Why I'm Not Shorting Diedrich Coffee

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Includes: DDRX, GMCR
by: Microcap Speculator

From a purely technical perspective, there are a lot of reasons why Diedrich Coffee (DDRX) might be tempting to short. Shares are up over a hundred-fold from their 52-week lows of $0.21. Resistance in the 25-26 area looks like it may hold, and momentum is fading.

ddrrx

But when you look beyond the numbers, the trade looks a little dicier. 90% of Diedrich’s revenues come from "k-cups," those little single-serving beverage products developed and licensed by Green Mountain Coffee Roasters (NASDAQ:GMCR). Diedrich expects $90-$95 million in revenue for the fiscal year ending June 30, 2010, about a 45-50% increase year-over-year. K-cup sales will undoubtedly be the driver.

K-cup demand growth depends upon the growth of k-cup coffee machines. Each coffee machine creates an annuity of demand for the consumables sold by companies like Diedrich. At least in terms of retail k-cup machines, those sales appear to be highly seasonal. If the google trends chart is any indication, I expect another big holiday season for k-cup machines:

google trends for keurig, k-cups

And all of those machines need a k-cup to produce every cup of coffee. That’s where Diedrich comes in. On Amazon.com, for example, Diedrich’s Coffee People and Gloria Jean’s brands account for 6 of the top 10 bestselling grocery items returned for the search "k-cups":

1. Coffee People, Donut Shop K-Cups for Keurig Brewers (Pack of 50) [Amazon Frustration-Free Packaging]

2. Gloria Jean’s K-Cup, Pumpkin Spice, 24-Count Box

5. Coffee People K-Cup Donut Shop Coffee for Keurig Brewers, Medium Roast, Extra Bold, 24-Count Boxes (Pack of 2)

6. Gloria Jean’s Coffees, K-Cup, Flavored Coffee Variety for Keurig Brewers, 22-Count Boxes (Pack of 2)

9. Gloria Jean’s Hazelnut K-Cups for Keurig Brewers (Pack of 50) [Amazon Frustration-Free Packaging]

10. Coffee People Jet Fuel K-Cups for Keurig Brewers (Pack of 50) [Amazon Frustration-Free Packaging]

Bottom line: while the technical momentum for Diedrich Coffee may have slowed, I’m not interested in shorting DDRX ahead of what could be a very big sales push for k-cup makers and consumables.

DISCLOSURE: no position.