At Capital Ladder Advisory Group, we have offered extensive coverage of Green Mountain Coffee Roasters (GMCR) via production and manufacturing line analysis, shipping documents and channel checks over the last 12-month period. Most recently, I wrote about what investors could anticipate from the single-serve coffee company in the future and unfortunately, some of those insights have recently played out in the marketplace. I recently posed the following question to GMCR investors: "What investors really want to know is will there be another 'shoe to drop,' or will they be rewarded for sticking with such volatility over the last several quarters?" It seems as though this question has been answered through the launch of greater competition in the market place, which we'll discuss in more detail later in this article.
Shares of GMCR soared recently on the heels of new analyst coverage by Lazard's Matthew DiFrisco. Mr. DiFrisco began coverage of GMCR with a buy rating and a target price of $39 a share. Shares headed higher on this offering by Lazard and breached the $30 level for the first time since May, affording investors some hope that shares of GMCR would once again return to glory, or at the very least, achieve a more reasonable price to earnings multiple. So did the Lazard analyst do his homework? The current price action in shares of GMCR would suggest that he didn't, but the reality is that stocks can and do move based on more than just the fundamentals or real time data analysis.
A few days after this newly announced analyst coverage, Luigi Lavazza disclosed that it had increased its holdings in GMCR by roughly 36%, adding 2.8 million shares. With this increase, Lavazza now owns a 6.8% stake in GMCR. Shares of GMCR continued their march higher on this latest news headline and surpassed the $32 level. For many investors, this represented a strong exit point for which to take profits if you had been a buyer of GMCR shares in recent months. If you were such an investor, this act of profit taking would have proven wise, as shares have fallen precipitously over the last eight trading sessions. Since breaking $32 a share, the stock has fallen roughly 28% since September 11, 2012. Kind of ominous, the timing of the sell-off.
So what caused this latest sell-off in shares of GMCR? The dates may change, but the story has remained the same for shareholders, and that story relates to the threat of increased competition and slowing sales. Through capitalladders.com, we recently gave investors a view of real-time channel checks for a couple of Keurig brewers. While the two SKUs offered did represent sales growth, the on order data showed declining orders of the brewers. The decline in orders was attributable to competition. New brewers are being offered by a couple of key competitors to the Keurig line-up of single-serve brewers. These new brewers are forcing retailers to curtail orders of the Keurig brewers to create shelf space for new brewers, thus offering the consumer greater selection for the upcoming holiday shopping season.
Bed Bath & Beyond (BBBY) is the biggest GMCR retail partner by sales volume. The home goods retailer is now featuring three of Braun's Tassimo brewers and flavored coffee pods on its e-commerce homepage. Free shipping of the Tassimo single-serve system is being offered until October 9, 2012 Through channel checks we conducted, orders for the Tassimo system have increased month-to-month at Bed Bath & Beyond by nearly 11% since June 2012, while orders for Keurig brewers have fallen. For more information on channel check data, view our channel checks provided earlier this month, or take a look at past results
But Tassimo is not the only increased source of competition GMCR is facing. Nespresso has launched a whole new line of coffee and espresso makers that can be purchased at Sur La Table, William Sonoma (WSM) and Crate & Barrel, none of which carry Keurig products. With this anticipated increase in competition, it was only a matter of time before the Starbucks (SBUX) single-serve brewer system hit the marketplace.
The sell-off in GMCR was exacerbated in the last five trading sessions when the Starbuck's Verismo became available for purchase and respective CEOs from GMCR and SBUX offered the market commentary on the product offering. Apparently, Starbucks' CEO Howard Schultz's reassurance to GMCR shareholders that the company still values and will support its relationship with Green Mountain fell on deaf ears. Apparently, what GMCR shareholders heard from Schultz was, "We are now offering our own brewers, and therefore, we will take market share from GMCR."
We say this because shares of GMCR fell by roughly 6% on the press release from Howard Schultz on September 20. The sharp price decline continued as, only a few days later, a retail analyst Howard Penny laid claims to the notion that Kroger (KR) is selling its store brand product of coffee pods at $6 each, an entry point that could pressure Green Mountain Coffee Roasters, Supervalu (SVU), and Safeway (SWY) to trim prices on their single serve offerings. It's apparent that competition is present in the marketplace to a degree that Green Mountain Coffee Roasters has not seen before, and this reality is showing itself in the recent sell-off in shares of GMCR.
I wish I could say that this recent influx of competition into the single-serve space had culminated with the launch of the Starbucks' Verismo and Kroger's lower priced coffee pods, but unfortunately, the reality is that GMCR has to combat competition somehow and in some way that would prove effective in order to return shareholder value.
The company recently launched an internal rebate program, which could prove to increase brewer shipments and clear excessive inventory of finished goods in the near term. Undoubtedly, the company aims this effort at this heightened state of competition as it seeks to increase its user base and bring more consumers into the Keurig ecosystem. One could view this rebate strategy as an alternative to writing down goods, as competitive threats require the company to act more boldly. Don't mistake this rebate for anything less than a discounting mechanism for products -- which may prove to contract margins further -- but this could also be an early strategy by the company to advance sales ahead of the holiday shopping season. Is GMCR attempting to pull demand forward by way of this rebate initiative? Only time will tell, but investors did not greet this rebate initiative with warm acceptance, as shares of GMCR fell by more than 7% on September 25.
As we have offered before, the GMCR story will take time to play out and in the meantime, the volatility in the stock remains an opportunity for investors and short speculators to profit from wild swings in the stock price. Analysis on GMCR is the key to long term success with regard to one's personal investment. Shares of GMCR are tied to headline risks, but the headlines are most recently proving the deep analysis of forecasted problems with inventory levels and increased competition. The recent upgrade of GMCR shares by Roth Capital and buy rating initiation of Lazard Capital have possibly created a valuation base for shareholders to consider. The fundamental operational and business model risks are ever-apparent in GMCR, but the valuation argument could prove to be the line in the sand, as the stock is currently trading at just over 10 times trailing earnings.
Investors might consider turning a deaf ear to the notion of a near-term buyout irrespective of the current valuation. The reality is that valuation of GMCR may not be determinable presently outside of net assets due to the current state of slowing sales and revenues. Very simply stated, we won't know how much sales will slow for GMCR, so assessing the company's value may be futile. Secondly, the company was not fielding any offers at $17 a share, so why should we think it would be fielding offers in the mid-$20s range? Either way, at roughly 10 times earnings, the stock does look appealing with projected revenues expected to grow in the mid-teens next year. Sure, this is a sharp contrast to the higher growth projections the market has come to expect from GMCR, but it is still growth.
Let's not forget that shares of GMCR do have a few things going for them presently. The company issued a buyback plan on its recent earnings call, essentially creating a floor for the stock at roughly $17 a share -- at least this is what long shareholders are hoping. Additionally, we are heading into the holiday shopping season, which has proven to lift stocks over the last several years, even those much maligned stocks such as GMCR. Lastly, the company still has the opportunity to expand, but that window of opportunity is rapidly closing.
We remain steadfast in our belief that GMCR is a 2013 story, as the current state of affairs will take time to play out and thus, the stock may prove to be more of a trading vehicle than an investment vehicle presently. Long-term investors want to see the following points of interest answered over the next six months:
- How effective will the new forecasting methodology be?
- What effect will the pricing strategy have on net profits?
- Will the existing user base upgrade to the Vue system?
- When will GMCR margins turn the corner and expand?
- When will production and inventories fall in-line with sales?
- If expansion is not realized, how soon will the ceiling be reached?
- Will new product offerings prove to be accretive?
- How well will the new espresso machine be received?
- Will the company see greater competition form private label pricing?
- Will the SEC's ongoing investigation prove wrongdoing or baseless claims?
- Will existing partnerships cannibalize the business?
- Can lower green coffee prices be realized in a meaningful way?
We could go on and on, but it is apparent that GMCR has an abundance of questions that investors require answers to in the near to mid term. Until further notice, trade on, folks. This may be an effective way to recoup any realized losses in the near term.