Starbucks Corporation (SBUX) - Texas Tech University

November 1, 2006

Starbucks Corporation (SBUX)

Analysis By: Sarah Lamb sarah.a.lamb@ttu.edu Jeff Leaverton j.leaverton@ttu.edu Rachel Morris r.morris@ttu.edu Lauren Wein lauren.r.wein@ttu.edu Scott Weiser scott.t.weiser@ttu.edu

Starbucks Valuation

TABLE OF CONTENTS

Executive Summary.................................................3 Company Overview..................................................6 Industry Structure and Profitability..........................6 Value Chain Analysis.............................................11 Firm Competitive Advantage Analysis.....................11 Accounting Analysis..............................................12

Key Accounting Policies...............................12 Degree of Accounting Flexibility...................14 Accounting Strategy...................................15 Quality of Disclosure..................................16 Potential "Red Flags"..................................19 Undo Accounting Distortions......................19 Financial Ratio Analysis......................................20

Capitalized Lease Ratios............................22 Operating Lease Ratios..............................23 Trend Analysis..................................................23 Liquidity Ratios........................................24 Efficiency Ratios.......................................24 Profitability Ratios....................................25 Capital Structure Ratios...........................25 Ratio Changes After Capitalization............25 Financial Statement Forecasts............................27

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Firm Valuation..................................................29 Cost Of Debt..........................................29 Cost Of Equity.......................................29 WACC...................................................30 Credit Risks..........................................30 Intrinsic Valuations...............................31 Residual Income Valuation....................31 AEG Valuation......................................33 Long Run ROE Valuation......................34 Free Cash Flow Valuation......................34

References.....................................................36 Appendices.................................................37

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Executive Summary

Starbucks Corporation

Investment Recommendation: Over-Valued, Sell

11/01/06

SBUX ? NasdaqGS

52 week range Revenue (2005) Market Capitalization

38.26 28.7240.01 7.44B 26.61B

EPS Forecast

FYE 11/01 EPS

2006(A) 2007E 2008E 2009E 0.91 1.09 1.26 1.44

Shares Outstanding

756.07M

Valuation Estimates

Dividend Yield 3-month Avg Daily Trading Volume

Percent Institutional Ownership

N/A

8,036,250 65.50%

Book Value Per Share (mrq) ROE ROA Long-term growth rate (5 yr)

Cost of Capital Est. R2 Beta

Ke Estimated 10-year 1.6685 5-year 1.6645 2-year 1.6604 6-mon 1.6587

Published

.20472 .20443 .20342 .20242

1.17

10.83 23.88% 16.46% 22.00%

Ke 16.30%

16.30%

16.30%

16.40%

16.40%

Actual Current Price

Ratio Based Valuations P/E Trailing P/E Forward PEG Forward Dividend Yield M/B

Intrinsic Valuations

Discounted Dividends Free Cash Flows Residual Income Abnormal Earnings Growth Long-Run Residual Income Perpetuity

35.29

49.79 33.10 1.69 N/A 10.80

N/A 33 5.13 2.69 0.00

Kd After Tax Kd WACC

5.59% 3.47% 8.04%

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Starbucks Corp. has established itself as one of the top producers of specialty food items in the world. With an unwavering commitment to quality they have been able to produce a product that has found its way into the hearts and minds of their customers moving Starbucks into the forefront of the industry.

Starbucks has become such a success that many of its competitors have been forced to leave the market or been acquired by Starbucks itself. Through their commitment to a superior product quality and variety Starbucks has been able to keep consumers coming back day after day. They have also taken great steps in investing in their brand image to the point that consumers will accept no substitutes and will go out of their way and pay a premium for Starbucks coffee.

When looking at Starbucks from the surface it appears that everything is fine. After analyzing their financial reports Starbucks appears to be very cavalier with their accounting policies by not capitalizing their operating leases and not fully disclosing all of their financial information. They did not disclose any of their interest rates for their liabilities. Their lack of disclosure accompanied with the fact that Starbucks does not capitalize any of their operating leases was a cause of concern and raised the chance of manipulations taking place within the

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