Why invest in coffee? Equity analyst Andy Barish for Jeffries, commenting on one of their recent reports, stated:
"In the currently mixed consumer sales environment, the specialty coffee sector continues to be among the 'haves' in terms of same-store sales growth... We believe the habitual nature of the occasion and the affordable-luxury aspect of the experience continue to drive sales opportunities, both in retail coffeehouses as well as in the [consumer packaged goods] channel."
The report produced by Jeffries sees coffee sales growing in not only coffeehouses, but also in the retail sector. Barish sees growth of 8-10% in coffeehouses for 2012.
Two potential up-and-comers in the coffee market: McDonald's (NYSE:MCD) and Coca-Cola (NYSE:KO). Okay, so McDonald's has been selling coffee for awhile now, but not in the packaged form they are currently planning to pursue.
In-Home Coffee Market:
According to IBISWorld, in an August report, the five biggest brands in the packaged coffee beans market are Starbucks (NASDAQ:SBUX), Green Mountain Coffee (NASDAQ:GMCR), Folgers (NYSE:SJM), Maxwell House (KRFT), and Nescafe (OTCPK:NSRGY). The in-home market that they operate in is, according to the huffington post, also worth $10 billion annually in the U.S. alone. This is also a market with a profit margin near 30 percent that is growing at an estimated 5 percent a year. McDonald's obviously knows this.
There's been some talk about coffee beans lately, as speculation involving McDonald's arose when it was discovered that they were trademarking their name for selling bagged coffee. The company came through yesterday, with an announcement clarifying that they would indeed be selling "McCafe" ground coffee, in Canada.
They are officially getting into the ground in-home coffee market, which seems to be saturated already in the U.S., but still offers room for McDonald's to enter and grow in Canada. I'm assuming they will expand into the United States as well to sell their coffee beans, adding another layer of competition with the likes of companies like Starbuck's.
Foodservice Coffee Market:
Coca-Cola, on the other hand, is apparently attempting to further immerse itself into the foodservice business by expanding it's Georgia Coffee brand in the United States. Traditionally, Georgia Coffee has been exclusive to overseas, primarily in Japan. Coke's Georgia brand originated in Japan in 1975, and revenues it generated exceeded those of regular Coke in 2010. It has been offered selectively in mostly restaurants in the States since 2009.
The company plans to expand its brewed coffee and tea business through convenience stores, and is currently testing it out with a few small stores. Coca-Cola's refreshments chief customer officer, Mel Landis, explained the company's reasoning, stating:
"We've got a great fountain offering, whether it's core fountain or Freestyle. We've got a terrific frozen offering with brand Coke and Fanta. We're moving into smoothies. The one place we haven't played is brewed. So we think there's an opportunity to look at brewed."
With Coke getting into brewing they are making a smart move. They have an advantage that many other companies don't and Landis pointed this out, explaining that, "If you think about foodservice, anytime you go in and offer a full lineup to your customers, there's an advantage to doing that."
Coca-Cola, by offering brewed coffee and tea that allows retailers to simplify their overall beverage ordering process by purchasing everything from one supplier, is offering a huge incentive already for potential retailers- because they are allowing them to consolidate their ordering process. If a vendor like 7-11 already sells a lineup of Coca-Cola products, they can now get their brewed coffee and tea from them too. It will be especially easy since the new offering will also, according to Coke, allow retailers to utilize the coffee brewing equipment that they already own.
The Georgia coffee brand will be available as roast and ground, in multiple blends (dark roast, light roast, decaf and sustainable organic), and will be made with 100% Arabica beans. If Coke can push it through to convenience stores and create a presence, it should provide a new growth opportunity for the company. According to the Association for Convenience Retailing, in reference to the c-store industry, "the average store sales of coffee, cappuccino and specialty coffee reached $56,221 last year, representing about 90% of hot dispensed beverage sales."
Coca-Cola has the distribution network, credibility, and an already superior fountain drink offering that gives them an immediate edge over competitors. If they can wedge their Georgia brand into Seven Elevens and other convenience stores to compliment their other beverages, they will have a new source for growth in the brewed coffee business.
Coca-Cola and McDonald's both look to expand further into the lucrative North American coffee market, albeit in different ways. McDonald's is already established somewhat, selling brewed coffee in their restaurants, buts looks to expand and grow by selling pre-packaged coffee beans as well. They are starting in Canada, but to break into the U.S. market will be difficult. Luckily for them they have an established chain of restaurants that gives them an already established distribution chain.
Coca-Cola, like McDonald's, also has a massive distribution chain already established through their fountain drink offerings. Their advantage getting into the coffee market comes from this, as retailers may go with Georgia Coffee if they can consolidate their ordering process through Coca-Cola. The Coca-Cola coffee program is still in its infancy stage, but could become extremely successful if it catches on.
Here is a quick glance at valuations (data form Ycharts):
Both companies seem to be relatively fairly valued at this time, and offer solid, safe dividends. If Coke and Mickey D's can get a jolt from their newly-angled expansions into the North American coffee markets, their current valuations could be even further justified. These two companies are buy-and-hold stocks, and have good growth prospects; as well as consistent track records of remaining profitable and paying out dividends. McDonald's looks like a pretty good pick-up at around its current price of $87-$88 (near its 52 week low). Coke is priced in between it's 52 week trading range, and would also make a good purchase at this time as well.
Disclosure: I am long KO, MCD, SJM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.