978-1285190907 Chapter 10 Part 5

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in whole or in part.

CAP 2010 2011 2012 Year +1 Year +2 Year +3 Year +4 Year +5

Expectations for net new stores to be opened each year:

Net new stores opened during the year:

Company-operated: 30 73 154 200 200 300 300 350

Licensed: 79 193 294 400 400 400 400 450

Total 109 266 448 600 600 700 700 800

Total stores

Company-operated: 439 512 666 866 1,066 1,366 1,666 2,016

Licensed: 2,141 2,334 2,628 3,028 3,428 3,828 4,228 4,678

Total 2,580 2,846 3,294 3,894 4,494 5,194 5,894 6,694

Revenues:

Company-operated: $ 361.4 $ 489.2 $ 712.6 $ 988.5 $ 1,356.3 $ 1,826.1 $ 2,372.8

Revenues per store/year: $ 0.831 $ 0.930 $ 1.023 $ 1.115 $ 1.205 $ 1.289

Growth rate: 15.0% 12.0% 10.0% 9.0% 8.0% 7.0%

Licensed: $ 190.9 $ 232.2 $ 296.4 $ 372.2 $ 456.0 $ 546.7 $ 646.7

Revenues per store/year: $ 0.094 $ 0.105 $ 0.115 $ 0.126 $ 0.136 $ 0.145

Growth rate: 12.0% 10.0% 9.0% 8.0% 7.0%

CPG, Foodservice, and Other 2010 2011 2012 Year +1 Year +2 Year +3 Year +4 Year +5

(including Americas, EMEA, CAP)

Revenues: $ 868.7 $ 1,060.5 $ 1,554.7 $ 2,021.1 $ 2,425.3 $ 2,789.1 $ 3,068.0 $ 3,374.8

Growth rates: 22.1% 46.6% 30.0% 20.0% 15.0% 10.0% 10.0%

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in whole or in part.

Combined Revenues Forecasts

Combining the revenue forecasts for all segments, the forecasts imply that Starbucks will generate total revenue growth of 12.5% in

Year +1, 12.0% in Year +2, 11.6% in Year +3, 10.9% in Year + 4, and 10.8% in Year +5.

Starbucks’ Sales Revenue Forecast Development Forecasts

Year 2010 2011 2012 Year +1 Year +2 Year +3 Year +4 Year +5

Sales (in millions):

Company-operated stores $ 8,963.5 $ 9,632.4 $10,534.5 $11,574.1 $12,778.1 $14,149.1 $15,691.7 $17,385.1

Licensed stores 875.2 1,007.5 1,210.3 1,367.4 1,556.3 1,763.2 1,985.8 2,227.2

CPG, foodservice and other 868.7 1,060.5 1,554.7 2,021.1 2,425.3 2,789.1 3,068.0 3,374.8

Total Revenues $10,707.4 $11,700.4 $13,299.5 $14,962.6 $16,759.8 $18,701.4 $20,745.5 $22,987.1

rate of change 9.3% 13.7% 12.5% 12.0% 11.6% 10.9% 10.8%

Implied sales growth rates.

Sales by Segment and Type: Starbucks: Sales Forecasts by Segment and Type

2010 2011 2012 Year +1 Year +2 Year +3 Year +4 Year +5

Company-operated stores $ 8,963.5 $ 9,632.4 $10,534.5 $11,574.1 $12,778.1 $14,149.1 $15,691.7 $17,385.1

Growth rates 7.5% 9.4% 9.9% 10.4% 10.7% 10.9% 10.8%

Number of company stores 8,866 9,007 9,405 9,938 10,471 11,104 11,737 12,420

Sales/Average Store $ 1.007 $ 1.078 $ 1.144 $ 1.197 $ 1.252 $ 1.312 $ 1.374 $ 1.439

Sales Growth /Average Store 7.0% 6.2% 4.6% 4.6% 4.7% 4.8% 4.8%

Licensing $ 875.2 $ 1,007.5 $ 1,210.3 $ 1,367.4 $ 1,556.3 $ 1,763.2 $ 1,985.8 $ 2,227.2

Growth rates 15.1% 20.1% 13.0% 13.8% 13.3% 12.6% 12.2%

Number of company stores 7,992 7,996 8,661 9,428 10,195 10,962 11,729 12,546

Sales/Average Store $ 0.112 $ 0.126 $ 0.145 $ 0.151 $ 0.159 $ 0.167 $ 0.175 $ 0.183

Sales Growth /Average Store 13.0% 15.3% 4.0% 4.9% 5.1% 5.0% 4.8%

CPG, Foodservice and Other $ 868.7 $ 1,060.5 $ 1,554.7 $ 2,021.1 $ 2,425.3 $ 2,789.1 $ 3,068.0 $ 3,374.8

Growth rates 22.1% 46.6% 30.0% 20.0% 15.0% 10.0% 10.0%

Net Revenues $10,707.4 $ 11,700.4 $13,299.5 $14,962.6 $16,759.8 $18,701.4 $20,745.5 $22,987.1

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in whole or in part.

STEP 2: PROJECT OPERATING EXPENSES AND OPERATING INCOME

As described in the chapter, the procedure for projecting operating expenses depends on

the degree to which the various operating expense items have fixed or variable

components. If certain operating expenses behave as variable costs and the analyst

anticipates no changes in their behavior relative to sales, the analyst can project those

future operating expenses by multiplying the sales forecast by the appropriate common-

size income statement percentages from Text Exhibit 10.14. Equivalently, those

operating expenses can be projected to grow at the same rate as sales.

Alternatively, if the cost structure contains certain expenses with fixed-cost

components that will not change (or will change relatively slowly) as sales increase (that

is, the firm experiences economies of scale), using the common-size income statement

approach described earlier can result in excessive expense projections. In this case, the

analyst should estimate the firm’s variable and fixed cost structure. Capital-intensive

firms often have high proportions of fixed costs in their cost structures. When the

percentage change in cost of goods sold or selling and administrative expenses in prior

years is significantly less than the percentage change in sales, you can assume the

presence of fixed costs. Using the historical growth rates for individual cost items

presents one way of reflecting the effects of different mixes of variable and fixed costs.

When projecting operating expenses using projections as a percent of sales, you

should help students understand that an expense as a percent of sales can change over

time as (1) expenses change, holding sales constant; (2) sales change, holding expenses

constant; or (3) both types of changes occur simultaneously in the same direction or in

opposite directions. As an example of the first case, the analyst may expect an expense to

become a smaller fraction of sales over time if the firm will reduce the expense per dollar

of sales through improved technologies or operating efficiencies. As an example of the

second case, the analyst may expect that the firm will hold expenses constant but will

face increased competition for sales and, therefore, may have to lower sales prices,

causing the expected expense-to-sales ratio to increase. In the third scenario, if the

analyst expects that both effects will occur simultaneously, the net result on the projected

expense-to-sales percentage depends on the direction and on which of the two effects the

analyst expects to be proportionally greater.

Exhibit 10.I presents forecasts of the income statements (showing net income and

comprehensive income) for Years +1 through +6. In the paragraphs that follow, we

provide discussion and explanation for the forecast assumptions for various operating

expenses. We discuss the projections of interest income, interest expense, income tax

expense, net income, and the change in retained earnings after projecting Starbucks’

balance sheet. For all Year +6 forecast amounts, we simply assume 3% steady-state long-

run growth on the Year +5 amounts.

a. Projecting Cost of Sales. Starbucks’ cost of sales amounts include costs of coffee

beverages and other products sold, as well as occupancy costs (store rent). The cost of

sales percentage has grown sharply from 41.6% of sales in 2010 to 42.0% in 2011 to

43.7% in 2012. Starbucks has a proportion of cost of goods sold that behaves like a

fixed cost (the rent component) because store rent remains relatively fixed as sales

grow within some range. Part of the sharp jump in the cost of sales percentage in

2012 is attributable to the increase in coffee bean prices. We assume that Starbucks

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in whole or in part.

will incur slight improvements in cost of goods sold as a percentage of sales in future

years. We project a gradual slight decline from 43.2% in Year +1 down to 42.0% in

Year +5. It is not unreasonable for students to suggest that the fixed-cost effect of

store rent will enable Starbucks to achieve greater efficiencies and reductions in the

cost of goods sold percentage over time. Other students may reasonably argue that

Starbucks’ cost of sales percentage will exhibit additional future increases as it faces

greater competition from low-cost competitors, including the McDonalds’ McCafés.

b. Projecting Store Operating Expenses and Other Operating Expenses. Starbucks’

store operating expenses include labor and payroll-related expenses and other

operating overhead expenses attributable to the retail store operations. Starbucks’

other operating expenses include payroll, selling and marketing, and administrative

expenses related to the specialty revenues lines of business (licensing and consumer

products goods).

The retail store operating expenses have declined steadily as a percent of total

revenues, from 33.2% in 2010 down to 29.5% in 2012. [Students may also reasonably

benchmark store operating expenses as a percentage of company operated retail

revenues, or numbers of company operated stores.] We will assume that Starbucks

can achieve further slight improvements in store operating expenses relative to total

revenues, so we gradually reduce this to 28.5% of revenues by Year +5. In large part,

these expenses reflect salary and benefits costs for Starbucks’ employees. Given that

Starbucks’ strategy includes providing high-quality service as part of the Starbucks

Experience, store operating expenses are not likely to diminish significantly in the

future.

Other operating expenses reflect managing the licensing business and the CPG

and Foodservice segment. These expenses have stayed fairly steady as a percent of

total revenues over the past three years. We assume that other operating expenses will

continue to be 3.2% of total revenues in Year +1 through Year +5.

c. Projecting Depreciation and Amortization Expenses. Depreciation and

amortization expense (4.1% of total revenues in 2012) will grow with capital

expenditures on property, plant, and equipment. We describe the forecasts of

depreciation expense together with property, plant, and equipment in a following

section.

d. Projecting General and Administrative Expenses. Starbucks’ general and

administrative expenses include general corporate overhead and other operating

expenses. These expenses have remained fairly steady over the past three years,

varying from 5.3% of sales in 2010 to 6.4% in 2011 to 6.0% in 2012. We assume that

general and administrative expenses will continue to be 6.0% of total revenues in

Year +1 through Year +5 because it is unlikely that Starbucks will be able to achieve

significant cost savings in this category in future years.

e. Projecting Restructuring Charges and Nonrecurring Gains/Losses. Starbucks

recognized a total of roughly $650 million in restructuring charges for costs to close a

total of 1,000 retail stores in 2008 to 2010. These costs involve asset impairment

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charges, severance payments, lease termination, and penalties, among others. This

restructuring program has been completed and Starbucks has not announced any

further planned store closings. In 2011 Starbucks also recognized a nonrecurring gain

of $30 from a sale of two office buildings. We assume that restructuring charges and

nonrecurring gains and losses will be zero in Year +1 through Year +5.

f. Projecting Income from Equity Investees. This includes Starbucks’ earnings from

unconsolidated equity-method affiliates (reported as Income from Equity Investees in

the operating income section of Starbucks’ 2012 income statement). Starbucks has

generated a rate of return in excess of 50% on its average investment in equity

method affiliates in the last three years. This rate of return is high, but that is partly

because the investments are recognized at book value rather than fair value, and

partly because Starbucks includes profits from transactions with these equity method

affiliates in this income statement item (such as gross profits from sales of coffee and

related products to the joint ventures). We assume that Starbucks will continue to

generate a 50% rate of return on the average balance in the equity method affiliates.

When we forecast the balance sheet, we will project that Starbucks’ investments in

equity affiliates will grow at a 10% annual rate, slightly slower than the 12.2%

compounded annual growth rate in Starbucks’ equity method investments from 2007–

2012.

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in whole or in part.

Exhibit 10.I

Actual and Forecast Statements of Net Income and Comprehensive Income (Integrative Case 10.1)

Actual and forecast amounts in bold; below the actual amounts (only) we report historical common-size and rate of change percentages; below the forecast

amounts (only) we report the forecast assumptions and brief explanations. Amounts in millions; allow for rounding.

INCOME STATEMENT Actuals Forecasts

Year 2010 2011 2012 Year +1 Year +2 Year +3 Year +4 Year +5 Year +6

Revenues $ 10,707 $ 11,700 $ 13,300 $ 14,963 $ 16,760 $ 18,701 $ 20,746 $ 22,987 $ 23,677

common size 100.0% 100.0% 100.0% 12.5% 12.0% 11.6% 10.9% 10.8%

rate of change 9.3% 13.7% See Forecast Development worksheet for details of revenues forecasts.

Cost of goods sold and occupancy expense –4,459 –4,916 –5,813 –6,464 –7,190 –7,967 –8,775 –9,655 –9,944

common size –41.6% –42.0% –43.7% –43.2% –42.9% –42.6% –42.3% –42.0%

rate of change 10.2% 18.3% Assume declining cost of goods sold as a percent of sales.

Gross Profit 6,249 6,785 7,486 8,499 9,570 10,735 11,970 13,333 13,732

common size 58.4% 58.0% 56.3% 56.8% 57.1% 57.4% 57.7% 58.0% 58.0%

rate of change 8.6% 10.3% 13.5% 12.6% 12.2% 11.5% 11.4%

Store Operating Expenses –3,551 –3,595 –3,918 –4,384 –4,877 –5,405 –5,954 –6,551 –6,748

common size –33.2% –30.7% –29.5% –29.3% –29.1% –28.9% –28.7% –28.5%

rate of change 1.2% 9.0% Assume slight decline in store operating expense as a percent of revenues.

Other Operating Expenses –293 –393 –430 –484 –542 –605 –671 –743 –765

common size –2.7% –3.4% –3.2% –3.2% –3.2% –3.2% –3.2% –3.2%

rate of change 34.0% 9.4% Assume steady percentage of revenues.

Depreciation and Amortization –510 –523 –550 –684 –797 –924 –1,064 –831 –856

common size –4.8% –4.5% –4.1%

rate of change 2.5% 5.2% Amounts from depreciation schedule, Forecast Development worksheet.

General and Administrative Expenses –570 –749 –801 –901 –1,010 –1,127 –1,250 –1,385 –1,426

common size –5.3% –6.4% –6.0% –6.0% –6.0% –6.0% –6.0% –6.0%

rate of change 31.6% 6.9% Assume steady state relative to revenues.

Restructuring Charges/Nonrecurring Gain –53 30 0 0 0 0 0 0 0

common size –0.5% 0.3% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

rate of change Explain assumptions.

Income from Equity Investees 148 174 211 241 266 292 321 354 364

common size 1.4% 1.5% 1.6% 50.0% 50.0% 50.0% 50.0% 50.0%

rate of change 17.3% 21.3% Assume 50% rate of return from equity investees.

Operating Profit $ 1,419 $ 1,729 $ 1,997 $ 2,287 $ 2,610 $ 2,967 $ 3,353 $ 4,176 $ 4,301

common size 13.3% 14.8% 15.0% 15.3% 15.6% 15.9% 16.2% 18.2% 18.2%

rate of change 21.8% 15.6% 14.5% 14.1% 13.7% 13.0% 24.5%

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in whole or in part.

Interest income 50 116 94 96 101 109 118 127 131

common size 0.5% 1.0% 0.7% 4.4% 4.4% 4.4% 4.4% 4.4%

rate of change 130.4% –18.6% Interest rate earned on average balance in cash and marketable securities.

Interest expense –33 –33 –33 –34 –34 –34 –34 –17 –18

common size –0.3% –0.3% –0.2% –6.25% –6.25% –6.25% –6.25% –6.25%

rate of change 1.8% –1.8% Interest rate paid on average balance in financial liabilities.

Income before Tax 1,437 1,811 2,059 2,348 2,677 3,042 3,437 4,286 4,414

common size 13.4% 15.5% 15.5% 15.7% 16.0% 16.3% 16.6% 18.6% 18.6%

rate of change 26.0% 13.7% 14.1% 14.0% 13.7% 13.0% 24.7%

Income tax expense –489 –563 –674 –775 –883 –1,004 –1,134 –1,414 –1,457

common size –4.6% –4.8% –5.1% –33.0% –33.0% –33.0% –33.0% –33.0%

rate of change 15.2% 19.8% Effective income tax rate assumptions.

Net Income $ 948 $ 1,248 $ 1,385 $ 1,573 $ 1,793 $ 2,038 $ 2,303 $ 2,871 $ 2,958

common size 8.9% 10.7% 10.4% 10.5% 10.7% 10.9% 11.1% 12.5% 12.5%

rate of change 31.6% 11.0% 13.6% 14.0% 13.7% 13.0% 24.7% 3.0%

Net income attributable to noncontrollin

g

interests –3–2–1000000

common size 0.0% 0.0% 0.0% 0.0 0.0 0.0 0.0 0.0

rate of change –14.8% –60.9% Assume noncontrolling interests are acquired.

Net Income attributable to common

shareholders 946 1,246 1,384 1,573 1,793 2,038 2,303 2,871 2,958

common size 8.8% 10.6% 10.4% 10.5% 10.7% 10.9% 11.1% 12.5% 12.5%

rate of change 31.7% 11.1% 13.7% 14.0% 13.7% 13.0% 24.7% 3.0%

Other comprehensive income items –8–11 –24 000000

common size –0.1% –0.1% –0.2% 0.0 0.0 0.0 0.0 0.0

rate of change 32.9% 116.5% Assume random walk, mean zero.

Comprehensive Income $ 940 $ 1,237 $ 1,361 $ 1,573 $ 1,793 $ 2,038 $ 2,303 $ 2,871 $ 2,958

common size 8.8% 10.6% 10.2% 10.5% 10.7% 10.9% 11.1% 12.5% 12.5%

rate of change 31.6% 10.0% 15.6% 14.0% 13.7% 13.0% 24.7% 3.0%

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in whole or in part.

STEP 3: PROJECT OPERATING ASSETS AND LIABILITIES ON THE

BALANCE SHEET.

We prepare forecasts of Starbucks’ operating assets and liabilities on the balance sheet

next. We project individual assets and then sum individual asset amounts to obtain total

assets. This approach illustrates how to develop forecasts that capture different drivers of

growth in different types of assets, allowing the mix of the firm’s assets to change over

time.

Exhibit 10.J reports the projected amounts for Starbucks’ balance sheets in Years +1

to Year +6. The forecast amounts are shown in bold, with forecast assumptions and brief

explanations below. The following discussion explains the projections of individual

operating assets and liabilities.

Projecting Individual Operating Assets. To develop forecasts of individual assets, you

should help students develop forecast assumptions for individual assets using historical

growth rates in sales or other activity-based drivers of assets. For example, students can

develop forecasts of individual assets based on sales growth forecasts or asset turnovers,

particularly for assets integrally related to sales (accounts receivable, inventories, and

fixed assets). By using turnover rates to develop forecasts for individual assets, the

analyst can capture the projected level of operating activity and permit changes in the

expected relation between individual assets and operating activities such as sales. The

projections of individual assets for Starbucks illustrate the use of a combination of

drivers, including numbers of new stores, common-size percentages, growth rates, and

asset turnovers

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in whole or in part.

Exhibit 10.J

Starbucks

Actual and Forecast Balance Sheets (Integrative Case 10.1)

Actual and forecast amounts in bold; below the actual amounts (only) we report historical common-size and rate of change percentages; below the forecast

amounts (only) we report the forecast assumptions and brief explanations. Amounts in millions; allow for rounding.

Actuals Forecasts

2010 2011 2012 Year +1 Year +2 Year +3 Year +4 Year +5 Year +6

ASSETS:

Cash and cash equivalents $ 1,164 $ 1,148 $ 1,189 $ 1,230 $ 1,378 $ 1,537 $ 1,705 $ 1,889 $ 1,946

common size 18.2% 15.6% 14.5% 30.0 30.0 30.0 30.0 30.0

rate of change –1.4% 3.5% Assume ending cash balances equal to 30 days sales.

Marketable securities 286 903 848 874 900 927 955 984 1,013

common size 4.5% 12.3% 10.3% 3% 3% 3% 3% 3%

rate of change 215.9% –6.0% Assume 3% growth.

Accounts and notes receivable—net 303 387 486 595 700 800 888 984 1,014

common size 4.7% 5.3% 5.9% 23% 18% 14% 11% 11%

rate of change 27.7% 25.7% Assume growth with licensing and CPG revenues

Inventories 543 966 1,242 1,222 1,359 1,506 1,659 1,825 1,880

common size 8.5% 13.1% 15.1% 69.0 69.0 69.0 69.0 69.0

rate of change 77.8% 28.5% Assume ending inventory equals 69 days cost of goods sold.

Prepaid expenses and other current assets 157 162 197 208 219 232 245 259 267

common size 2.5% 2.2% 2.4% 5.7% 5.4% 6.0% 5.7% 5.8%

rate of change 3.2% 21.7%

Deferred tax assets—current 304 230 239 274 313 355 401 501 516

common size 4.8% 3.1% 2.9% 15% 14% 14% 13% 25%

rate of change –24.3% 3.6% Assume growth with tax provision

Current Assets $ 2,756 $ 3,795 $ 4,200 $ 4,403 $ 4,868 $ 5,358 $ 5,854 $ 6,443 $ 6,636

common size 43.2% 51.6% 51.1% 48.7% 47.8% 47.1% 46.5% 44.9% 44.9%

rate of change 37.7% 10.7% 4.8% 10.6% 10.1% 9.3% 10.1% 3.0%

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in whole or in part.

Actuals Forecasts

2010 2011 2012 Year +1 Year +2 Year +3 Year +4 Year +5 Year +6

Investments in noncontrolled affiliates 342 372 460 506 556 612 673 741 763

common size 5.3% 5.1% 5.6% 10% 10% 10% 10% 10%

rate of change 9.0% 23.5% Assume steady growth at 10%.

Property, plant, and equipment—at cost 5,889 6,163 6,903 8,103 9,444 10,940 12,600 14,439 14,872

common size 92.2% 83.7% 84.0%

rate of change 4.7% 12.0% PP&E assumptions – see schedule in forecast development

Accumulated depreciation –3,472 –3,808 –4,244 –4,964 –5,804 –6,776 –7,896 –8,770 –9,033

common size –54.4% –51.7% –51.6%

rate of change 9.7% 11.5% See depreciation schedule in forecast development worksheet.

Amortizable intangible assets (net) 417 410 386 434 486 542 602 667 687

common size 6.5% 5.6% 4.7% 12.5% 12.0% 11.6% 10.9% 10.8%

rate of change –1.8% –5.8% Assume new investments grow with sales.

Goodwill 262 322 399 449 503 561 623 690 711

common size 4.1% 4.4% 4.9% 12.5% 12.0% 11.6% 10.9% 10.8%

rate of change 22.6% 24.1% Assume new investments grow with sales.

Long-term investments 192 107 116 119 123 127 131 134 139

common size 3.0% 1.5% 1.4% 3.0% 3.0% 3.0% 3.0% 3.0%

rate of change –44.2% 8.4% Assume 3% growth.

Total Assets $ 6,386 $ 7,360 $ 8,219 $ 9,050 $ 10,177 $ 11,364 $ 12,586 $ 14,342 $ 14,773

common size 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%

rate of change 15.3% 11.7% 10.1% 12.4% 11.7% 10.8% 14.0% 3.0%