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Thursday, August 3, 2006 - Page updated at 01:32 PM

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Blended drinks create stir, mixed picture for Starbucks

Seattle Times business reporter

Investors punished Starbucks on Wednesday for one bad grade on an otherwise straight-A report card.

The Seattle company had a strong third-quarter profit, increased by 200 the number of stores it plans to open this fiscal year and disclosed that it plans to open a record 2,400 stores in fiscal 2007, including its first stores in India and Russia.

Still, investors were disheartened, pushing the stock down $3.04, or 9.1 percent, to $30.26 in after-hours trading Wednesday. The financial results were announced after the close of regular stock trading; the stock closed at $33.30 in that session.

They were staring at the one number that could signal a slowdown in Starbucks' momentum. Its sales at stores open at least 13 months for July rose just 4 percent, the slowest growth since late 2001.

To some, that indicates that a slowing economy is cutting into Starbucks' share of consumer spending. Starbucks executives say otherwise. They blame the drop on the company's inability to meet unprecedented demand for blended beverages in the morning, and they're on the case.

"We believe we are losing some espresso business due to longer than normal wait times in both cafes and drive-throughs during peak morning hours," Chief Executive Jim Donald said during an analyst conference call.

The lines could be holding back Starbucks' sales of blended beverages as well, he said.

In response, the company is improving its blending equipment, improving employee training and taking other steps to accelerate the speed at which its baristas can blend a Frappuccino — iced beverages ranging from coffee to juice blends.

Donald said service improvements will be noticeable by the end of the summer, particularly as Starbucks rolls out special cold beverage stations that improve efficiency. Right now only 1,070 locations, or about 18 percent of company-owned stores in North America, have the stations.

An end-of-summer improvement could be too late to significantly boost same-store sales figures for August if the rush on Frappuccinos continues, but the fiscal fourth quarter ending Oct. 1 should not be hurt by the same-store sales slump.

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Starbucks bases its earnings guidance on same-store sales of 3 percent to 7 percent, said Sharon Zackfia, an analyst at William Blair & Co., which makes a market in Starbucks stock.

"I don't think we're in jeopardy of Starbucks missing earnings guidance any time soon," she said.

The company disappointed Wall Street in June, too, when same-store sales grew by 6 percent and analysts were expecting better.

"The law of big numbers might be catching up with them," said Don Gher, chief investment officer of Bellevue-based Coldstream Capital Management, which owns Starbucks shares as part of $1 billion it manages for wealthy individuals.

Starbucks' number of stores — 11,946 worldwide at the end of July — and its revenues have grown so large that it could become more difficult to post very high same-store sales figures, Gher said.

After a certain point, you have to wonder, "How many more people are you going to run through that store?" he said.

That's when companies start raising prices or find other items — like breakfast sandwiches, in Starbucks' case — to drive up sales. Executives said Wednesday that no price increases are in the works.

Starbucks' profit for its third fiscal quarter ended July 2 was $145.5 million, or 18 cents per diluted share, up 16 percent from a year ago. Without a 1 cent non-recurring tax benefit, the profit was 17 cents a share and in line with the consensus estimate from a group of analysts polled by Thomson Financial.

Revenues grew 23 percent for the quarter to $1.96 billion.

Also Wednesday, Starbucks' board of directors authorized the repurchase of 25 million shares of common stock, which is in addition to 3.4 million shares that remain available for repurchase from a previous authorization.

Melissa Allison: 206-464-3312 or mallison@seattletimes.com

Copyright © 2006 The Seattle Times Company

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