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SBUX > SEC Filings for SBUX > Form 10-Q on 29-Jul-2014All Recent SEC Filings

Show all filings for STARBUCKS CORP

Form 10-Q for STARBUCKS CORP


29-Jul-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 margins, comparable store sales, sales leverage, sales growth, profitability, expenses, dividends, share repurchases, other financial results, net benefits from the sale of retail operations that may close in the fourth quarter of fiscal 2014, 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, establishing China as our largest market outside the U.S., profitable growth models and opportunities, emerging businesses, strategic acquisitions, commodity costs and our mitigation strategies, liquidity, cash flow from operations, use of cash and cash requirements, repatriation of cash to the U.S., the potential issuance of debt and applicable interest rate, anticipated store openings and closings, 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, offerings 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.


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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 third quarter results reflect an acceleration of top-line growth and meaningful contributions from all segments. Consolidated total net revenues increased 11% to $4.2 billion, driven by global comparable store sales growth of 6% and incremental revenue from 1,654 net new store openings over the last 12 months. Consolidated operating income increased $153 million, or 25%, to $769 million. Operating margin expanded 200 basis points to 18.5%, driven by sales leverage and favorable commodity costs, mainly coffee. Earnings per share of $0.67 increased 22% over the prior year quarter earnings per share of $0.55. The Americas segment continued its solid performance in the third quarter, growing revenues by 10% to $3.1 billion, primarily driven by comparable store sales growth of 6%, comprised of a 4% increase in average ticket and a 2% increase in number of transactions. Expanded food offerings, including the continued rollout of our La Boulange™ food platform in the US, the impact of price increases in our retail stores and successful promotional beverages contributed to the growth in comparable store sales. Operating margin expanded 150 basis points to 23.8%, primarily due to sales leverage. Looking forward, we expect to continue to drive revenue growth and margin expansion through new stores and expanded product offerings, targeted at driving growth across all dayparts. We plan to continue to expand our beverage platforms and elevate our food program, in part with the completion of the rollout of La Boulange™ bakery items in our US stores in the fourth quarter of fiscal 2014 and continued enhancements to our lunch options.
In the EMEA segment, the turnaround of the segment continues to progress, resulting in increased profitability. Revenues grew 13% to $323 million, driven by favorable foreign currency exchange and comparable store sales growth of 3%. Incremental revenues from 166 net new licensed store openings over the past year also contributed. Sales leverage, largely driven by our strategic portfolio shift to higher-margin licensed stores, and continued cost management drove the increase in operating margin of 580 basis points over the prior year quarter, to 9.0%. We expect our 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.
The China/Asia Pacific segment results reflect the growth and strong performance of new stores in the region, including 238 company-operated and 502 licensed net new store openings over the past year. New store growth, along with a 7% increase in comparable store sales, drove a 23% increase in revenues to $288 million. The 7% growth in comparable store sales was driven by a 6% increase in number of transactions. Operating income grew 19%, to $101 million, while operating margin declined 120 basis points to 35.0%. The operating margin decline was primarily driven by the unfavorable margin impact of the portfolio shift toward more company-operated stores in this segment and unfavorable foreign currency exchange from a weaker Yen, partially offset by leverage from strong sales during the quarter. We expect this segment will become a more significant 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 13% for the quarter to $375 million, primarily due to increased sales of premium single serve products, driven by sales of Starbucks- and Tazo-branded K-Cup® portion packs, and higher sales volumes of packaged coffee. Operating income grew $43 million, or 45%, to $139 million. Operating margin increased 800 basis points to 37.1% for the third quarter of fiscal 2014, driven by lower coffee costs and improved inventory management compared to the prior year. 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. Fiscal 2014 - Financial Outlook for the Year For fiscal year 2014, we expect revenue growth will be driven by mid-single digit comparable store sales growth, net 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 200 basis points over fiscal 2013 and strong EPS growth, when excluding the Kraft litigation charge and gains from the sales of our equity in our Mexico, Chile and Argentina joint ventures in fiscal 2013, as well as the benefit recognized from a litigation credit in the first quarter of fiscal 2014 and the estimated net benefit from the sale of certain retail operations that may close in the fourth quarter of fiscal 2014.


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Fiscal 2015 - Financial Outlook for the Year For fiscal year 2015, we expect revenue growth driven by mid-single digit comparable store sales growth and approximately 1,600 net new store openings. Approximately one-half of new store openings will be in China / Asia Pacific, with the remaining half coming primarily from the Americas.
We expect EPS growth over fiscal 2014 results, reflecting the strength of our global business and multiple layers of profitable growth initiatives. Comparable Store Sales
Starbucks comparable store sales for the third quarter and the first three quarters of fiscal 2014:

                            Quarter Ended Jun 29, 2014          Three Quarters Ended Jun 29, 2014
                         Sales      Change in     Change in    Sales        Change in      Change in
                         Growth    Transactions    Ticket      Growth      Transactions     Ticket
Consolidated               6%           2%           4%          6%             3%            3%
Americas                   6%           2%           4%          6%             3%            3%
EMEA                       3%           2%           2%          5%             3%            1%
China/Asia Pacific         7%           6%           1%          7%             6%            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. Results of Operations (in millions)

Revenues

                                     Quarter Ended                    Three Quarters Ended
                            Jun 29,      Jun 30,        %        Jun 29,       Jun 30,        %
                              2014         2013      Change       2014          2013       Change
Company-operated stores    $ 3,290.5    $ 2,986.3     10.2 %   $  9,702.3    $  8,783.7     10.5 %
Licensed stores                408.1        342.0     19.3        1,166.1       1,014.2     15.0
CPG, foodservice and other     455.1        407.0     11.8        1,398.7       1,280.2      9.3
Total net revenues         $ 4,153.7    $ 3,735.3     11.2 %   $ 12,267.1    $ 11,078.1     10.7 %

Total net revenues for the third quarter and the first three quarters of fiscal 2014 increased $418 million and $1.2 billion, respectively, primarily due to increased revenues from company-operated stores (contributing $304 million and $919 million, respectively). An increase in comparable store sales was the primary driver of the increase in company-operated store revenues (approximately 6% for both periods, or $181 million for the third quarter and $493 million for the first three quarters). Also contributing to net revenue growth for both periods were incremental revenues from 549 net new Starbucks® company-operated store openings over the past 12 months (approximately $140 million for the third quarter and $395 million for the first three quarters).
Licensed store revenue growth also contributed to the increase in total net revenues for the third quarter and the first three quarters of fiscal 2014 (approximately $66 million for the third quarter and $152 million for the first three quarters). The increase for both periods was 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 1,074 net new licensed stores over the past 12 months.
CPG, foodservice and other revenues increased $48 million and $119 million for the third quarter and the first three quarters of fiscal 2014, respectively. These increases were primarily due to increased sales of premium single serve products (approximately $26 million and $74 million, respectively). For the third quarter of fiscal 2014, increased sales volumes of packaged coffee (approximately $16 million) also contributed.


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Operating Expenses

                                      Quarter Ended                                 Three Quarters Ended
                       Jun 29,       Jun 30,     Jun 29,    Jun 30,      Jun 29,       Jun 30,     Jun 29,    Jun 30,
                        2014          2013         2014       2013        2014          2013         2014       2013
                                                     % of Total                                        % of Total
                                                    Net Revenues                                      Net Revenues
Cost of sales
including occupancy
costs                $ 1,711.5     $ 1,597.6       41.2 %     42.8 %   $ 5,135.7     $ 4,748.6      41.9  %     42.9 %
Store operating
expenses               1,176.5       1,084.1       28.3       29.0       3,486.1       3,212.2      28.4        29.0
Other operating
expenses                 120.6          98.9        2.9        2.6         346.3         330.8       2.8         3.0
Depreciation and
amortization
expenses                 180.1         153.3        4.3        4.1         524.2         455.3       4.3         4.1
General and
administrative
expenses                 269.4         249.6        6.5        6.7         752.6         711.7       6.1         6.4
Litigation                                                                 (20.2 )
charge/(credit)              -             -          -          -                           -      (0.2 )         -
Total operating
expenses               3,458.1       3,183.5       83.3       85.2      10,224.7       9,458.6      83.4        85.4
Income from equity
investees                 72.9          63.4        1.8        1.7         183.9         170.4       1.5         1.5
Operating income     $   768.5     $   615.2       18.5 %     16.5 %   $ 2,226.3     $ 1,789.9      18.1  %     16.2 %
Store operating
expenses as a % of
related revenues                                   35.8 %     36.3 %                                35.9  %     36.6 %

Cost of sales including occupancy costs as a percentage of total net revenues decreased 160 basis points and 100 basis points for the third quarter and first three quarters of fiscal 2014, respectively, primarily driven by lower commodity costs (approximately 80 basis points for both periods), mainly coffee. For the third quarter of fiscal 2014, sales leverage (approximately 50 basis points), primarily on occupancy costs, also contributed to the decrease. Store operating expenses as a percentage of total net revenues decreased 70 basis points and 60 basis points for the third quarter and for the first three quarters of fiscal 2014, respectively. Store operating expenses as a percentage of company-operated store revenues decreased 50 basis points for the third quarter and 70 basis points for the first three quarters of fiscal 2014. The decrease for the third quarter was primarily driven by sales leverage. The decrease for the first three quarters of fiscal 2014 was primarily driven by higher litigation charges in the first quarter of the prior year period (approximately 30 basis points) and a decrease in marketing (approximately 20 basis points).
Other operating expenses as a percentage of total net revenues increased 30 basis points for the third quarter and decreased 20 basis points for the first three quarters of fiscal 2014. Excluding the impact of company-operated store revenues, other operating expenses increased 80 basis points for the third quarter and decreased 90 basis points for the first three quarters of fiscal 2014. The increase for the third quarter was primarily driven by increased marketing (approximately 50 basis points). The decrease for the first three quarters was primarily driven by sales leverage (approximately 40 basis points). General and administrative expenses as a percentage of total net revenues decreased 20 basis points and 30 basis points for the third quarter and for the first three quarters of fiscal 2014, respectively. The decrease for the third quarter was primarily driven by sales leverage. The decrease for the first three quarters was primarily due to lapping our leadership conference held in the first quarter of the prior year period.
The $20.2 million litigation credit (contributing approximately 20 basis points for the first three quarters of fiscal 2014) reflects a reduction to our estimated prejudgment interest payable associated with the Kraft arbitration in the first quarter of fiscal 2014, as a result of paying our obligation earlier than anticipated. The $2.8 billion litigation charge was accrued in the fourth quarter of fiscal 2013 and fully extinguished in the first quarter of fiscal 2014.
The combination of these changes resulted in an overall increase in operating margin of 200 basis points for the third quarter and 190 basis points for the first three quarters of fiscal 2014.


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Other Income and Expenses
                                     Quarter Ended                                Three Quarters Ended
                      Jun 29,      Jun 30,     Jun 29,    Jun 30,      Jun 29,       Jun 30,     Jun 29,    Jun 30,
                        2014         2013        2014       2013        2014          2013         2014       2013
                                                   % of Total                                        % of Total
                                                  Net Revenues                                      Net Revenues
Operating income     $  768.5     $  615.2      18.5  %    16.5  %   $ 2,226.3     $ 1,789.9      18.1  %    16.2  %
Interest income and
other, net               19.4          3.5       0.5        0.1           57.0          51.4       0.5        0.5
Interest expense        (16.4 )       (6.3 )    (0.4 )     (0.2 )        (47.7 )       (19.0 )    (0.4 )     (0.2 )
Earnings before
income taxes            771.5        612.4      18.6       16.4        2,235.6       1,822.3      18.2       16.4
Income taxes            259.0        194.6       6.2        5.2          755.4         581.4       6.2        5.2
Net earnings
including
noncontrolling
interests               512.5        417.8      12.3       11.2        1,480.2       1,240.9      12.1       11.2
Net earnings
attributable to
noncontrolling
interests                (0.1 )          -         -          -           (0.1 )         0.6         -          -
Net earnings
attributable to
Starbucks            $  512.6     $  417.8      12.3  %    11.2  %   $ 1,480.3     $ 1,240.3      12.1  %    11.2  %
Effective tax rate
including
noncontrolling
interests                                       33.6  %    31.8  %                                33.8  %    31.9  %

For the third quarter and first three quarters of fiscal 2014, net interest income and other increased $16 million and $6 million, respectively. These increases were primarily driven by favorable fair value adjustments from derivatives used to manage our risk of commodity price fluctuations (approximately $4 million for the third quarter and $21 million for the first three quarters)and increased income associated with unredeemed gift cards (approximately $6 million for the third quarter and $9 million for the first three quarters), primarily due to growth in the Starbucks Card program. For the first three quarters of fiscal 2014, an increase in unrealized gains on our trading securities portfolio (approximately $5 million) and net favorable foreign exchange fluctuations (approximately $5 million) also contributed to the overall increase in such period. The increase for the first three quarters of fiscal 2014 was partially offset by lapping the gain on the sale of our equity in the joint venture that operates Starbucks® stores in Mexico in the second quarter of the prior year period (approximately $35 million).
Interest expense increased $10 million for the third quarter and $29 million for the first three quarters of fiscal 2014, respectively, 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 quarter ended June 29, 2014 was 33.6% compared to 31.8% for the same quarter in fiscal 2013. The increase in the rate was primarily driven by lapping benefits from releasing certain tax reserves in the prior year period primarily related to expiration of statutes of limitation and the outcome of a federal audit. The effective tax rate for the three quarters ended June 29, 2014 was 33.8% compared to 31.9% for the same period in fiscal 2013. The increase in the rate for the first three quarters of fiscal 2014 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 and lapping benefits from releasing certain tax reserves in the third quarter of fiscal 2013.


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Segment Information
Results of operations by segment (in millions):
Americas
                                      Quarter Ended                                 Three Quarters Ended
                       Jun 29,       Jun 30,     Jun 29,    Jun 30,      Jun 29,       Jun 30,     Jun 29,    Jun 30,
                        2014          2013         2014       2013        2014          2013         2014       2013
                                                    % of Americas                                     % of Americas
                                                    Net Revenues                                      Net Revenues
Total net revenues   $ 3,057.7     $ 2,776.5                           $ 8,939.4     $ 8,221.2
Cost of sales
including occupancy
costs                  1,130.0       1,051.2       37.0 %     37.9 %     3,353.8       3,143.6       37.5 %     38.2 %
Store operating
expenses               1,002.4         934.8       32.8       33.7       2,965.9       2,786.6       33.2       33.9
Other operating
expenses                  26.2          23.0        0.9        0.8          75.2          74.1        0.8        0.9
Depreciation and
amortization
expenses                 119.5         105.2        3.9        3.8         346.6         316.2        3.9        3.8
General and
administrative
expenses                  51.1          43.0        1.7        1.5         131.9         143.9        1.5        1.8
Total operating
expenses               2,329.2       2,157.2       76.2       77.7       6,873.4       6,464.4       76.9       78.6
Income from equity
investees                    -             -          -          -             -           2.4          -          -
Operating income     $   728.5     $   619.3       23.8 %     22.3 %   $ 2,066.0     $ 1,759.2       23.1 %     21.4 %
Store operating
expenses as a % of
related revenues                                   36.2 %     36.8 %                                 36.5 %     37.2 %

Revenues
Americas total net revenues for the third quarter and the first three quarters of fiscal 2014 increased $281 million, or 10%, and $718 million, or 9%, respectively. These increases were primarily due to higher revenues from company-operated stores (contributing $235 million and $621 million, respectively) and licensed stores (contributing $47 million and $103 million, respectively).
The increase in company-operated store revenues for both periods was driven by an increase in comparable store sales (approximately 6% for both periods, or $161 million for the third quarter and approximately $427 million, for the first three quarters). Also contributing were incremental revenues from 316 net new Starbucks® company-operated store openings over the past 12 months (approximately $101 million and $280 million, respectively). Partially offsetting these increases was unfavorable foreign currency exchange (approximately $16 million and $53 million, respectively), primarily driven by the strengthening of the US dollar against the Canadian dollar.
The increases in licensed store revenues were 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 440 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 90 basis points and 70 basis points for the third quarter and the first three quarters of fiscal 2014, respectively. These decreases were primarily driven by sales leverage (approximately 50 basis points for the third quarter and 40 basis points for the first three quarters), primarily on occupancy costs. Lower commodity costs (approximately 30 basis points for the third quarter and 40 basis points for the first three quarters), mainly coffee, also contributed.
Store operating expenses as a percentage of total net revenues decreased 90 basis points and 70 basis points for the third quarter and the first three quarters of fiscal 2014, respectively. Store operating expenses as a percentage of company-operated store revenues decreased 60 basis points and 70 basis points for the third quarter and for the first three quarters of fiscal 2014, respectively. The decrease for the third quarter was primarily driven by sales leverage. The decrease for the first three quarters was primarily driven by higher litigation charges in the first quarter of the prior year period (approximately 30 basis points) and a decrease in marketing (approximately 20 basis points).
General and administrative expenses as a percentage of total net revenues increased 20 basis points for the third quarter and decreased 30 basis points for the first three quarters of fiscal 2014. The increase for the third quarter was primarily driven by


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higher compensation-related costs (approximately 20 basis points). The decrease for the first three quarters was primarily due to lapping our leadership conference held in the first quarter of the prior year period (approximately 30 basis points).
The combination of these changes resulted in an overall increase in operating margin of 150 basis points for the third quarter and 170 basis points for the first three quarters of fiscal 2014.

EMEA
                                      Quarter Ended                                 Three Quarters Ended
                       Jun 29,       Jun 30,     Jun 29,    Jun 30,      Jun 29,       Jun 30,     Jun 29,    Jun 30,
                        2014          2013         2014       2013        2014          2013         2014       2013
                                                      % of EMEA                                         % of EMEA
                                                    Net Revenues                                      Net Revenues
Total net revenues   $   323.5     $   287.2                           $   973.0     $   866.6
Cost of sales
including occupancy
costs                    161.4         147.5       49.9 %     51.4 %       487.9         440.8       50.1 %     50.9 %
Store operating
expenses                  91.4          85.8       28.3       29.9         280.1         259.3       28.8       29.9
. . .
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