Starbucks Q1 Earnings In-Line; Ups View - Analyst Blog

Though coffee giant, Starbucks Corporation SBUX, could only meet the Zacks Consensus Estimate for earnings and missed the same for revenues, its strong comps, despite severe winter conditions, caught investor eye.

Moreover, Starbucks raised its profit outlook for the year expecting stronger growth in the fourth quarter. Its share price rose in response.

Adjusted earnings of 56 cents per share in second-quarter fiscal 2014 were in line with the Zacks Consensus Estimate and also within management's expected range of 54–55 cents. Earnings grew 17% year over year driven by strong comps and solid margin expansion.

Revenues and Comps

Total first-quarter sales were $3.87 billion which missed the Zacks Consensus Estimate of $3.97 billion. Nevertheless, revenues increased 9% year over year driven by new store openings, successful turnaround in Europe and solid improvement in U.S. comps due to impressive food performance.

Same-store sales (comps), which exclude the impact of the company-operated stores opened in the past 13 months, grew 6%, driven by 3% increase in global traffic. Despite terrible weather conditions, second-quarter comps were better than the first quarter as U.S. sales increased.

Strong Margins

Adjusted operating margin increased 130 basis points (bps) to 16.6% driven by strong sales leverage, lower coffee costs and lower operating expenses. Margins expanded in all the four operating segments.

Segment Details

Americas: Net revenue in this flagship segment rose 8% over the prior-year quarter to $2.81 billion, attributable to 6% growth in comps.

The comps were better than the first quarter as both traffic trends and ticket accelerated throughout the quarter despite an unusually harsh winter in most parts of the country that led to more store closures than ever before. Enhanced food offerings like the new breakfast sandwiches as well as the premium priced La Boulange bakery items; seasonal beverages including some premium drinks; and strong licensed store growth drove revenues and comps. Food contributed an impressive 2 points to comps growth in the second quarter.

Lunch offerings (expected to be launched next year), evening sales of wine and beer, handcrafted sodas, Teavana teas and increased contribution from loyalty/mobile program are expected to drive comps in the U.S. in the upcoming quarters.

Europe, Middle East and Africa (EMEA): Net revenue increased 13% year over year to $309.9 million in the quarter driven by solid traffic trends, strong licensed store growth and currency tailwinds. Comps grew 6% in the quarter representing the strongest growth in three years.

The company is trying to revive its business in Europe by pursuing increased higher-margin licensing opportunities, shutting down unprofitable stores, cutting general and administrative (G&A) expenses and implementing robust brand building initiatives. These initiatives turned around the segment from the second half of fiscal 2013.

China-Asia-Pacific CAP: Net revenue grew 24% to $265.3 million in the quarter driven by 7% increase in same-store sales and the rapid pace of store openings.

Channel Development/CPG: This segment includes whole bean and ground coffees, premium Tazo teas, a variety of ready-to-drink beverages, Starbucks VIA Ready Brew, and Starbucks and Tazo branded K-Cup packs sold through channels such as grocery, specialty retailers, foodservice etc.

Net revenue grew 10% year over year to $370.4 million in the quarter driven by strong performances of Starbucks/Tazo branded K-Cup portion packs which offset headwinds from lower pricing on packed coffee.

All-Other: The All-Other segment comprises emerging brands including Teavana (acquired in Dec 2012), Seattle's Best Coffee, Evolution Fresh and Digital Ventures. Revenues in the segment grew to $119.4 million, down 1% year over year, due to lower revenues at Seattle's Best Coffee. However, emerging businesses like Teavana and Evolution Fresh did well in the quarter.

Fiscal 2014 Earnings Outlook Increased Again

The fiscal 2014 adjusted earnings per share guidance was raised from a range of $2.59–$2.67 to $2.62–$2.68 due to higher-than-previously expected earnings growth in the fourth quarter. Excluding non-routine gains from last year and the Kraft litigation charge, this represents 20–22% growth over the fiscal 2013 levels.

We would like to remind investors that this is the second time this year that Strabucks has raised its earnings outlook — rising the first time in January at the first quarter conference call.

However, the company continues to expect revenues to grow 10% or higher. Comps are still expected to grow in the mid single-digit range.

In addition to food/beverage innovations, loyalty program and single-serve products, we believe Teavana tea, La Boulange bakery items, new handcrafted sodas called Fizzio and Evolution Fresh juices could emerge as meaningful top-line growth drivers in fiscal 2014. Fizzio beverages are expected to be launched in 3,000 U.S. stores this summer.

Earnings are expected in the range of 64–66 cents in the third quarter (maintained) and 71–75 cents in the fourth quarter (up from 70–75 cents expected previously).

Starbucks expects to open 1,500 stores in the year — 600 in America, 150 in EMEA and 750 in CAP.

Operating margin is now expected to expand approximately 175–200 bps year over year, up from 150–200 bps range. Higher revenues and lower coffee costs are expected to drive the margins.  Operating margin guidance excludes the litigation charge associated with the Kraft Foods Group, Inc. KRFT arbitration.

Starbucks carries a Zacks Rank #4 (Sell). The company has been in the news lately as a potential buyer of equity stake in Israeli home soda machine maker, SodaStream International, Ltd. SODA. Globes, an Israeli business news site reported on Wednesday that Starbucks was in “advanced talks” to buy a 10% stake in the company. Last week, another Israeli website reported that SodaStream was in talks to sell as much as 16% stake to a big buyer — possibly PepsiCo, Inc. PEP, Dr. Pepper Snapple or Starbucks.