Starbucks Corporation (SBUX)

December 05, 2012 8:00 am ET

Executives

JoAnn DeGrande

Howard D. Schultz - Founder, Chairman, Chief Executive Officer and President

Clifford Burrows - President of Starbucks Coffee Americas and US

Pascal Rigo

Adam Brotman

Jeffery J. Hansberry - President of Channel Development & Emerging Brands

Michelle Gass - President of Starbucks Europe, Middle East and Africa

John Culver - President of Starbucks Coffee China and Asia Pacific

Arthur I. Rubinfeld - Chief Creative Officer and President of Global Development & Evolution Fresh Retail

Troy Alstead - Chief Financial Officer, Principal Accounting Officer and Chief Administrative Officer

Analysts

David Palmer - UBS Investment Bank, Research Division

Sara H. Senatore - Sanford C. Bernstein & Co., LLC., Research Division

Jeffrey Andrew Bernstein - Barclays Capital, Research Division

Krim Delko

John W. Ivankoe - JP Morgan Chase & Co, Research Division

Keith Siegner - Crédit Suisse AG, Research Division

John S. Glass - Morgan Stanley, Research Division

David E. Tarantino - Robert W. Baird & Co. Incorporated, Research Division

Michael Kelter - Goldman Sachs Group Inc., Research Division

Mitchell J. Speiser - The Buckingham Research Group Incorporated

Ronald J. Hottovy - Morningstar Inc., Research Division

Will Slabaugh - Stephens Inc., Research Division

Rob Wilson - Tiburon Research Group, Inc.

Sharon Zackfia - William Blair & Company L.L.C., Research Division

Joseph T. Buckley - BofA Merrill Lynch, Research Division

Gregory R. Badishkanian - Citigroup Inc, Research Division

Alistair Scobie - Atlantic Equities LLP

Howard W. Penney - Hedgeye Risk Management LLC

John Glass

Larry Miller - RBC Capital Markets, LLC, Research Division

Presentation

JoAnn DeGrande

Good morning. We expect people keep rolling in for the next few minutes, so we're going to go ahead and get started. I'm going to secure some housekeeping first and then we'll go on with the show. So first off, hope you enjoyed the lobby displays and also sampled some of our goodies. Those of you here in the East Coast haven't had the opportunity to sample of the lunch yet probably or Evolution Fresh, so hope that you took advantage of that, wonderful products and we are really excited to have them here today. Restrooms are downstairs. There's a dining hall, it's called The Hall, the dining room that is where we're having lunch and so the restrooms are right to the right of that. There's going to be a webcast. So when we go through Q&A, we're going to ask you to wait for the mics to come to you and we'd like you to address yourself by your name and your firm's name please. And during the break, certainly, we'll have sampling going on in the lobbies as well. We would like you to take back here -- when I come up and give you the break sign and we go out for 20 minutes, I'd love you to get back here as soon as possible so we could get restarted on the webcast right on time. I think that's it for housekeeping, and we are ready to roll with the webcast, please.

Good morning, and welcome to Starbucks 2012 Biennial Investor Conference. I'm JoAnn DeGrande, Investor Relations, and we're really excited to have you here today. On behalf of management and the Investor Relations team, we're excited to be back with you 2 years after we rolled out the Blueprint for Growth with you right here and we've got exciting developments along the way in our journey.

Let me give you an overview of the agenda and hopefully you've picked one up today when you came in. Following an opening from Howard Schultz, you'll hear from each of our business unit presidents, along with the President of Global Star development, our Chief Digital Officer and the founder of La Boulange is here with us today and is now the SVP and General Manager of Starbucks.

The agenda includes 2 breaks and then we expect to adjourn following the final Q&A around 1:00 p.m. Eastern Time. There will be several Q&A sessions that'll follow each business unit presentation. For those of you joining via the webcast, you'll be able to follow the presentations along online and the webcast and the slide presentation will be posted later this evening on our website.

Of course, before we get started, your favorite part, when I get to the slides and disclaimer that you're all waiting for, the new disclosure of the day. So forward-looking statements, there will be a number of forward-looking statements made today that should be considered in conjunction with the cautionary statements contained in the company's statements, filings, SEC filings. Those forward-looking statements are subject to various risks and uncertainties that could cause our actual results to differ materially from these statements. Starbucks assumes no obligation to update any of these forward-looking statements or information. Please see our filings with the SEC, including our last annual report on Form 10-K which we just filed recently. It is now my sincere pleasure to introduce to you our Chairman, President and CEO, Howard Schultz.

Howard D. Schultz

Thank you, JoAnn. As JoAnn said, we are very excited to share with you the operations of the company, to walk you through the vision for the future and then, most importantly, how we're going to execute against that we feel is an extraordinary growth opportunity for Starbucks on a global basis.

Over the last few years or so, I have been a student trying to study what really makes great enduring companies and I've looked at hundreds of organizations trying to really crack the code on what really does it take to build sustainable success, to win a championship season year after year. I've even studied sports franchises. And although there are many characteristics that I've uncovered, I just want to share 3 with you. The first is, that a company, an enterprise, an organization, even a sports team, has to have a finite understanding of their core purpose and their core capabilities. Second, there has to be a lot of courage and conviction about reinvention and the timing of reinvention. And I think as you'll hear today, we believe strongly that as we push forward as an organization, we have to push for reinvention, self renewal and have the courage and conviction to take big swings. And the third and perhaps most importantly is culture, values and a deep sense and a large reservoir of trust within the organization and trust in leadership.

I mentioned sports teams, I know there's a lot of people here from New York. I'm not here to talk about sports, obviously. But if you compare the Giants and the Jets, if you compare the Yankees and the Mets, you guys understand what I'm talking about. I know, give me a little break here. But along the way of studying companies, I came across something that was very surprising, and I think you'll agree, quite stunning.

Let's look at the 1928 original Dow 30. Take a look. You can see these are extraordinary names, great companies, and the question rhetorically is, which company or companies stood the test of time since 1928? Give me a guess. Let me hear you. Which company on this list stood the test of time or companies? GE, what else? Come on, this is a smart group. What other company?

Unknown Attendee

Statoil.

Howard D. Schultz

Okay. Anyone else? Maybe -- you must be older. Okay. Let's go ahead with it. One company, GE, the only institution, the only organization, the only enterprise after 84 years that stood the test of time, that builds an enduring organization. It's unbelievable, one company from the original Dow 30 is left. Now I want you, as you sit here today and listen to us talk about our company, our aspirations, our dreams for the future, I want to strain for you the lens in which we are trying to talk about Starbucks because the declaration that we want to make today is that our aspiration as a company, our belief in our organization is that we want to be in GE's class. We're not just building a company for today. We want to build a great, enduring company, an organization that goes back to those 3 characteristics: core purpose, core capabilities, the courage to reinvention and the understanding that great companies, great organization stands for something beyond just making a profit and that is culture, values and a large reservoir of trust within the company and trust in its leadership.

Now in 1987, Starbucks had 11 stores and 100 employees and we had a dream to create a national brand. We also decided that we want to build a different kind of company, not better than anyone else, but it was different. And we frame from day 1 that our intent to build a national brand was also to create a fragile balance between profitability and a social consciousness. That was 1987, 11 stores, 100 employees and a dream.

Let's go to today. As we sit here today, there's 18,200 stores in 61 countries, employing over 200,000 people whom we call partners, and we're serving over 60 million customers a week. And I'm here to tell you that we're not satisfied, we don't feel we've accomplished the aspirations that we have and we honestly feel that our best days are in front of us.

Now I want to say something else. Even though our aspirations are to be in the class of GE, I also want to say we are not a perfect organization, we're not perfect. We are going to make mistakes. We're going to disappoint at times, but our aspirations over a long enduring period is to build a great, great enduring company.

Of the 18,200 stores, I want to isolate 1 store of the 18,200 and tell you a story about the store. This store is 1,000 square feet. It's had 20 consecutive weeks this year of over $100,000. Its revenue in fiscal '12 at the end of September was approximately $5 million. It had double-digit comps and was opened in 1971, our first store in the Pike Place Market, 1971, $5 million store, 20 consecutive weeks, $100,000 and double-digit comps. Now all of us at Starbucks this year were stunned to see these kind of numbers. So one day this summer, I went down to Pike Place because I was looking at these numbers and I couldn't believe that we can do $100,000 a week in 1,000 square feet with 3 stores within a mile of the store. So I went down to see it. After I went down to see it, I said, I need to bring a film crew down here the next day to capture what I saw. I want to share it with you.

So this is a raw video in July of the Pike Place store. And I walked in here and I've seen all these people online queued around the block. I'm saying, "What are we giving away? What is going on here? Why are people from the United States and all over the world rushing to the Pike Place store? What is -- what have we created? Is it the mystique, is it real? What is it that's driving all these people into the store?"

This is an unbelievable example of the power of the Starbucks brands and the emotional engagement and relationship that we have with our customers. And I would submit to you that there's a piece of Pike Place in all of our 18,200 stores in 61 countries. Let me explain.

Starbucks has been in business for 41 years. One could say that we have built one of the most recognized, respected brands in the world. But the truth is, the equity of the Starbucks brand has been built in the most unconventional manner, quintessentially by the experience. And as you'll hear today, we have the significant view that the rules of engagement going forward in building brands, in building an emotional connection with the customer is a much different exercise today than it was 40 years ago when we started. But there is one thing, one common thread, and that is the emotional relationship and the sense of humanity that exists inside Starbucks stores.

Every year since we've been in business, we have spent more money on training than we have on marketing. We are not a marketing-driven organization. The most important characteristic of any brand is trust. And I think the unique relationship that we have with our people, who we call partners, because in 1989, we became the first retail company in America to provide equity in the form of stock options and health insurance to every single employee who works more than 20 hours a week. We built the brand from the inside out. We built the brand by understanding that if we, as a company, even in 1987 when we had 11 stores, were going to attempt to exceed the expectations of our customers, the only way we could do that is to exceed the expectations of our people.

So here we are, 2 consecutive years of record revenue, record profit, the equity of the Starbucks brand has traveled around the world and we're in a position today to step on the accelerator and grow the company. But I want to make the distinction, I think this is very important, that in 2007 and 2008, the growth of Starbucks was undisciplined and growth was more of a strategy as opposed to an outcome. We learned that lesson and the discipline, the capability, the talent inside Starbucks today is unprecedented. We have challenges, we have issues, but we've never been in a better position in terms of the strength and power of the Starbucks brand and the capability inside the company to really understand how to grow Starbucks domestically and internationally.

As a result of that, the last 2 years of opening stores in the U.S. when some people, maybe even some people in this room, thought that Starbucks in the U.S. was reaching saturation, we proved to ourselves and to the outside world that, that is simply not true, 2 consecutive years in which the class of '11 and class of '12 has produced some of the best unit economics in the history of the company. Sales to investment ratio of 2:1, very strong comp store sales and average unit volumes at record levels.

As a result of that, you'll hear Cliff Burrows talk today about accelerating the growth of our U.S. business and opening up at least 1,500 new stores over the next 5 years in the U.S. alone. And we strongly believe that as a result of the demography, the data, the science and the experience we have, that these locations in the returns will mirror what we've been able to accomplish in 2011, 2012. And anyone who walks out of this room today thinking that Starbucks is establishing undisciplined levels of growth or acceleration is dead wrong because we're taking advantage of the strength of our core business and capitalizing on that to significantly drive shareholder value in our core market in the United States of America.

Now I could spin around the globe and isolate many countries where we have opportunities, but I'd be remiss if I didn't talk about China, and you'll hear John Culver talk a lot about that this morning. We've been in China now for 13 years, and I'd say for the first 7 or 8, candidly, we kind of stumbled through it. We made a lot of decisions. We made some mistakes. We didn't get it exactly right and I'd say about year 9 or 10, we began to see a significant change in the experience of our stores and I saw it first-hand because I was going to China 3 or 4 times year. And what we saw was in the first 8 or 9 years or so, most of our customers were tourists and ex-pats. And then all of a sudden, we began to crack the code of local relevancy, local relationship and a deep level of respect from the Chinese consumer. When you walk into Starbucks stores today in any market within China, and we're in like 70 cities, and you will see many, many more Chinese nationals than tourists or ex-pats. The market for Starbucks Coffee Company in China will produce, over time, thousands, thousands of Starbucks stores.

The team in China is primarily Chinese nationals. The head of Starbucks China is Belinda Wong, a fantastic leader, who has built a fantastic team who understands the consumer, understands the real estate, understands the competitive issues, understands the relationships that we have to continue to build in terms of the trust with the government, and we are being held up in China as the kind of corporate citizen from the U.S. that is deeply respected by multiple constituencies. And as a result of that, our opportunity to grow that business in a significant way, taking advantage of the unit economics, the sales to investment ratio today of 3:1, you'll hear from John the optimism we have about China's business today and going forward, that over time, thousands of stores.

Now as I said, I can isolate many markets. I can talk about what's going on in Latin and Central America. We're not going to have that time and John's going to speak a lot about our international business.

Now 2 years ago when we were here, we introduced the idea, the theory, and I think this is a very important moment for me to kind of walk this through with you of our profitable group Blueprint for Growth going forward. And what I said 2 years ago was, I believe that we had an opportunity to capitalize on the unique assets that Starbucks has to, in a sense, do something as a consumer brand that has not been done before. Let me explain.

Starbucks today has a national and global footprint of retail stores all over the world. These stores are not franchised. They're company-owned or they're in partnerships with fantastic JV partners around the world. I make that distinction because we have the ability and the nimbleness to almost do anything and turn on $0.10 and we do not need permission from franchisees to do it. We own and operate our own stores.

Now over 10 years ago, we had a significant opportunity to build a sub brand within Starbucks stores, which was blended Frappuccino. That was the cold version of being able to capitalize on warm weather and an afternoon daypart many years ago. And as a result of that success, we had the idea many years ago, would it be possible to take the loyalty and the brand and the category of blended Frappuccino from our stores and leverage that into multiple channels of distribution and partner with a company who have the capability to model it and distribute it? And the story goes, that Starbucks and Pepsi have built a multibillion-dollar brand in Frappuccino.

Now I would submit that the success of Frappuccino, which is ubiquitous now in North America would never have occurred and certainly would not be as successful if we do not have the unique opportunity every single day to reinforce the equity of the Frappuccino blended product in our stores. So fast-forward 2.5 years ago, when we had the idea to reinvent instant coffee, we looked at the category of $24 billion instant coffee category that had not had any innovation in over 50 years other than packaging, and we believe that through technology, we could crack the code of producing a cup of coffee that would mirror the taste of Starbucks.

Now the opportunity for this all along was in grocery, not in Starbucks stores. But if we had the opportunity within Starbucks stores to introduce it into retail stores and have the patience to build the brand, build the customer relationship in over a year's time, strategically understand that, that was all part of going into CPG. And as you'll hear from Jeff Hansberry today, this is a $300 million business already in 80,000 points of distribution and the leading share of what we've been able to accomplish in single-serve instant coffee.

And there were people, maybe people in this room but certainly people in the press that said, "This the end of Starbucks. This guy, Schultz is out of his mind. Instant coffee? Are you kidding?" Let's go back to my original premise. Those companies today, any company, any industry, any consumer brand that are embracing the status quo as an operating principles are going to be dead. We must push for reinvention. We must push for self-renewal and we must have the courage to use technology and leverage our assets in ways in which we can significantly differentiate ourselves from any other company in our space. And that's why this Blueprint for Growth is so valuable going forward because in the last 2 years, Jeff Hansberry and his team have not only been able to take these product into CPG, but they have now built the superhighway of infrastructure, resources and capabilities in which the future of the company is going to be creating products in our stores, having the patience, building the brand and bringing it into CPG domestically and internationally. And this is just the beginning. And I would say, I might get killed for this later, that CPG, at some point in the future of Starbucks, will be as large as the U.S. retail business. That's how deeply committed we are. And you'll hear from Adam Brotman, when we start talking about social and digital media that the intent of the company is to integrate the loyalty program and all our assets into CPG and back and forth.

So this model today that we have built is in its infant stage of what Starbucks is going to become. But don't misunderstand one thing. Our core business, our reason for being, our capability, we have been since 1971 and we will be today and in the future always a retail company, whose core business and reason for being is to ethically source and roast the highest quality coffee in the world and create this unique sense of community, intimacy and relationship with our customers. However, you take this model and then you integrate it with the assets that we've developed around social and digital media, loyalty card and commerce and you take this thing and you literally put it on steroids. And you'll hear from Adam today that we have, over the last 2 years, in many ways, created the most significant level of assets and capabilities of any consumer brand and certainly the #1 retailer brand, maybe in the world, as it relates to social, digital, card loyalty and mobile payments. And all of that is going to be integrated into how we go to the market, how we differentiate ourselves from our competitors and how we use those assets, not only to communicate with our customers, but most importantly, to emotionally engage with them and reward them for buying Starbucks Coffee and other products in multiple channels of distribution.

Now that takes me to the acquisitions that we've made over this past year. Now 2 years ago, I've stood before you and I said, at that point, we're sitting with about $2 billion of cash, the currency of our stock price gave us the flexibility and I said publicly that we would be looking towards acquiring those companies that we could leverage and integrate into that Blueprint. And I think we've done exactly that. Let me explain it.

Let's start with Evolution Fresh. Now in all of our stores all over the world, we have been selling juice for many years. We've also understood from our customers the need for Starbucks as a retail store to get healthier and for us to make the statement to our customers and the marketplace that we were deeply committed to health and wellness and we identified this health and wellness category as a massive opportunity and through our own research and understanding, we have significant license to participate. So the acquisition of Evolution Fresh, a $30 million acquisition, relatively small, was designed to do 3 things: The first, significantly upgrade the quality of juice in our stores, with a piece of technology that you'll hear from Jeff, that absolutely in any blind tasting, 100% of the time, between Evolution and anything else in the market, Evolution Fresh is going to win. So in about 2,000 stores already, we have brought Evolution Fresh into Starbucks stores and we are seeing significant increases in the rate of sale, significant increases in the operating margin as a result of the quality, the integrity and the proposition of Evolution.

In addition to that, we believe that there is an opportunity to create a health and wellness store and other Evolution products. And as a result of that, we have opened 4 Evolution Fresh stores. I would say that we are learning a great deal. We are pleased with the outcome. But the big opportunity going back to the Blueprint for Growth is to bring Evolution Fresh into every Starbucks store across the country, have the patience to build the brand and integrate that into every grocery store in America by leveraging the brand proposition and the validation of Starbucks Evolution in our stores and doing exactly for Evolution what we've done for VIA and what we've done for Frappuccino. And we are in a couple of thousand stores, in grocery stores in Starbucks stores already. An the early signs in both Starbucks stores and grocery are extremely positive. And I would say that you're going to see other Evolution products that are health and wellness driven, inside Starbucks stores as we build the brand and, over time, in CPG.

Now the Achilles' heel for Starbucks for many, many years, and we've talked about it openly, has been our inability to create fantastic fresh, delicious food in Starbucks. The primary reason is we're not a restaurant. We're not baking, we're not cooking and we have no intent to do that. So for the past 18 months, we have been searching the country and the globe for the kind of food purveyor and artisan baker that we could find to do one thing: transform the quality of fresh food in Starbucks stores.

And in a few minutes, you're going to meet Pascal Rigo, the founder of La Boulange. This guy, you'll see, is as passionate about what he does about French, fantastic food and baked goods as we have been for the last 41 years in our coffee business. To date, we have tested La Boulange branded food inside Starbucks stores in Northern California with a fantastic result in terms of the increase in the rate of sale and the increase in the operating margin. And as you'll hear from Cliff and Pascal, our plans are to transform the entire country with branded La Boulange food inside Starbucks. And eventually, going back to Frappuccino VIA Evolution, once we've built the La Boulange brand inside Starbucks, we will have the flexibility and the intent to bring La Boulange branded food into selected grocery stores.

Read the rest of this transcript for free on seekingalpha.com

Copyright 2012 Seeking Alpha