Business context and reporting period
Starbucks Corporation’s unaudited Form 10-Q covers fiscal first quarter 2014, ended December 29, 2013, compared with the quarter ended December 30, 2012. Starbucks reported strong growth across its segments; results include a large cash payment settling the Kraft arbitration award.
Key financial metrics
| Metric | Q1 FY2014 | Prior-year quarter |
|---|---|---|
| Net revenue | $4.240 billion | $3.793 billion |
| Operating income | $813.5 million | $630.6 million |
| Operating margin | 19.2% | 16.6% |
| Net earnings attributable to Starbucks | $540.7 million | $432.2 million |
| Diluted EPS | $0.71 | $0.57 |
| Operating cash flow | $(1.402) billion | $1.067 billion |
- Revenue increased 11.8%; management reported global comparable-store sales growth of 5%, with transactions up 4% and average ticket up 1%.
- Cash and cash equivalents were $1.546 billion; short-term investments were $157.0 million. Long-term investments were $480.0 million.
- Long-term debt was $2.048 billion carrying value at quarter-end, versus $1.299 billion at September 29, 2013. Starbucks issued $750 million of senior notes during the quarter.
- Quarterly dividend declared was $0.26 per share. Capital expenditures were $256.1 million.
Material changes versus the prior comparable period
- Operating income rose 29% and operating margin expanded 260 basis points. Management attributed the improvement to lower coffee costs, sales leverage, lower marketing and administrative costs, and comparisons with prior-year litigation, leadership-conference and Superstorm Sandy costs. A $20.2 million Kraft-related litigation credit also contributed.
- Net earnings increased about 25%; diluted EPS increased from $0.57 to $0.71. The effective tax rate rose to 34.0% from 30.4%, primarily because the prior-year quarter included a net tax benefit.
- Operating cash flow turned negative because Starbucks paid $2.764 billion toward the Kraft arbitration obligation. Cash and short-term investments declined from $3.234 billion at fiscal year-end to $1.703 billion.
- Comparable-store sales were up 5% in the Americas, 5% in EMEA, and 8% in China/Asia Pacific. China/Asia Pacific revenue grew 25%, but its operating margin declined 330 basis points to 30.4%, mainly reflecting lower equity-investee income, particularly from Japan.
- Starbucks corrected an immaterial prior-period classification error, reclassifying certain foodservice fees from other operating expenses to revenue. It stated the correction did not affect operating income, net earnings, or cash flows.
Outlook, commentary, risks and unusual items
- For fiscal 2014, management expected revenue growth from mid-single-digit comparable-store sales growth, new stores and Channel Development. About half of planned new stores were expected in China/Asia Pacific.
- Management expected full-year consolidated operating-margin improvement of 150–200 basis points over fiscal 2013, excluding the Kraft litigation charge, and strong EPS growth. Fiscal 2014 capital expenditures were expected to be approximately $1.2 billion.
- Management said operating cash flows, cash and investments should fund core-business needs and shareholder distributions for the foreseeable future. It noted that repatriating foreign funds could result in additional U.S. taxes, potentially material, but said it did not anticipate needing to repatriate funds for domestic liquidity.
- The Kraft arbitrator ordered Starbucks to pay $2.228 billion in damages, plus interest and attorneys’ fees. Starbucks had accrued $2.784 billion in fiscal 2013, paid the amounts due in Q1 FY2014, and extinguished the liability; the remaining accrual was released as a $20.2 million credit. Other ordinary-course legal matters included employment cases; management did not identify another proceeding it believed could materially adversely affect the company.
- Key risks cited include volatility and availability of coffee, dairy and other inputs; foreign-exchange and economic conditions; competition; execution of initiatives; and legal proceedings. Results are seasonal, and the company cautioned that one quarter is not necessarily indicative of the full year. No material changes to previously disclosed risk factors were reported.
Important facts for investors to verify
- Reconcile the negative operating cash flow and sharp liquidity decline to the Kraft payment, and assess cash generation excluding that one-time settlement.
- Track debt service and liquidity after the $750 million note issuance, including the company’s stated capital-spending and shareholder-return plans.
- Evaluate whether comparable-store sales growth, margin expansion and China/Asia Pacific growth persist, particularly given the region’s lower reported margin and reduced equity-investee income.
- Monitor delivery against the fiscal 2014 margin, revenue and EPS outlook, including the basis for excluding the prior-year Kraft charge from the margin comparison.
- Assess coffee and other commodity costs, foreign-exchange exposure, and potential taxes if foreign earnings are repatriated.