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SBUX > SEC Filings for SBUX > Form 10-Q on 28-Jan-2014All Recent SEC Filings

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Form 10-Q for STARBUCKS CORP


28-Jan-2014

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

CAUTIONARY STATEMENT PURSUANT TO THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995
Certain statements herein, including statements regarding trends in or expectations relating to the expected effects of our initiatives and plans, as well as trends in or expectations regarding earnings per share, revenues, operating income, operating margins, comparable store sales, sales leverage, sales growth, profitability, expenses, dividends, share repurchases, other financial results, capital expenditures, scaling and expansion of international operations, shifts in our store portfolio to more licensed stores in EMEA and to more company-operated stores in CAP, profitable growth models and opportunities, strategic acquisitions, commodity costs and our mitigation strategies, the transition from our distribution arrangement with Kraft to a direct distribution model, liquidity, cash flow from operations, use of cash, the potential issuance of debt and applicable interest rate, anticipated store openings, closings and renovations, the health and growth of our business overall and of specific businesses or markets, benefits of recent initiatives, increased traffic to our stores, operational efficiencies, product innovation and distribution, tax rates, and economic conditions in the US and international markets, constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are based on currently available operating, financial and competitive information and are subject to various risks and uncertainties. Actual future results and trends may differ materially depending on a variety of factors, including, but not limited to, coffee, dairy and other raw materials prices and availability, successful execution of our initiatives, successful execution of internal plans, fluctuations in US and international economies and currencies, the impact of competitors' initiatives, the effect of legal proceedings, and other risks detailed in our filings with the SEC, including in Part I Item IA "Risk Factors" in the 10-K.
A forward-looking statement is neither a prediction nor a guarantee of future events or circumstances, and those future events or circumstances may not occur. You should not place undue reliance on the forward-looking statements, which speak only as of the date of this report. We are under no obligation to update or alter any forward-looking statements, whether as a result of new information, future events or otherwise.
This information should be read in conjunction with the condensed consolidated financial statements and the notes included in Item 1 of Part I of this 10-Q and the audited consolidated financial statements and notes, and Management's Discussion and Analysis of Financial Condition and Results of Operations, contained in the 10-K.
General
Our fiscal year ends on the Sunday closest to September 30. All references to store counts, including data for new store openings, are reported net of store closures, unless otherwise noted.
Overview
Starbucks first quarter results reflect a strong start to fiscal 2014 across all segments. Total net revenues increased 12% to $4.2 billion, with every segment contributing. Global comparable store sales grew 5%, driven by a 4% increase in the number of transactions. Consolidated operating income increased 29% to $814 million and operating margin expanded 260 basis points to 19.2%. Earnings per share was $0.71, representing growth of 25% over the prior year quarter. The Americas segment continued its solid performance in the first quarter, growing revenues by 8% to $3.1 billion, primarily driven by comparable store sales growth of 5%, comprised of a 4% increase in the number of transactions and a 1% increase in average ticket. Successful holiday beverages and expanded food offerings, including our new La Boulange™ bakery platform, contributed to the growth in comparable store sales. Operating margin expanded 300 basis points to 23.8%, primarily due to lapping costs incurred in the prior year quarter for our leadership conference, incremental litigation charges, and the impact of Superstorm Sandy. Lower coffee costs and sales leverage also contributed. Looking forward, we expect to continue to drive revenue growth and margin expansion through new stores and expanded product offerings, including the completion of the rollout of La Boulange™ bakery items in our retail stores. In the EMEA segment, the cost management and store portfolio optimization work we have undertaken is translating into improved results. Revenues grew 11% to $340 million, driven by a combination of licensed store revenue growth and a 5% increase in comparable store sales for our company-operated stores. Our strategic portfolio shift to higher margin licensed stores drove the increase in operating margin of 260 basis points over the prior year to 9.9%. We expect continued disciplined licensed store expansion and focus on the customer experience in this region will result in improved operating performance as we progress on our plan towards mid-teens operating margin over time.


Table of Contents

The China/Asia Pacific segment continues to be our fastest growing and highest margin region. New store growth, along with an 8% increase in comparable store sales, drove a 25% increase in total net revenues to $267 million. Operating income grew 12% to $81 million, while operating margin declined 330 basis points to 30.4%. The margin contraction was driven by a lower contribution from our equity investees, specifically Japan. We expect this segment will become a more meaningful contributor to overall company profitability in the future, as we look forward to continued new store openings and establishing China as our largest market outside of the US.
Channel Development segment revenues grew 7% for the quarter to $401 million, primarily due to increased sales of premium single serve products, driven by sales of Starbucks- and Tazo-branded K-Cup® portion packs. This was partially offset by the packaged coffee price reductions taken in the third quarter of fiscal 2013. Operating margin increased 370 basis points to 29.6% for the first quarter of fiscal 2014, primarily driven by lower coffee costs. As we continue to expand customer occasions outside of our retail stores, including growing our presence in the premium single serve category, we expect this segment to become a more significant contributor to future growth. Comparable Store Sales
Starbucks comparable store sales for the first quarter of fiscal 2014:

Quarter Ended Dec 29, 2013

                     Sales     Change in     Change in
                     Growth   Transactions    Ticket
Consolidated           5%          4%           1%
Americas               5%          4%           1%
EMEA                   5%          3%           1%
China / Asia Pacific   8%          7%           1%

Our comparable store sales represent the growth in revenue from Starbucks® company-operated stores open 13 months or longer. Comparable store sales exclude the effect of fluctuations in foreign currency exchange rates. Fiscal 2014 - Financial Outlook for the Year For fiscal year 2014, we expect revenue growth driven by mid-single digit comparable store sales growth, new store openings, and continued growth in the Channel Development business. Approximately one-half of new store openings will be in China / Asia Pacific, with the remaining half coming primarily from the Americas.
We expect full-year consolidated operating margin improvement of 150 to 200 basis points over fiscal 2013 when excluding the Kraft litigation charge and strong EPS growth.
Results of Operations (in millions)

Revenues

                                     Quarter Ended
                            Dec 29,      Dec 30,        %
                              2013         2012      Change
Company-operated stores    $ 3,343.8    $ 2,989.6     11.8 %
Licensed stores                401.8        350.2     14.7
CPG, foodservice and other     494.0        453.4      9.0
Total net revenues         $ 4,239.6    $ 3,793.2     11.8 %

Total net revenues for the first quarter of fiscal 2014 increased $446 million, or 12%, over the prior year period, primarily due to increased revenues from company-operated stores (contributing $354 million), driven by a 5% increase in comparable store sales (approximately $160 million) and incremental revenues from 527 net new company-operated store openings over the past 12 months (approximately $128 million).
Also contributing to the increase in total net revenues was licensed store revenue growth of $52 million, primarily due to increased product sales to and royalty revenues from our licensees, as a result of improved comparable store sales and the opening of 1,005 net new licensed stores over the past 12 months.


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CPG, foodservice and other revenues increased $41 million for the first quarter of fiscal 2014, primarily due to increased sales of premium single serve products (approximately $25 million).

Operating Expenses

                                                            Quarter Ended
                                          Dec 29,        Dec 30,        Dec 29,      Dec 30,
                                            2013           2012          2013          2012
                                                                             % of Total
                                                                            Net Revenues
Cost of sales including occupancy costs $  1,795.1     $  1,620.7         42.3  %       42.7 %
Store operating expenses                   1,175.1        1,089.5         27.7          28.7
Other operating expenses                     114.9          126.1          2.7           3.3
Depreciation and amortization expenses       169.7          148.9          4.0           3.9
General and administrative expenses          242.6          231.9          5.7           6.1
Litigation charge/(credit)                   (20.2 )            -         (0.5 )           -
Total operating expenses                   3,477.2        3,217.1         82.0          84.8
Income from equity investees                  51.1           54.5          1.2           1.4
Operating income                        $    813.5     $    630.6         19.2  %       16.6 %
Store operating expenses as a % of
related revenues                                                          35.1  %       36.4 %

Cost of sales including occupancy costs as a percentage of total net revenues decreased 40 basis points for the first quarter of fiscal 2014, primarily driven by lower coffee costs (approximately 80 basis points), partially offset by the impact of trade promotions on total net revenues (approximately 20 basis points). Sales leverage on occupancy costs also contributed.
Store operating expenses as a percentage of total net revenues decreased 100 basis points for the first quarter of fiscal 2014. Store operating expenses as a percentage of company-operated store revenues decreased 130 basis points for the quarter, primarily driven by higher litigation charges in the prior year quarter (approximately 80 basis points) and decreased marketing (approximately 60 basis points), largely due to lapping the prior year launch of the Verismo® system by Starbucks in company-operated stores. Sales leverage also contributed.

Other operating expenses as a percentage of total net revenues decreased 60 basis points for the first quarter of fiscal 2014. Excluding the impact of company-operated store revenues, other operating expenses decreased 290 basis points for the first quarter, in part due to decreased marketing, primarily resulting from lapping the prior year launch of the Verismo® system by Starbucks in Channel Development.

General and administrative expenses as a percentage of total net revenues decreased 40 basis points for the first quarter of fiscal 2014, primarily due to lapping our leadership conference held in the prior year quarter (approximately 60 basis points).

The $20.2 million litigation credit (contributing approximately 50 basis points) reflects a reduction to our estimated prejudgment interest payable associated with the Kraft arbitration, as a result of paying our obligation earlier than anticipated. The $2.8 billion litigation charge was accrued for in the fourth quarter of fiscal 2013 and fully extinguished in the first quarter of fiscal 2014.
Lapping the impact of Superstorm Sandy, which unfavorably impacted revenues and various expense lines in the prior year quarter, also contributed (approximately 20 basis points). The combination of these changes resulted in an overall increase in operating margin of 260 basis points for the first quarter of fiscal 2014.


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Other Income and Expenses
                                                             Quarter Ended
                                          Dec 29,        Dec 30,        Dec 29,       Dec 30,
                                            2013           2012          2013          2012
                                                                             % of Total
                                                                            Net Revenues
Operating income                        $    813.5     $    630.6         19.2  %       16.6  %
Interest income and other, net                19.8           (2.9 )        0.5          (0.1 )
Interest expense                             (14.5 )         (6.6 )       (0.3 )        (0.2 )
Earnings before income taxes                 818.8          621.1         19.3          16.4
Income taxes                                 278.1          188.7          6.6           5.0
Net earnings including noncontrolling
interests                                    540.7          432.4         12.8          11.4
Net earnings attributable to
noncontrolling interests                         -            0.2            -             -
Net earnings attributable to Starbucks  $    540.7     $    432.2         12.8  %       11.4  %
Effective tax rate including
noncontrolling interests                                                  34.0  %       30.4  %

For the first quarter of fiscal 2014, net interest income and other increased $23 million, primarily due to favorable mark-to-market adjustments from derivatives used to manage our risk of commodity price fluctuations (approximately $9 million), favorable foreign exchange fluctuations (approximately $5 million), and unrealized gains on our trading securities portfolio (approximately $4 million).
Interest expense increased $8 million, due to interest on the long-term debt we issued in the first quarter of fiscal 2014 and the fourth quarter of fiscal 2013.

The effective tax rate for the first quarter of fiscal 2014 was 34.0% compared to 30.4% for the same quarter in fiscal 2013. The increase in the rate was primarily due to lapping the recognition of a net tax benefit in the first quarter of fiscal 2013, primarily from state income tax expense adjustments for returns filed in prior years.

Segment Information
The following tables summarize the results of operations by segment (in
millions):
Americas

                                                            Quarter Ended
                                          Dec 29,        Dec 30,       Dec 29,      Dec 30,
                                            2013           2012          2013         2012
                                                                           % of Americas
                                                                           Net Revenues
Total net revenues                      $  3,073.0     $  2,840.7
Cost of sales including occupancy costs    1,164.2        1,092.5         37.9 %       38.5 %
Store operating expenses                     999.6          959.8         32.5         33.8
Other operating expenses                      25.3           30.0          0.8          1.1
Depreciation and amortization expenses       112.3          105.4          3.7          3.7
General and administrative expenses           39.5           62.7          1.3          2.2
Total operating expenses                   2,340.9        2,250.4         76.2         79.2
Operating income                        $    732.1     $    590.3         23.8 %       20.8 %
Store operating expenses as a % of
related revenues                                                          35.9 %       37.1 %

Revenues
Americas total net revenues for the first quarter of fiscal 2014 increased $232 million, or 8%, primarily due to higher revenues from company-operated stores (contributing $201 million) and licensed stores (contributing $35 million).


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The increase in company-operated store revenues was driven by a 5% increase in comparable store sales (approximately $137 million), and incremental revenues from 277 net new company-operated store openings over the past 12 months (approximately $90 million). Licensed store revenue growth was primarily due to increased product sales to and higher royalty revenues from our licensees, as a result of improved comparable store sales and the opening of 458 net new licensed stores over the past 12 months. Operating Expenses
Cost of sales including occupancy costs as a percentage of total net revenues decreased 60 basis points for the first quarter of fiscal 2014, primarily driven by lower coffee costs (approximately 50 basis points). Sales leverage on occupancy costs also contributed.
Store operating expenses as a percentage of total net revenues decreased 130 basis points for the first quarter of fiscal 2014. As a percentage of company-operated store revenues, store operating expenses decreased 120 basis points, primarily driven by higher litigation charges in the prior year period (approximately 90 basis points). Sales leverage also contributed. General and administrative expenses as a percentage of total net revenues decreased 90 basis points for the first quarter of fiscal 2014, primarily due to lapping our leadership conference held in the prior year quarter (approximately 80 basis points).
Lapping the impact of Superstorm Sandy, which unfavorably impacted revenues and various expense lines in the prior year quarter, also contributed (approximately 30 basis points). The combination of these changes resulted in an overall increase in operating margin of 300 basis points for the first quarter of fiscal 2014.

EMEA

                                                             Quarter Ended
                                           Dec 29,         Dec 30,       Dec 29,      Dec 30,
                                            2013            2012           2013         2012
                                                                               % of EMEA
                                                                             Net Revenues
Total net revenues                      $     339.5     $     306.1
Cost of sales including occupancy costs       168.2           152.5         49.5 %       49.8 %
Store operating expenses                       96.4            90.3         28.4         29.5
Other operating expenses                       11.6             8.4          3.4          2.7
Depreciation and amortization expenses         14.6            14.2          4.3          4.6
General and administrative expenses            16.0            18.4          4.7          6.0
Total operating expenses                      306.8           283.8         90.4         92.7
Income from equity investees                    0.8               -          0.2            -
Operating income                        $      33.5     $      22.3          9.9 %        7.3 %
Store operating expenses as a % of
related revenues                                                            35.8 %       35.7 %

Revenues
EMEA total net revenues increased $33 million, or 11%, for the first quarter of fiscal 2014. Licensed store revenues grew $17 million, or 38%, for the first quarter, due to increased product sales to and higher royalty revenues from our licensees, primarily from the opening of 163 net new licensed stores over the past 12 months and improved comparable store sales. Company-operated store revenues increased $16 million, driven by a 5% increase in comparable store sales (approximately $11 million).
Operating Expenses
Cost of sales including occupancy costs as a percentage of total net revenues decreased 30 basis points for the first quarter of fiscal 2014, primarily due to lower commodity costs (approximately 60 basis points).
Store operating expenses as a percentage of total net revenues decreased 110 basis points for the first quarter of fiscal 2014, driven by increased licensed store revenues. As a percentage of company-operated store revenues, store operating expenses increased 10 basis points.


Table of Contents

Other operating expenses as a percentage of total net revenues increased 70 basis points for the first quarter of fiscal 2014. Excluding the impact of company-operated store revenues, other operating expenses increased 80 basis points for the first quarter, primarily driven by increased costs to grow our licensed operations in the region (approximately 60 basis points). General and administrative expenses as a percentage of total net revenues decreased 130 basis points, primarily due to decreased salaries expense resulting from cost optimization initiatives in the region (approximately 100 basis points).
The combination of these changes resulted in an overall increase in operating margin of 260 basis points for the first quarter of fiscal 2014.

China / Asia Pacific

                                                             Quarter Ended
                                           Dec 29,         Dec 30,       Dec 29,      Dec 30,
                                            2013            2012           2013         2012
                                                                               % of CAP
                                                                             Net Revenues
Total net revenues                      $     266.9     $     214.1
Cost of sales including occupancy costs       132.7           106.5         49.7 %       49.7 %
Store operating expenses                       51.3            39.4         19.2         18.4
Other operating expenses                       10.6            10.2          4.0          4.8
Depreciation and amortization expenses         10.3             7.4          3.9          3.5
General and administrative expenses            14.0            12.6          5.2          5.9
Total operating expenses                      218.9           176.1         82.0         82.3
Income from equity investees                   33.1            34.1         12.4         15.9
Operating income                        $      81.1     $      72.1         30.4 %       33.7 %
Store operating expenses as a % of
related revenues                                                            25.4 %       26.2 %

Revenues
China/Asia Pacific total net revenues for the first quarter of fiscal 2014 increased $53 million, or 25%, primarily due to increased revenues from company-operated stores (contributing $51 million), driven by 254 net new company-operated store openings over the past 12 months (approximately $39 million) and an 8% increase in comparable store sales (approximately $12 million).
Operating Expenses
Cost of sales including occupancy costs as a percentage of total net revenues remained flat for the first quarter of fiscal 2014. Cost of sales decreased 130 basis points while occupancy costs increased 120 basis points, both primarily due to company-operated store growth outpacing licensed store growth. Store operating expenses as a percentage of total net revenues increased 80 basis points for the first quarter of fiscal 2014. As a percentage of company-operated store revenues, store operating expenses decreased 80 basis points for the first quarter, primarily driven by sales leverage. Other operating expenses as a percentage of total net revenues decreased 80 basis points for the first quarter of fiscal 2014, driven by the increase in company-operated store revenues. Excluding the impact of company-operated store revenues, other operating expenses increased 20 basis points for the first quarter.
Income from equity investees decreased $1 million for the first quarter of fiscal 2014, driven by lower income from our joint venture operation in Japan, primarily due to the weakening of the Yen against the US dollar, partially offset by improved performance of our joint venture operations in Korea and China. The decrease in income from equity investees paired with the growing topline segment revenues resulted in income from equity investees declining as a percentage of total net revenues.


Table of Contents

The changes in the above items resulted in an overall decrease in operating margin of 330 basis points for the first quarter of fiscal 2014.

Channel Development

                                                           Quarter Ended
                                        Dec 29,     Dec 30,       Dec 29,         Dec 30,
                                         2013        2012          2013             2012
                                                                 % of Channel Development
                                                                       Net Revenues
Total net revenues                     $  401.0    $  374.3
Cost of sales                             245.6       235.2          61.2 %           62.8 %
Other operating expenses                   48.0        57.6          12.0             15.4
Depreciation and amortization expenses      0.4         0.3           0.1              0.1
General and administrative expenses         5.4         4.8           1.3              1.3
Total operating expenses                  299.4       297.9          74.7             79.6
Income from equity investees               17.2        20.4           4.3              5.5
Operating income                       $  118.8    $   96.8          29.6 %           25.9 %

Revenues
Total Channel Development net revenues for the first quarter of fiscal 2014 increased $27 million, or 7%, driven by increased sales of premium single serve products (approximately $25 million), partially offset by the impact of the packaged coffee list price reductions (approximately $14 million) effective beginning in the third quarter of fiscal 2013. Also contributing was an increase in foodservice revenues (approximately $9 million) from increased sales volumes compared to the prior year quarter.
Operating Expenses
Cost of sales as a percentage of total net revenues decreased 160 basis points for the first quarter of fiscal 2014. The decrease was primarily driven by lower coffee costs (approximately 340 basis points), partially offset by the impact of the list price reductions on total net revenues (approximately 220 basis points).
Other operating expenses as a percentage of total net revenues decreased 340 basis points for the first quarter of fiscal 2014, primarily driven by decreased . . .

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