Professional Documents
Culture Documents
C
o
e
e
r
|
c
e
s
,
U
.
S
.
C
e
n
t
s
p
e
r
o
u
n
d
ICC Compos|te r|ce, Month|y
Average
13
Peet's Coffee 8 Tea Inc.
Peets Coffee and Tea (NASDAQ: PEET) is a coffee roaster and market of coffee with a
moderate presence in the mid-West and West United States. The company sells coffee, tea,
brewing equipment, mugs and accessories through many channels including company
operated retail stores, grocery stores and foodservice accounts. As of the end of 2008, Peets
had 188 retail stores and reported revenues of $284.8 M.
Tim Hortons Inc.
Tim Hortons Inc. (NYSE: THI) is engaged in the development and franchising of quick-
service restaurants that serve food such as hot and cold coffee, baked goods, sandwiches and
soups. The company has a significant presence in Canada, with more than 2,800 stores, and
approximately 400 more located in the U.S. While the company does not focus on gourmet
coffees and espresso sought by coffee aficionados, it nonetheless remains and important
competitor to Starbucks. Tim Hortons revenue in 2008 was in excess of $2.04 billion.
Indirect Competition
Nest|e 5.A.
Nestle S.A. (SIX: NESN) is a Switzerland based holding company with 2007 revenues of
more than $107.6 billion. Nestle is primarily engaged in food processing. The company
produces Nescafe coffee, which is sold at grocery stores all over the world. This company
competes indirectly with Starbucks since it offers coffee through a different distribution
channel, but is an important competitor, nonetheless.
Yum! Brands Inc.
Yum! Brands (NYSE: YUM) is a quick-service restaurant company that operates and
franchises companies such as KFC, Pizza Hut, Taco Bell, Long John Silvers, and A&W All-
American Food Restaurants. Although the company does not compete in the gourmet
coffee business, it competed with Starbucks and others for a portion of consumers
discretionary spending. Yum Brands reported 2008 revenues of $11.3 billion.
Competitive Forces
While it useful to have an understanding of the competitive environment that Starbucks
currency faces, it is important to recognize that the competitive landscape is dynamic, rather
than static, and constantly changing. Thus, it would be prudent to identify trends and
possible outcomes in this environment. Porters Five Forces Analysis model is applied below
to provide insight to this environment:
14
Bargaining Power of 5upp|iers
Starbucks purchases high quality Arabica coffee from coffee growing regions throughout the
world, with the majority of supply coming from Latin America, Africa and the Asia/Pacific
regions. However unfortunate, the traditional and basic nature of the work often entails
farmers working in poverty conditions or at subsistence wages. Thus, historically, coffee
farmers have not been able to exercise a great deal of bargaining power in negotiations with
Starbucks.
Rising awareness of the plight of coffee farmers in the last decade has resulted in the
increasing popularity of social movements encouraging ethical purchasing and consumption
of coffee. At times, Starbucks has been targeted and criticized for its alleged exploitation of
coffee farmers and unethical purchase practices. The company has taken some steps to
address this including a attempting to develop and implement ethical coffee purchasing
guidelines and sustainability plans. However, these efforts have been unexceptional and will
do little to appease Starbucks harshest critics.
Looking down the road, it is likely that supplier bargaining power will continue to increase
marginally in the future as social movements continue to attract the attention of consumers,
and coffee farmers become more advanced and able to collaborate. However, it is unlikely
that this bargaining power will be significant enough to have a material impact on Starbucks
cost of goods.
Bargaining Power of Customers
Historically, Starbucks marketing machine has been highly successful at attracting and
retaining customers with the promise of a high-quality product and customer service
experience. In addition, the company has resorted to efforts such as promotion of gift cards
in order to win the loyalty of consumers. However, the company must continue to innovate
in this area in order to retain the loyalty of increasingly fickle consumers. Today, consumers
have an increasing number of options when it comes to their morning coffee namely, the
aforementioned competitors. Consumers are especially sensitive to price and will likely take
their business where they can get the most value for money. The recessionary pressures of
the current financial environment will only serve to exacerbate this.
In the retail environment, buyer power is high and will only continue to increase as the
competition heats up. Looking foreword, this represents a moderate threat and will likely put
downward pressure on Starbucks margins as customers demand lower prices or threaten to
switch to a competitor.
15
Threat of New Entrants
The barriers to entry in the coffee-retailing business are relatively low. As a commodity,
coffee is typically purchased on a per pound basis meaning that Starbucks cannot benefit
significantly from economies of scale. Furthermore, while the company does possess a
number of patented products and trade secrets, it is not in possession of significant
proprietary technologies that cannot be easily duplicated.
Starbucks uses commercially available equipment such as coffee brewers, espresso machines,
blenders, etc. which can be easily acquired by any competing operation. Indeed, many major
competitors and smaller chains have thrived by adopting or mimicking Starbucks strategy.
In the long-term, the threat of new entrants represents a possible and probable risk to
Starbucks. Rivals, attracted by the high margins that Starbucks has historically obtained, are
quickly moving into coffee retailing and putting downward pressure on Starbucks margins.
Threat of 5ubstitute Products
As a retailer of a product derived from a commodity, there is little that Starbucks can do to
differentiate its physical product. The physical properties of the product are largely derived
from the quality of the ingredients used and how they are processed only some of which
are under Starbucks own control. The quality of coffee, for instance, may depend on the
growing, harvesting, processing, roasting and brewing stages. Here, only roasting and
brewing are directly under Starbucks control. Coffee growing, harvesting, and processing
stages are carried out by the individual farmers.
Consequently, Starbucks has attempted to differentiate its products on the basis of customer
service and the in-store experience, which has often been characterized as the Starbucks
Experience.
24
The threat of substitute products from competitors and other retailers poses a serious threat
to Starbucks future revenue and profitability.
Competitive Riva|ry Within an Industry
As a purveyor of a commodity-based product, Starbucks does not benefit from product
differences that typically influence competitive rivalry. This is especially true given the
increasingly popularity and availability of premium coffees, which has been Starbucks
basis for differentiating itself in the past. While the company has previously benefitted from
a very strong brand identity, there is some evidence suggesting that brand loyalty is eroding.
24
The essence of the Starbucks Experience is outlined in a book of the same name.
16
Competitor rivalry represents a serious threat for Starbucks. As more competitors attempt to
capitalize on the growing demand for gourmet coffee and lucrative profit margins,
Starbucks own market share and margins are likely to be diminished.
Operationa| Risks
Starbucks is subject to a number of operational risks that may have an adverse impact on the
companys performance if they were to materialize. A detailed list of conceivable risks facing
the company is discussed at length in the Starbucks annual report. Some of the most
important and most probable risks are outlined and discussed briefly below.
5trategic Transformation Initiatives
When Howard Schultz returned as the Starbucks CEO in 2008, the company soon after
announced a number of strategic transformational initiatives to bring the company back to
the basics and build long-term shareholder value. This included, but was not limited to, a
plan to close 600 underperforming stores in the U.S. market and a corporate-level
restructuring that would eliminate about 700 non-store jobs. The company also spent
considerable resources developing and implementing a new special coffee Pikes Place
Roast and revised brewing methods and standards for stores around the world. This was
intended to represent the beginning of a renewed focus on coffee that management hopes
will translate to higher sales and loyalty.
These, and other, changes that the company is pursuing come with a myriad of risks. For
instance, the company may not realize the expected cost savings from the restructuring
efforts in the desired time frame, or perhaps at all. Management expects that investments in
the business and development of new offerings like Pikes Place Roast will yield a stream of
future benefits for the company. It is possible that these benefits have been overstated or
that these efforts will not be enough to reinvigorate the brand.
Reduced Customer Traffic
Starbucks may suffer from reduced customer traffic to the increased presence of
competitors, the declining demand of gourmet coffee, or negative publicity regarding the
company. Any of these factors, none of which can be predicted with certainty, would have
an adverse affect on Starbucks business performance.
Commodity Costs
Starbucks purchases large amounts of green coffee and dairy products, which are often
subject to wide price fluctuations.
25
Although risk exposure to volatile coffee prices can be
25
Green coffee refers to the coffee beans that Starbucks purchases from its suppliers in its raw green state, before it is roasted.
17
effectively hedged, it is much more difficult to hedge against commodities such as fluid milk.
Thus, Starbucks is exposed to volatility in dairy prices.
Economic Crisis
A severe global recession is currently in progress. As a retailer that is dependent on
consumer discretionary spending, Starbucks business is likely to suffer in the near future
since consumers will have less discretionary income available. Management expects that this
will negatively impact the Companys financial performance, though it is difficult to
estimate the extent.
Competition
As noted previously, Starbucks is presently facing a serious competitive threat from
McDonalds a fast-food giant with a strong global presence. McDonalds has comparatively
more resources and quick-service experience than Starbucks. Even a semi-successful foray
into gourmet coffee would have significant adverse effects for Starbucks.
Perceived Brand Va|ue
The Starbucks brand is highly valued and it is necessary for the company to maintain this
perception of brand value going forward in order to take on emerging competitive threats.
As a result, incidents or scandals that erode consumer trust or perceived brand-value of
Starbucks would be disastrous for the company.
Ana|ysis
Considering the current economic turmoil and unique transformational circumstances
specific to Starbucks, placing a valuation on this company is a challenging and complex task.
In the following section, multiple methods have been applied for the purpose of determining
the intrinsic value of Starbucks including:
an analysis of the discounted free cash flow to the firm;
an examination of relevant valuation comparables;
a review of performance metrics and organizational health indicators.
Given the enormity of the task at hand, in some instances, it is necessary to make certain
assumptions. These assumptions are based on the views of company management, analysts,
or are otherwise backed up by supporting material. In instances where assumptions have
been made, they are carefully identified and justified.
18
Abso|ute Va|uation: Oiscounted Free Cash F|ow
As a non-dividend paying company, the only suitable absolute model to use in the valuation
of Starbucks is a discounted free cash flow model. Since Starbucks has had relatively volatile
earnings and cash flow in the recent past, a model analyzing the free cash flow to the firm
(FCFF) is the best choice for valuation.
Free Cash F|ow to the Firm (FCFF) Pro|ections
A summary of Starbucks FCFF calculations, five years forward, is presented in the table
below:
Table 1 - 5-Year FCFF Projections for Starbucks Corp.
2008 A 2009 E 2010 E 2011 E 2012 E 2013 E
EBI T( 1- T) 535, 423 214, 708 214, 708 225, 443 236, 715 248, 551
+ Dep 549, 300 518, 682 504, 401 534, 291 576, 418 621, 627
- FCI nv 626, 029 - 419, 224 - 145, 871 305, 316 430, 305 461, 790
- WCI nv 31, 517 26, 848 36, 731 49, 357 65, 407 85, 716
FCFF = 427, 177 1, 125, 765 828, 249 405, 061 317, 422 322, 672
A close look at Table 1 reveals that EBIT is expected to continue to decline through 2010 as
Starbucks faces increased competition and the effects of the global recession. Depreciation
will continue to increase at a steady rate as the company continues to invest in fixed assets,
which, in turn are a function of sales revenue.
Note that capital expenditure, as a percentage of sales, will continue to decrease in the future
as the company deliberately attempts to slow the growth of company-operated retail stores,
in accordance with its transformational strategy (previously discussed.)
Full details on the Starbucks FCFF calculation can be found in Appendix A.
Cost of Equity
Risk-free Rate of Return
As a U.S. based public corporation, the relevant risk-free rate of return is that of short-term
(3-month) U.S. Treasury bills.
19
As of April 2009, that rate is 0.2%, annually.
26
Beta
Starbucks beta is 0.93, indicating a relatively strong covariance with broad market indices.
Market Risk Premium
The market risk premium applied to the valuation is 6.5 per cent. This risk premium is based
on an academic survey of more than 1000 professors in 2008.
27
Capita| Asset Pricing Mode| (CAPM)
Based on the above-listed inputs, a simple application of CAPM reveals that Starbucks cost
of equity is approximately 8.05 per cent.
Cost of Oebt
Starbucks Corp. has historically had a very clean balance sheet. In 2007 the company issued
$550 million in senior notes at 6.25 per cent. The notes are due on August 15, 2017. Once
the tax shield provided by the tax deductibility of interest is taken into account, the after tax
cost of debt is approximately 4.26 per cent.
Weighted Average Cost of Capita| (WACC)
Starbucks long-term debt to total capital ratio is approximately 18.08 per cent. The company
has not announced any plans to change the capital structure in the foreseeable future, so it is
assumed that this will remain constant. Based on this assumption, Starbucks WACC is
approximately 7.36 per cent.
Growth Rate
The estimated FCFF growth rate is a key determinant of the intrinsic value in a discounted
cash flow analysis due to the important of the terminal value. It is difficult to estimate this
growth rate in such a turbulent environment, and therefore, it would be prudent to be
mindful of the valuations sensitivity to this estimate.
Consequently, a table has been prepared below using a range of growth rates with 4 per cent
identified as the most likely outcome.
26
Note that this rate is relatively low by historical standards. The financial and economic crisis has resulted in a flight to safety in the form
of U.S. government bonds.
27
Pablo Fernandez, Market Risk Premium Used in 2008: A Survey of More than a 1,000 Professors. Retrieved from
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1344209 on 7 April 2009.
20
Va|uation App|ication and 5ensitivity Ana|ysis
Table 2 - Discounted Free Cash Flow to the Firm Valuation and Sensitivity Analysis for Starbucks Corp
Gr owt h Rat e
3% . 4% 5%
Fir m Value 7, 904, 048 9, 561, 959 12, 624, 868
Equit y Value 7, 354, 448 9, 012, 359 12, 075, 268
I mplied Shar e Value
Basic $10. 05 $12. 32 $16. 51
Dilut ed $9. 92 $12. 15 $16. 28
Imp|ications
The above table indicates a range of possible intrinsic values for Starbucks stock, given
various growth assumptions. A close look at the table reveals that the implied share price is
indeed quite sensitive to the growth rate. At a four per cent free cash flow growth rate, the
estimated intrinsic value of the share price is $12.15.
As of April 7, 2009, Starbucks ended the trading day at $11.19. Therefore, the stock is only
slightly relatively undervalued in comparison to the estimate. This amount is so marginal that
we would consider the stock to be priced near perfectly.
Re|ative Va|uation
Methods of absolute valuation can and should be supplemented by relative valuation
techniques. By analyzing comparables and multiples, it is possible to refine and develop
support for the conclusions using absolute valuation methods.
Price-To-Earnings (PjE) Mu|tip|e Va|uation
A table illustrating the trailing and forward P/E ratios for Starbucks and select competitors
is shown below in Table 3.
21
Table 3 - Forward and Trailing P/E Ratios for Starbucks Corp. and Select Competitors
Company Tr ai l i ng P/ E
28
For w ar d
P/ E
29
McDonalds 14. 72 13. 29
Nest le - -
Peet ' s Coffee and Tea 26. 94 19. 91
St ar bucks 48. 23 13. 32
Tim Hor t ons 20. 91 15. 39
Yum! Br ands 14. 66 12. 46
Compet i t or Av er age 25. 092 14. 874
An analysis of the above table reveals that Starbucks has a comparatively high P/E ratio than
that of all competitors and the industry average. Starbucks, which has a trailing P/E ratio of
48.23, could be relatively overvalued as investors have paid more for each dollar of earnings.
One possible reason for this has been the poor and volatile performance of the company,
especially in the last twelve months. In 2008, profit dropped more than 53 per cent as the
company incurred more than $266.9 million in restructuring costs. Note, however, that other
competitors (also competing for consumer discretionary spending) faced the same
deteriorating economic conditions meaning that these effects should be factored into their
P/E ratios.
For these reasons, it may be prudent to refer to the forward P/E multiple when conducting
a relative valuation. Comparing Starbucks forward P/E multiple to those of its competitors
reveals that Starbucks is relatively on part with its competitors with a forward P/E ratio of
13.32.
Imp|ied 5hare Price
Based on the industry average trailing P/E of 25.092, the implied share price of Starbucks is
$23.34.
30
However, adjusting for the fact that Starbucks own exceptionally high trailing P/E
28
Trailing, 12 months moving
29
Forward, fiscal year-end 2010
30
Based on reported 2008 EPS of 0.93 (basic and diluted)
22
ratio has undue influence on the industry average, the share price estimate declines to
$17.96.
31
Price-To-Book (PjB) Mu|tip|e Va|uation
A table illustrating the price-to-book ratios for Starbucks and select competitors is shown
below in Table 4. Note that Yum! Brands has been excluded from this calculation since it
has an exceptional P/B ratio of -127, reflecting the unique conditions of that company.
Table 4 - Price-to-book Ratios for Starbucks Corp. and Select Competitors
Company Pr i ce- t o- book
McDonalds 4. 62
Nest le -
Peet ' s Coffee and Tea 1. 97
St ar bucks 3. 2
Tim Hor t ons 5. 16
Yum! Br ands -
Compet i t or Av er age 3. 738
An analysis of the table above reveals that Starbucks may be relatively undervalued when
compared to it two largest competitors and the competitor average.
Imp|ied 5hare Price
Using the competitor average P/B ratio, the estimated value of a Starbucks share is $10.99
(basic) and $10.88 (diluted.)
Enterprise Va|ue (EV) Mu|tip|e Va|uation
A table illustrating the EV/EBITDA ratios for Starbucks and select competitors is shown
below in Table 5.
31
Industry average trailing P/E multiple is 19.31 when Starbucks is excluded
23
Table 5 - EV/EBITDA Ratios for Starbucks Corp. and Select Competitors
Company EV/ EBI TDA
McDonalds 9. 00
Nest le -
Peet ' s Coffee and Tea 8. 76
St ar bucks 8. 18
Tim Hor t ons 9. 21
Yum! Br ands 8. 22
Compet i t or Av er age 8. 67
An analysis of the table above reveals that Starbucks is approximately in line with
EV/EBITDA ratios of other firms in its industry. Starbucks EV/EBITDA is slightly lower
than the competitor average indicating that the firm may be slightly undervalued based on its
EBITDA.
Integrated Ana|ysis
The various conclusions reached using absolute and relative valuation methods can be
blended to reach a single target price for the stock and the basis for a recommendation.
Below, in Table 6, conclusions from prior analysis are blended to reach a single share price.
Table 6 - Blended Target Share Price for Starbucks Corp.
Anal y si s Met hod Di scount ed Fr ee Cash
Fl ow t o t he Fi r m
P/ E I mpl i ed Shar e
Pr i ce
P/ B I mpl i ed Shar e
Pr i ce
Est imat ed I nt r insic
Value
$12. 32 $23. 34 $10. 88
Weight Given t o
Met hod
60% 40% 40%
Bl ended Tar get Pr i ce = $14. 24
24
Based on the blended analysis, using the estimated share prices and weights shown above,
the target price for shares of Starbucks Corp. is $14.24. This represents a 27 per cent
premium over the April 7, 2009 close price of $11.19.
Recommendation
STRONG BUY
BUY
HOLD
SELL
$14.24
STRONG SELL
A through analysis of Starbucks Corp. indicates that the stock is currently undervalued at
11.19 (close price as of April 7, 2009.) It is probable that the stock price is currently being
battered by economic uncertainty and investor risk-aversion to the potential for further
losses in the stock market. Also, the current stock price may be an overreaction to
disappointing results in the first quarter of 2009.
However, these results have been taken into consideration in the discounted cash flow
analysis accompanied by very modest growth expectations for the future. It should also be
noted that while recent financial results have been somewhat concerning, the company is
taking strides to address this through a number of restructuring and transformation
initiatives.
As the company faces increasing competition in the future, Starbucks will likely experience
reduced sales and earning growth, with margins lower than the company has typically
achieved in the past. However, this is the new reality for this company. No longer a hot
growth stock, Starbucks is making a rapid transition into its mature phase. Investors have
penalized the company heavily during this transition, making it a valuable investment
opportunity.
25
Appendix A: 5tarbucks Historica| Ba|ance 5heet
Starbucks Corp.
As Reported Annual Balance Sheet 10/03/2004 10/02/2005 10/01/2006 09/30/2007 09/28/2008
Currency USD USD USD USD USD
Auditor Status
Not
Qualified
Not
Qualified
Not
Qualified
Not
Qualified
Not
Qualified
Consolidated No No No No No
Scale Thousands Thousands Thousands Thousands Thousands
Operating funds & interest bearing
deposits 219,809 62,221 84,943 - -
Money market funds 79,319 111,588 227,663 - -
Cash & cash equivalents 299,128 173,809 312,606 281,261 269,800
Short-term investments - available-for-sale
securities 329,082 95,379 87,542 83,845 3,000
Short-term investments - trading securities 24,799 37,848 53,496 73,588 49,500
Accounts receivable, gross 142,457 193,841 228,098 291,125 334,000
Less: allowance for doubtful accounts 2,231 3,079 3,827 3,200 4,500
Accounts receivable, net 140,226 190,762 224,271 287,925 329,500
Unroasted coffee 233,903 319,745 328,051 339,434 377,700
Roasted coffee 46,070 56,231 80,199 88,615 89,600
Other merchandise held for sale 81,565 109,094 146,345 175,489 120,600
Packaging & other supplies 61,125 61,229 81,627 88,120 104,900
Inventories 422,663 546,299 636,222 691,658 692,800
Prepaid expenses & other current assets 71,347 94,429 126,874 148,757 169,200
Deferred income taxes, net 81,240 70,808 88,777 129,453 234,200
Total current assets 1,368,485 1,209,334 1,529,788 1,696,487 1,748,000
Long-term investments - available-for-sale
securities 135,179 60,475 5,811 21,022 71,400
Equity method investments 152,511 189,735 205,004 234,468 267,900
Cost method investments 16,430 8,920 11,283 24,378 34,700
Other investments 2,806 2,806 2,806 - -
Equity & other investments 171,747 201,461 219,093 258,846 -
Equity & cost investments - - - - 302,600
Land 13,118 13,833 32,350 56,238 59,100
Buildings 66,468 68,180 109,129 161,730 217,700
Leasehold improvements 1,497,941 1,947,963 2,436,503 3,103,121 3,363,100
Store equipment - 646,792 784,444 1,002,289 1,045,300
Roasting equipment - 168,934 197,004 208,816 220,700
Roasting & store equipment 683,747 - - - -
Furniture, fixtures & other property, plant &
equipment 415,307 476,372 523,275 559,077 517,800
Work in progress - - - - 293,600
Property, plant & equipment, at cost 2,676,581 3,322,074 4,082,705 5,091,271 5,717,300
Less: accumulated depreciation &
amortization 1,298,270 1,625,564 1,969,804 2,416,142 2,760,900
Property, plant & equipment before work-
in-progress 1,378,311 1,696,510 2,112,901 2,675,129 -
Work in progress 93,135 145,509 174,998 215,304 -
Property, plant & equipment, net 1,471,446 1,842,019 2,287,899 2,890,433 2,956,400
Other assets 85,561 72,893 186,917 219,422 261,100
Other intangible assets 26,800 35,409 37,955 42,043 66,600
26
Goodwill 68,950 92,474 161,478 215,625 266,500
Total assets 3,328,168 3,514,065 4,428,941 5,343,878 5,672,600
Commercial paper & short-term
borrowings - - - 710,248 713,000
Accounts payable 199,346 220,975 340,937 390,836 324,900
Accrued compensation & related costs 208,927 232,354 288,963 332,331 253,600
Accrued occupancy costs 65,873 44,496 54,868 74,591 136,100
Accrued taxes 63,038 78,293 94,010 92,516 76,100
Insurance reserves - - - - 152,500
Other accrued expenses 123,684 198,082 224,154 257,369 164,400
Deferred revenue 121,377 175,048 231,926 296,900 368,400
Current portion of long-term debt 735 748 762 775 700
Short-term borrowings - 277,000 700,000 - -
Total current liabilities 782,980 1,226,996 1,935,620 2,155,566 2,189,700
Deferred income taxes, net 46,683 - - - -
Senior notes - - - - 549,200
Other long-term debt - - - - 400
Long-term debt - - - - 549,600
Long-term debt 3,618 2,870 1,958 550,121 -
Deferred rent - - 203,903 271,736 303,900
Unrecognized tax benefits - - - - 60,400
Asset retirement obligations - - 34,271 43,670 44,600
Minority interest - - 10,739 17,252 18,300
Other long-term liabilities - - 13,944 21,416 15,200
Other long-term liabilities - - 262,857 354,074 442,400
Other long-term liabilities 8,132 193,565 - - -
Total liabilities - - 2,200,435 3,059,761 3,181,700
Common stock 956,685 90,968 756 738 700
Other additional paid-in capital 39,393 39,393 39,393 39,393 39,400
Retained earnings (accumulated deficit) 1,461,458 1,939,359 2,151,084 2,189,366 2,402,400
Net unrealized holding gains (losses) on
available-for-sale securities - - -254 1 -4,100
Net unrealized holding gains (losses) on
hedging instruments - - -6,416 -27,051 -22,200
Translation adjustment - - 43,943 81,670 74,700
Accumulated other comprehensive income
(loss) 29,219 20,914 37,273 54,620 48,400
Total shareholders' equity 2,486,755 2,090,634 2,228,506 2,284,117 2,490,900
27
Appendix B: 5tarbucks Historica| Income 5tatement
As Reported Annual Income Statement 10/03/2004 10/02/2005 10/01/2006 09/30/2007 09/28/2008
Currency USD USD USD USD USD
Auditor Status
Not
Qualified
Not
Qualified
Not
Qualified
Not
Qualified
Not
Qualified
Consolidated No No No No No
Scale Thousands Thousands Thousands Thousands Thousands
Company-operated retail revenue 4,457,378 5,391,927 6,583,098 7,998,265 8,771,900
Specialty licensing revenue 565,798 673,015 860,676 1,026,338 1,171,600
Specialty foodservice & other revenue 271,071 304,358 343,168 386,894 439,500
Total specialty revenue 836,869 977,373 1,203,844 1,413,232 1,611,100
Total net revenues 5,294,247 6,369,300 7,786,942 9,411,497 10,383,000
Cost of sales including occupancy costs 2,198,654 2,605,212 3,178,791 3,999,124 4,645,300
Store operating expenses 1,790,168 2,165,911 2,687,815 3,215,889 3,745,100
Other operating expenses 171,648 197,024 260,087 294,136 330,100
Depreciation & amortization expenses 280,024 340,169 387,211 467,160 549,300
General & administrative expenses 304,293 357,114 473,023 489,249 456,000
Restructuring charges - - - - 266,900
Total operating expenses 4,744,787 5,665,430 6,986,927 8,465,558 9,992,700
Income from equity investees 60,657 76,745 93,937 108,006 113,600
Operating income (loss) 610,117 780,615 893,952 1,053,945 503,900
Interest & other income, net 14,140 15,829 12,291 2,419 9,000
Interest expense - - - - 53,400
Earnings (loss) before income taxes 624,257 796,444 906,243 1,056,364 459,500
Current federal income taxes provision
(benefit) 188,647 273,178 332,202 326,725 180,400
Current state income taxes provision
(benefit) 36,383 51,949 57,759 65,308 34,300
Current foreign income taxes provision
(benefit) 10,218 14,106 12,398 31,181 40,400
Deferred income taxes provision (benefit),
net -2,766 -37,256 -77,589 -39,488 -111,100
Income taxes 232,482 301,977 324,770 383,726 144,000
Earnings before cumulative effect of
change in accounting principle - - 581,473 672,638 315,500
Cumulative effect of accounting change
for FIN 47, net of taxes - - -17,214 - -
Net earnings (loss) 391,775 494,467 564,259 672,638 315,500
Weighted average shares outstanding -
basic 794,346 789,570 766,114 749,763 731,500
Weighted average shares outstanding -
diluted 822,930 815,417 792,556 770,091 741,700
Year end shares outstanding 794,811.69 767,442.11 756,602.07 738,285.29 735,500
Earnings (loss) per share from continuing
operations - basic - - 0.76 0.9 0.43
Earnings (loss) per share - effect of
accounting change - basic - - -0.02 - -
Net earnings (loss) per share - basic 0.495 0.63 0.74 0.9 0.43
Earnings (loss) per share from continuing
operations - diluted - - 0.73 0.87 0.43
Earnings (loss) per share - effect of
accounting change - diluted - - -0.02 - -
Net earnings (loss) per share - diluted 0.475 0.61 0.71 0.87 0.43
Total number of employees 96,700 115,000 145,800 172,000 176,000
Number of common stockholders 13,095 13,900 16,653 18,500 21,000
28
Starbucks Corp.
As Reported Annual Retained Earnings 10/03/2004 10/02/2005 10/01/2006 09/30/2007 09/28/2008
Currency USD USD USD USD USD
Auditor Status
Not
Qualified
Not
Qualified
Not
Qualified
Not
Qualified
Not
Qualified
Consolidated No No No No No
Scale Thousands Thousands Thousands Thousands Thousands
Previous retained earnings (accumulated
deficit) 1,069,683 1,444,892 1,938,987 2,151,084 2,189,400
Cumulative impact for adoption of FIN 48 - - - - -1,700
Repurchase of common stock - - 352,162 634,356 100,800
Retained earnings (accumulated deficit) 1,461,458 1,939,359 2,151,084 2,189,366 2,402,400
29
Appendix C: 5tarbucks Historica| Cash F|ow 5tatement
As Reported Annual Cash Flow 10/03/2004 10/02/2005 10/01/2006 09/30/2007 09/28/2008
Currency USD USD USD USD USD
Auditor Status
Not
Qualified
Not
Qualified
Not
Qualified
Not
Qualified
Not
Qualified
Consolidated No No No No No
Scale Thousands Thousands Thousands Thousands Thousands
Net earnings (loss) 391,775 494,467 564,259 672,638 315,500
Cumulative effect of accounting change
for FIN 47, net of income taxes - - 17,214 - -
Depreciation & amortization 304,820 367,207 412,625 491,238 604,500
Provision for impairments & asset
disposals 13,568 20,157 19,622 26,032 325,000
Deferred income taxes, net -3,073 -31,253 -84,324 -37,326 -117,100
Equity in loss (income) of investees -33,387 -49,633 -60,570 -65,743 -61,300
Distributions of income from equity
investees - 30,919 49,238 65,927 52,600
Stock-based compensation - - 105,664 103,865 75,000
Tax benefit from exercise of nonqualified
stock options 63,405 109,978 - - -
Tax benefit from exercise of stock options - - 1,318 7,705 3,800
Excess tax benefit from exercise of stock
options - - -117,368 -93,055 -14,700
Net accretion of discount & amortization of
premium on marketable securities 11,603 10,097 - - -
Net amortization of premium on securities - - 2,013 653 -
Other adjustments - - - - -100
Accounts receivable - -49,311 - - -
Inventories -77,662 -121,618 -85,527 -48,576 -600
Prepaid expenses & other current assets -16,621 - - - -
Accounts payable 27,948 9,717 104,966 36,068 -63,900
Accrued compensation & related costs 54,929 22,711 54,424 38,628 -
Accrued occupancy costs 8,900 - - - -
Accrued taxes - - 132,725 86,371 7,300
Deferred revenue 47,590 53,276 56,547 63,233 72,400
Other accrued expenses 16,465 - - - -
Other operating assets & liabilities -16,412 56,894 -41,193 -16,437 60,300
Net cash flows from operating activities 793,848 923,608 1,131,633 1,331,221 1,258,700
Purchase of available-for-sale securities -566,645 -643,488 -639,192 -237,422 -71,800
Maturity of available-for-sale securities 163,814 469,554 269,134 178,167 20,000
Sale of available-for-sale securities 190,748 626,113 431,181 47,497 75,900
Acquisitions, net of cash acquired - -21,583 -91,734 -53,293 -74,200
Net purchases of equity, other
investments & other assets -64,747 -7,915 -39,199 -56,552 -52,000
Net additions to property, plant &
equipment -386,176 -643,989 -771,230 -1,080,348 -984,500
Purchase of Seattle Coffee Company, net -7,515 - - - -
Distributions from equity investees 38,328 - - - -
Net cash flows from investing activities -632,193 -221,308 -841,040 -1,201,951 -1,086,600
Repayments of commercial paper - - - -16,600,841 -66,068,000
Proceeds from issuance of commercial
paper - - - 17,311,089 65,770,800
Repayments of short-term borrowings - - - -1,470,000 -228,800
30
Proceeds from short-term borrowings - - - 770,000 528,200
Proceeds from issuance of common stock 137,590 163,555 159,249 176,937 112,300
Excess tax benefit from exercise of stock
options - - 117,368 93,055 14,700
Principal payments on long-term debt -722 -735 -898 -784 -600
Proceeds from issuance of long-term debt - - - 548,960 -
Repurchase of common stock -203,413 -1,113,647 -854,045 -996,798 -311,400
Borrowings under revolving credit facility - 277,000 423,000 - -
Other financing activities - - - -3,505 -1,700
Net cash flows from financing activities -66,545 -673,827 -155,326 -171,887 -184,500
Effect of exchange rate changes on cash
& cash equivalents 3,111 283 3,530 11,272 900
Net increase (decrease) in cash & cash
equivalents 98,221 28,756 138,797 -31,345 -11,500
Cash & cash equivalents, beginning of
period 200,907 145,053 173,809 312,606 281,300
Cash & cash equivalents, end of period 299,128 173,809 312,606 281,261 269,800
Cash paid during the period for interest,
net of capitalized interest 370 1,060 10,576 35,294 52,700
Cash paid during the period for income
taxes 172,759 227,812 274,134 342,223 259,500
31
Appendix C: Oiscounted Free Cash F|ow to the Firm ~ Oetai|ed
Pro|ections
2004 A 2005 A 2006 A 2007 A 2008 A
(Estimated) Company-operated
retail revenue 4,457,378 5,391,927 6,583,098 7,998,265 8,771,900
(Estimated) Company-operated
retail revenue growth - 0.209663394 0.220917494 0.21496976 0.096725352
(Estimated) Speciality licensing
revenue 565,798 673,015 860,676 1,026,338 1,171,600
(Estimated) Specialty licensing
revenue growth - 0.189496958 0.278836282 0.192478935 0.14153427
(Estimated) Speciality foodservice
and other revenue 271,071 304,358 343,168 386,894 439,500
(Estimated) Specialty foodservice
and other revenue growth - 0.122798086 0.127514309 0.12741864 0.135970059
(Estimated) Total net revenues 5,294,247 6,369,300 7,786,942 9,411,497 10,383,000
(Estimated) Total net revenues
growth - 0.203060605 0.222574223 0.208625543 0.10322513
(Estimated) Cost of sales including
occupancy costs 2,198,654 2,605,212 3,178,791 3,999,124 4,645,300
(Estimated) Cost of sales including
occupancy costs - 0.184912224 0.22016596 0.258064465 0.161579386
(Estimated) Total operating
expenses 4,744,787 5,665,430 6,986,927 8,465,558 9,725,800
(Estimated) Total operating
expenses growth - 0.194032525 0.233256258 0.211628231 0.148866974
(Estimated) EBIT 624,257 796,444 906,243 1,056,364 779,800
(Estimated) EBIT growth - 0.275827103 0.137861545 0.165652038 -0.261807483
(Estimated) Net earnings 391,775 494,467 564,259 672,638 315,500
(Estimated) Net earnings growth - 0.262119839 0.141145921 0.192073144 -0.530951269
(Estimated) Gross margin 0.584708836 0.590973576 0.591779289 0.575080989 0.55260522
(Estimated) EBIT Margin 0.11791233 0.125044196 0.116379832 0.112241868 0.075103535
(Estimated) Profit margin 0.074000136 0.077632864 0.072462207 0.07146982 0.030386208
(Estimated) Depreciation &
amortization expenses 280,024 340,169 387,211 467,160 549,300
(Estimated) Depreciation &
amortization expenses growth - 0.214785161 0.138290085 0.20647399 0.17582841
% of PP&E 0.104620036 0.102396575 0.094841778 0.091757048 0.096076819
Effect Income Tax Rate 0.372413926 0.379156601 0.358369665 0.363251682 0.313384113
Weight 0.1 0.1 0.1 0.3 0.4
Weighted Effective Tax Rate 0.037241393 0.03791566 0.035836966 0.108975505 0.125353645
32
2009 E 2010 E 2011 E 2012 E 2013 E
(Estimated) Company-operated retail
revenue
(Estimated) Company-operated retail
revenue growth
(Estimated) Speciality licensing
revenue
(Estimated) Specialty licensing revenue
growth
(Estimated) Speciality foodservice and
other revenue
(Estimated) Specialty foodservice and
other revenue growth
(Estimated) Total net revenues 9,811,252 9,541,120 10,495,232 11,544,755 12,699,231
(Estimated) Total net revenues growth -0.055065761 -0.02753288 0.1 0.1 0.1
(Estimated) Cost of sales including
occupancy costs
(Estimated) Cost of sales including
occupancy costs
(Estimated) Total operating expenses
(Estimated) Total operating expenses
growth
(Estimated) EBIT 327,948 327,948 344,346 361,563 379,641
(Estimated) EBIT growth -0.676265271 0 0.05 0.05 0.05
(Estimated) Net earnings
(Estimated) Net earnings growth
(Estimated) Gross margin
(Estimated) EBIT Margin
(Estimated) Profit margin
(Estimated) Depreciation &
amortization expenses 518,682 504,401 534,291 576,418 621,627
(Estimated) Depreciation &
amortization expenses growth
% of PP&E 0.0979 0.0979 0.0979 0.0979 0.0979
Effect Income Tax Rate
Weight
Weighted Effective Tax Rate
33
Analysis of Fixed Capital Investment 2004 A 2005 A 2006 A 2007 A 2008 A
(Estimated) Property, plant &
equipment, at cost 2,676,581 3,322,074 4,082,705 5,091,271 5,717,300
(Estimated) Property, plant &
equipment, at cost growth - 0.24116326 0.22896269 0.247033768 0.122961241
Change in PP&E 645,493 760,631 1,008,566 626,029
% of Net Revenues 0.505564058 0.521575997 0.524301452 0.540962931 0.55064047
Analysis of Net Working Capital
2004 2005 2006 2007 2008
Current Assets - Cash 770,229 861,716 904,576 1,415,226 1,478,200
Current Liab - ST Debt 782,245 949,248 1,234,858 1,444,543 1,476,000
NWC -12,016 -87,532 -330,282 -29,317 2,200
NWC_Change - -75,516 -242,750 300,965 31,517
CAGrowth 0.118778961 0.049737965 0.564518625 0.044497487
CLGrowth 0.213491937 0.300880276 0.169804949 0.021776437
0.1 0.1 0.3 0.5
Weighted_CAGrowthRate 0.011877896 0.004973796 0.169355588 0.022248743
Weighted_CLGrowthRate 0.021349194 0.030088028 0.050941485 0.010888219
FCFF from EBIDTA
EBIT(1-T) 391,775 494,467 581,473 672,638 535,423
+Dep 280,024 340,169 387,211 467,160 549,300
-FCInv - 645,493 760,631 1,008,566 626,029
-WCInv - -75,516 -242,750 300,965 31,517
FCFF = 264,659 450,803 -169,733 427,177
FCFF from CFO
(Estimated) Cash flow from
operations 793,848 923,608 1,131,633 1,331,221 1,258,700
(Estimated) Cash flow from
operations growth 0.163456984 0.225230834 0.176371668
-
0.054477055
+ Int(1-Tax Rate) 34,961
-FCInv - 645,493 760,631 1,008,566 626,029
FCFF = 278,115 371,002 322,655 667,632
34
Analysis of Fixed Capital Investment 2009 E 2010 E 2011 E 2012 E 2013 E
(Estimated) Property, plant & equipment, at
cost 5,298,076 5,152,205 5,457,521 5,887,825 6,349,615
(Estimated) Property, plant & equipment, at
cost growth
Change in PP&E -419,224 -145,871 305,316 430,305 461,790
% of Net Revenues 0.54 0.54 0.52 0.51 0.5
Analysis of Net Working Capital
2009 2010 2011 2012 2013
Current Assets - Cash 1,765,562 2,108,787 2,518,736 3,008,378 3,593,206
Current Liab - ST Debt 1,736,514 2,043,009 2,403,600 2,827,835 3,326,948
NWC 29,048 65,779 115,136 180,543 266,258
NWC_Change 26,848 36,731 49,357 65,407 85,716
CAGrowth 0.1944 0.1944 0.1944 0.1944 0.1944
CLGrowth 0.1765 0.1765 0.1765 0.1765 0.1765
Weighted_CAGrowthRate
Weighted_CLGrowthRate
FCFF from EBIDTA
EBIT(1-T) 214,708 214,708 225,443 236,715 248,551
+Dep 518,682 504,401 534,291 576,418 621,627
-FCInv -419,224 -145,871 305,316 430,305 461,790
-WCInv 26,848 36,731 49,357 65,407 85,716
FCFF = 1,125,765 828,249 405,061 317,422 322,672
FCFF from CFO
(Estimated) Cash flow from operations 1,080,846 1,004,484 1,024,574 1,055,311 1,097,523
(Estimated) Cash flow from operations
growth -0.1413 -0.07065 0.02 0.03 0.04
+ Int(1-Tax Rate) 34,961 34,961 34,961 34,961 34,961
-FCInv -419,224 -145,871 305,316 430,305 461,790
FCFF = 1,535,030 1,185,316 754,219 659,967 670,694
35
Appendix O: Va|uation App|ication
2009 2010 2011 2012 2013 Terminal
FCFF From
EBIT 1,125,765 828,249 405,061 317,422 322,672
FCFF From
CFO 1,535,030 1,185,316 754,219 659,967 670,694
Target D/E Ratio: 0.180759743
Cost of Equity:
Risk Free Rate: 0.02
Beta: 0.93
Market Risk Premium: 0.065
0.08045
Cost of Debt: 0.0425555
WACC: 0.0736002
FCFF Growth Rate: 0.04
PV of FCFF
(EBIT) 1,048,589 718,581 327,335 238,928 226,229 7,002,296
Value of the Firm: 9,561,959
Less: Debt 549,600
Value of Equity: 9,012,359
Weighted average shares oustanding:
Basic: 731,500
Diluted: 741,700
Intrinsic Value:
Basic: 12.32038187
Diluted: 12.15094963
PV of FCFF
(CFO) 1,429,797 1,028,369 609,494 496,766 470,231 14,554,691
Value of the Firm: 18,589,349
Less: Debt 549,600
Value of Equity: 18,039,749
Weighted average shares oustanding:
Basic: 731,500
Diluted: 741,700
Intrinsic Value:
Basic: 24.66131145
Diluted: 24.32216439
36
Growth Rate
3% 4% 5%
Firm Value 7,904,048 9,561,959 12,624,868
Equity Value 7,354,448 9,012,359 12,075,268
Implied Share Value
Basic $10.05 $12.32 $16.51
Diluted $9.92 $12.15 $16.28