Following the close of the stock market yesterday, news broke that Starbucks (SBUX) would have to pay Mondelez International (MDLZ) nearly $2.8 billion for ending a deal between the two companies early.
Bloomberg Bloomberg has the details:
Starbucks Corp. said it would pay Mondelez International Inc. $2.79 billion to settle a dispute over distribution in the coffee-shop chain's bagged-coffee unit, as grocery-store sales become a growing part of the business.
The payment, ordered by an arbitrator, consists of $2.23 billion in damages and $557 million in interest and attorneys' fees, Seattle-based Starbucks said today in a filing. The company said it has adequate cash and borrowing capacity to fund the payment and will book it as a charge to its fiscal 2013 operating expenses.
The ruling settles a dispute that began in 2010, when Starbucks offered $750 million to end an agreement through which Mondelez, then known as Kraft Foods Inc., distributed its coffee to food retailers. Kraft rejected the offer. Starbucks sought to wrest control of its packaged coffee business as revenue grew and surpassed gains in other segments.
Call JPMorgan’s Ken Goldman surprised by the amount of the award:
The arbitrator concluded that Kraft/MDLZ is entitled to $2.23B in pre-tax damages from SBUX, as well as $527MM in prejudgment and attorneys' fees, for a total of $2.76B. We were anticipating somewhere between $1.5B and $2.0B.
The net proceeds (after a 37% tax rate) are equivalent to ~3% of MDLZ’s market cap. MDLZ said it would use proceeds to repurchase shares.
Shares of Starbucks are little changed at $80.62 after being down as much as 1.8% this morning, while Mondelez has risen 1.9% to $33.04. Kraft Foods (KRFT) has ticked up 0.1% to $52.02.
Morgan Stanley’s Matthew Grainger and team call the award “a net positive” but not “thesis-changing” for Mondelez:
Clearly the proceeds from this arbitration do not address the fundamental issues (execution issues, slowing category growth trends, mixed returns on investments) that have hampered MDLZ in recent quarters. However, we view this as a clear (if modest) positive for the stock, as: (i) it provides a cash windfall equivalent to ~3% of the company's market cap; (ii) allows for the potential to further accelerate share repurchases (we assume $2 billion in 2014, but each additional $500 million would add close to $0.01 to EPS); and (iii) could allow for further flexibility for debt tenders / refinancing by providing both additional balance sheet capacity and providing North America profitability with a source of taxable profit that can be used to offset any premium associated with early debt retirement. Net, while this outcome is not entirely unexpected, both the magnitude of the award and the associated financial flexibility are supportive of our Overweight rating on the stock and expectation of accelerating earnings growth beyond 2015.
William Blair’s Sharon Zackfia and team have similar thoughts about Starbucks:
Excluding the actual judgment itself, we expect that the arbitration will prove roughly $0.02 to $0.03 dilutive to our fiscal 2014 estimate on lost interest income, versus our prior estimate of $2.65, guidance of $2.55 to $2.65, and consensus of $2.66.
While there is a fair question as to whether the pay‐off from Starbucks' decision to take direct control of the package coffee business was worth the pay‐out, the company likely would not have been able to pursue other opportunities such as K‐Cups while still tied to Kraft (which owns Tassimo). All told, we suspect the arbitration outcome is likely to modestly crimp our estimates, but we continue to like Starbucks' shares given robust sales trends, still‐strong expansion prospects, and extraordinarily high visibility on 15% to 20% annual EPS growth.
Starbucks has gained 50% this year, while Mondelez has risen 30%.
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