Markets

Green Mountain Coffee Brewing Profits in Single-Serve Cups

By David Phillips

Updated on: December 18, 2008 / 1:33 AM EST / MoneyWatch

Even in a recession, Green Mountain Coffee Roasters has shown that consumers on a tight budget are willing to indulge on a fantastic cup of coffee -- by brewing their own java at home. The purveyor of specialty coffees and the Keurig single-cup brewing system has delivered nine consecutive quarters with net sales growth in excess of 39 percent. The company's core business strategy involves reaching new customers by expanding geographic penetration (from a regional to national presence) through new, multi-channel distribution and licensing deals. Single-cup brewing remains the revenue and profit driver for Green Mountain Coffee Roasters, according to its December 2008 FORM 10-K regulatory filing:

A significant percentage of our total revenue has increasingly been attributable to royalties and other revenue from sales of K-Cups for use with the Company's Keurig single-cup brewing systems. In fiscal 2008, total consolidated net sales of K-Cups, Keurig brewers and royalties earned upon shipment of K-Cups by licensed roasters represent approximately 70% of consolidated net sales of the Company. Continued acceptance of K-Cup single brewer systems and sales of K-Cups to our installed base of brewers is a significant factor in the Company's growth plans. Any substantial or sustained decline in the acceptance of K-Cups could materially adversely affect the Company's business and financial results.

In 2008, the company sold 983,000 Keurig brewers and shipped more than one billion K-Cups, an increase of 105 percent and 59 percent. Going forward, Green Mountain's financial performance will likely remain highly dependent upon sales of K-Cup portion packs. Shipments of K-Cup portion packs are expected to increase by 50 percent to 60 percent in 2009. Management opines the anticipated $40.3 million acquisition of Tully's, whose coffee is not readily available in K-Cups, gives the company an opportunity to grow the Keurig and K-Cup brands in more than 5,000 grocery stores located on the West Coast.

Despite formidable competitors in the single-cup brew industry, including the FLAVIA beverage system (MARS), the TASSIMO beverage system (KRAFT), and the SENSOE brewing system (Sara Lee), among others, Green Mountain is showing impressive growth in the installed base of brewing systems. At October 1, Keurig increased its unit market share for coffee makers in the single-serve cup category to 60 percent, up from a 33 percent market share in the prior year -- which bodes well for its annuity-like income stream (from future sales of K-Cup portion packs and accessories).

The biggest unknown -- or potential risk -- to Green Mountain, in my opinion, is not its competition, but the company's ability to secure long-term supplies of high-quality coffee. As Green Mountain Coffee sold approximately 32 million pounds of coffee in fiscal 2008, it is paramount that management achieves pricing stability in its supply chain. Over the past four years, Green Mountain has seen the price of commodity coffee almost double. In light of the volatility in the market and to hold down raw material costs, management attempts to purchase about six months of Green coffee (which allows time to appropriately respond to volatility in market dynamics). On September 27, 2008, the company held approximately $73.2 million in green coffee purchase commitments, of which approximately 59% had a fixed price.

For 2009, Chief Executive Officer Larry Blanford told analysts on the fourth-quarter 2008 earnings call that Green Mountain expects to grow its top line by 40 percent to 45 percent and to increase net income at the same or slightly higher rate than the growth in net sales.