Green Mountain's K-Cups
Thrive As Coffee Prices Surge
JAMES DETAR, INVESTOR'S
Posted 08/26/2011 05:33 PM ET
too much for your coffee? Blame sunspots and soybeans.
nearly a decade, through 2009, global coffee prices
generally advanced at a gradual, steady rate. The world's
top coffee exporter, Brazil, had amassed surplus stockpiles
during the 1990s. In years when bad weather hurt the
harvest, Brazil dipped into its warehouses to moderate
by the end of 2009, that buffer had dwindled. The rise
of Starbucks (SBUX) and other coffee chains was whipping
up global demand. In addition, many of Brazil's farmers
had turned to more lucrative crops, like soybeans. The
coffee harvest was falling behind.
scenario set the stage for what Shawn Hackett,
president of commodity specialist Hackett Advisors,
saw as "a generational move" in coffee
would continue to buy coffee in the most aggressive
fashion that your risk tolerance will allow,"
he wrote in a May 2009 note.
also added another element to the picture. Sunspot
activity was sweeping to the bottom of a three-year
cycle. His research showed, over the past century,
the bulk of Brazil's frosts in June and July —
the coffee harvest months — took place during
low points in sunspot activity.
the very least, the 2009-10 season's weather would
be temperamental. Global coffee demand was rising,
particularly for Brazil's high-grade Arabica beans
used by Starbucks and other top chains. With supplies
already tight, any dent in the country's crop
could be catastrophic.
saw coffee prices as a lit fuse.
Still, by October 2009, investor attention
was riveted on a wildly rebounding U.S. stock market.
Coffee prices were down for the year, and Brazil's government
was forecasting a record crop. Hackett argued that,
under the best of conditions, the year's coffee harvest
would barely satisfy growing demand.
By April 2010, Brazil's producers were
acknowledging a problem. Growers began to harvest a
month early after heavy rains led to uneven ripening
of the crop.
In May, the government tallied a record
47-million-bag harvest — in line with estimates. Later
counts showed only a portion of the beans were ripe,
significantly reducing the crop yield. In June, prices
spiked 10% after a cold snap sparked a buying frenzy.
The coffee bull market was under way.
By December, prices were up 45% for
the year. By April this year, coffee had climbed 82%
and was forcing retailers like Starbucks, McDonald's
(MCD) and Peet's Coffee & Tea (PEET) to raise prices.
new price paradigm couldn't have been better timed for
Green Mountain Coffee Roasters (GMCR). The coffee wholesaler
had spent years expanding its distribution network and
fine-tuning the supply chain for its efficient, coffee
systems called Keurig.
systems brew a single high-quality cup at a time. In
a world of spiraling coffee prices, the Keurig offered
a sensible alternative to the old pot-at-a-time coffee
people have had the experience of showing up to a coffee
station at work and finding coffee burned in the bottom
of a pot," said Scott McCreary, head of Green Mountain's
specialty coffee business unit. "Or at the end
of the day, they'll want a single cup, but don't want
to make a whole pot and waste most of it. We saw an
Mountain has ridden Keurig's spectacular popularity
to the top of IBD's Wholesale-Food industry group. The
group has held a steady, top 20 ranking for the past
six weeks among the 197 industry groups tracked by IBD.
is not a young market. Evidence shows the bright red
beans originated in Ethiopia and were brought to what
is today Yemen. There, they were first cultivated in
the 6th century to make coffee, according to the Coffee
farmers of all sizes grow and harvest the beans in more
than 50 different countries. They sell to roasters,
who bake them to the familiar, dark brown color. The
U.S. Department of Agriculture estimated world coffee
production in 2010-11 to be 137 million (132-pound)
bags. That production gets distributed through a diverse
array of wholesale and retail channels.
Wholesale-Food group contains a variety of food retailers.
The largest, by both sales and market capital is Sysco
(SYY), a supplier of food and related products to restaurants,
hospitals, hotels and schools. United Natural Foods
(UNFI) distributes organic and natural foods to groceries,
including the Whole Foods Market (WFM) chain.
Mountain and Coffee Holding (JVA) hold Composite Ratings
of 99, the highest in the group. United Foods is next
in line, with an 85.
Mountain's success has been fueled by rapid acceptance
of its Keurig systems. Company sales jumped from $225
million in 2006 to $1.36 billion last year.
Holding is a distributor that has grown by acting as
a go-between, buying raw beans from farmers and selling
them to Green Mountain's roasters. Coffee Holding's
sales were $57 million in 2007 and have risen 84% since
then, to about $105 million.
player in the group, Farmer Brothers (FARM), distributes
basic tea, spice and coffees to restaurants, hotels
and hospitals. It has managed slow but steady growth
— on track to post sales of $452 million this year,
up from $450 million in 2010. But it hasn't posted an
annual profit since 2007.
Name of the game: Offer high quality and/or innovative
products. Provide high service while cutting costs from
the distribution network. Nail down a supply of high-quality
coffee beans by working closely with farmers in top
drinkers consume an estimated 2.25 billion cups of coffee
a day globally. And the National Coffee Association
says more than 150 million Americans drink coffee daily.
International Coffee Organization says even Britons,
long known as tea drinkers, are switching to coffee.
says a recent study found adults in the U.K. spend an
average of about $750 a year each for coffee, more than
the average home annual electricity bill. It cited the
spread of coffee chains.
like Farmers Brothers, Green Mountain and Switzerland-based
Nestle (NSRGY) grind and sell coffee. Coffee houses
like Peet's and Starbucks sell it by the cup and by
food companies sell coffee in supermarkets under various
brand names like Folgers (owned by J.M. Smucker (SJM)
and Hills Bros., MJB and Chock Full O' Nuts, all owned
by privately held Italian coffee heavyweight Massimo
prices for commodities such as soybeans and corn have
lured many farmers away from the coffee trade. Farmers
that have stuck with growing coffee are barely producing
enough beans to meet rising demand, Hackett says.
coffee industry has to invest in coffee producers, plant
new trees, fertilize better to get production growth
up in order to satisfy what had been a 2.2% annual growth
rate for decades," Hackett said.
Mountain's McCreary says his company is doing just that.
Green Mountain roasters, we take 5% of pretax profit
and put it back into the communities we work with. It
could be for quality enhancements like an improved drying
patio, allowing them to get higher prices for their
may be in the form of improved health care and improved
education facilities. Those factors keep people in the
community and interested in growing," he said.
the industry is consolidating. For example, in order
to nail down a consistent supply of high-quality coffee,
Green Mountain in recent years has been buying up the
companies that roast its beans.
has most of them under its umbrella now, McCreary says,
and the pace of acquisition will likely slow now.
coffee industry has evolved in the last 20 years, going
from tins of ground coffee sold in stores, and low-quality
coffee made in pots and served in restaurants, to a
widening array of choices.
Blanford, Green Mountain's president and CEO, in a recent
earnings call discussed plans to expand into new markets.
Mountain will leverage its Keurig single-cup, home coffee
brewing systems. It's already created single-cup servings
of cocoa and tea.
beverage development group is also hard at work on new
beverages that could provide functional and/or wellness
benefits. We believe there is a meaningful opportunity
for beverages beyond hot coffee and tea," Blanford
Mountain in mid-February inked a deal with Dunkin' Brands
(DNKN), parent of Dunkin' Donuts. The coffee and doughnuts
chain started trading publicly last month and it's rolling
out Dunkin' branded Keurig K-cup systems in its stores.
on March 10, Green Mountain and Starbucks signed a deal
for the coffee house chain's coffee and Tazo teas to
run in Keurig single-cup brewers. Starbucks branded
K-Cup packs will hit store shelves this fall.
Mountain, Coffee Holding and others in the group are
seeing some effect from ongoing economic weakness, but
are to a degree sheltered by the still growing trend
drinkers may trade down from a 16-ounce "grande"
to a 12-ounce "tall" cup, but rarely will
they quit drinking coffee.
of our quality and because people have developed a love
of coffee, they don't make changes in consumption based
on a few cents difference in price," Green Mountain's
says in the short run — the rest of this year and next
year — given overall economic concerns and price instability,
it's not going to be a good environment for coffee companies.
will see high costs continue and be forced to raise
prices. Volume will slow and profit margins will slow
until the market gets back in balance," he said.
"There's no easy way out of this."
Upside: The industry is resistant to economic swings.
Even when consumers are pinching pennies, they still
reach for their caffeine boost. Brazil's coffee trees
are headed into the high side of their two-year supply
cycle, which could bring supply and demand back in balance
and help stabilize coffee prices.
Risks: In addition to the near-term risk of a new global
recession, there is the ongoing threat of farmers converting
to higher-profit crops. Coffee sellers and processors
must invest in farm communities to ensure an ample supply
of the high-quality beans they need to stay in business.