbucks was jam packed and that despite higher prices.

It's unquestionably a phenonenon. But one that can't grow forever. That's indeed a weird part of capitalism's demands.

Kari, what's so weird about it. This is the way public companies operate. It's called grow or die. Starbucks stock price is trading at 38.5X earnings and they pay no dividends. And you are also wrong about "the modern stock market". Companies that pay a dividend greater than government bonds can have the "same extraordinary profits each year" and folks will continue to invest in them, like utilities. Anyway, in your mind, it's probably George Bush's fault.

When I first went to France as a student, in 1961, one of the striking things was the coffee. It was expensive, and very good. Now, in France, coffee is cheap and ordinary -- and nothing in France has changed. Starbucks really deserves the credit for the development of coffee, and the market for it, in the U.S. Maybe Starbucks' coffee isn't as good as it used to be; or maybe it never was. Either way, people vote for it every day in a big way. It would be better, though, if they didn't just acquire all their competitors or drive them out of business.

[reposted from my comment at http://bojack.org/2007/02/portlandstyle_progressives_at.html ]

here are just a few local examples. enter these in Google (with the quotes), and view the results.
Starbucks buys Coffee People
"Once feisty Coffee People whipped into Starbucks"
Starbucks buys Torrefazione
"Starbucks to shutter Torrefazione cafes"
Starbucks buys Seattle's Best
"Starbucks to buy Seattle's Best Coffee"
Starbucks buying out Pasqua in SF, for example
Starbucks wants world dominance, double # of stores, etc.
"Business: Starbucks: Just Getting Started (Seattle Weekly)"
Starbucks trying to block Africa trademarking its own coffees and address poverty
"Starbucks in Ethiopia coffee row"
"Africa Growers Back Ethiopia in Row with Starbucks"

Starbucks exclusive leasing deals
"Owner of small coffee shop takes on java titan Starbucks"
"Starbucks Litigation Lawsuit"
"Starbucks Sued Over Alleged Antitrust Violations"

that will get you started--there are hundreds more.

sorry for the lengthy post. these kinds of stories aren't simple, or easy to construct in Internet links.

thanks for the forum, jack.

You're welcome. Now don't go gluing their locks.


Well, Richard, I'm no financial wizard - but it seems to me that the 'utilities', those no-growth-huge-dividend companies don't do much in terms of stock price.

Everybody seems enamored of the all-growth-no-dividend companies these days.

I'm not disagreeing that that's "how the market works" - I just find it curious that a company like Starbucks can take 35 cents of coffee (add $1.75 in health care costs) and sell it for four bucks.... and their investors are complaining!

(p.s. I made up those numbers. I'm sure the real ones exist somewhere, but I'm bored already.)

I agree with all the complaints about Starbucks.

However, I still go fairly often, because it still has the most caffeine per penny. Starbucks coffee is significantly stronger than any of it's competitors. And at the end of the day, that's why I drink coffee, I'm an addict and I need my caffeine fix.

Oh and yes, McDonalds coffee is surprisingly good.

actually, the most expensive part of a coffee drink you buy most anywhere is...the cup.

and, caffeine content of beans varies by very little. generally, range of caffeine content for every cup of coffee sold is between one and two percent.

in fact, Starbucks buys Arabica beans, which grow at higher elevations--and have less caffeine than all other beans. they're known in the industry for "over-roasting" these beans for maximum effect--resulting in what some people call that "burnt" flavor.

so, when you buy Starbucks, you're actually getting *less* caffeine per dose.

This is the way public companies operate. It's called grow or die.

So Richard S., can you explain WHY this is what Wall Street expects? It seems to me that a publicly-traded company that earns 10% profit every year should be able to keep doing what it's doing, even if same-store sales are flat. In my naive little world, it always seemed that's what business should be about -- taking something you do well, and selling it for more than it costs you to do it. But from reading this article, it sounds like Wall Street is demanding an unsustainable pyramid scheme.

And seriously, please keep it remedial as this is not my area of expertise.

Starbucks is currently trading at $29.40, which is 39 times its current earnings. That equates to a 2.56% return on investment. Therefore, if earnings stopped growing and investors required a 10% return, the stock would drop to $7.50 per share to be in equilibrium. That is why shareholders demand continued growth. Utilities tend to trade closer to 10 times earings and therefore do not require much growth.

Miles: In a chain like Starbucks, same store sales is what it's about. If you have 100 stores and sales don't grow at any of them would you invest your money in them. What's the upside to you? Flat same store sales mean you've maxed out. Bob is right on the money, sorry for the pun. And Miles, any company that earns 10% profit ever year on flat sales is going backward because of inflation. 10% last year is 14% this year to keep pace.

"any company that earns 10% profit ever year on flat sales is going backward because of inflation."

True enough, but that company, if its sales rise in line with inflation, is not going backward.

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