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Green Mountain Coffee Roasters (NASDAQ:GMCR) (36.21, $850mm, Russell 2000) is about the only coffee investment working theses days. It showed up on a screen of stocks that are overextended and expensive, so I decided to take a look.

While it seems like a very well run company with strong financial metrics, it sure is expensive and overextended. The stock trades at 52X 9/08 estimates (there are only four analysts). As you can see in the chart below, the stock has tripled over the past year and is practically a 10-bagger over the past 5 years:

GMCR

So, what is driving GMCR up so much? Andy Kern, who submitted an excellent article on Seeking Alpha and has been an owner of the stock since 1997, pointed out two very powerful catalysts: Their supply contract with McDonalds and their recent acquisition of Keurig. For those not familiar with the “K-Cup”, it is the individual-sized serving for a single cup brew machine. GMCR and many others package their coffee to work with the machine. It is a really neat concept, especially for the office. On a recent trip with a client to visit a consultant in the Northeast, I first learned of this concept when I saw this really cool machine in their kitchen. I actually like the Flavia machine better, as it is more functional (espresso, cappuccino, etc.), but I can appreciate that many like the coffee better on the Keurig. In any event, it is more convenient than brewing large amounts of coffee in the office and less expensive and time-consuming than a run to the coffee shop.

So, it sounds like we have a small, well-managed company that is not widely followed and that has a couple of powerful catalysts. What about the price, though? I think even the stoutest of bulls would concede that 50X is steep, but they would point to strong alliances (McDonald’s, Newman’s Organics). Many would also add back in the amortization of the intangibles associated with the Keurig acquisition, which lowers the PE to about 45. While I can appreciate that this company may be early in the game (of transitioning the office environment and in expanding its brands), the stock is due for a correction. Here are a few points: The Keurig acquisition is about to anniversary and has boosted revenue growth. The counter-point is that revenue growth next year will still be about 30% according to analysts. The next point is that the company has reduced its profitability with the acquisition, with lower gross margins and higher SG&A. Perhaps also that big supply deal to McDonalds is a drag. Third, the weakening economy could impact sales of Keurig machines and the K-Cups (sold almost exclusively in North America to both businesses and homes). Fourth, while the stock has tripled over the past year, the 2008 estimate is up only 5% over that same time. In fact, that estimate has ticked down slightly. I like to see a better earnings revision progression on stocks that are soaring. Which brings us to the fifth point: This is a big-time short-squeeze. Over 3mm shares were short as of mid-July, which amounts to over 12% of all shares and 19% of the float (as well as about 7 days of trading volume). Finally, while there was a slew of insider buying, the recently retired CEO (now the Chairman), who does own a big slug of almost 6mm shares, has made a few sales lately.

While I have little basis to join the shorts on this one at this point (technicals are too strong still), I do believe that longs should consider feeding the shorts. The stock is 90% above its 200dma. On a break of 30, I would be targeting 24-25.

Disclosure: No position