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Starbucks 2002 Annual Meeting 3/25/03

Disclaimer : The following are my notes from the balcony where my old ears don't always catch the nuances but where the view is great. Errors are inevitable and I look forward to folks correcting me. When in doubt call Investor Relations or access the record of the event out on Starbucks' web site.

Pre-meeting Observations
This is probably my fifth year attending the show. Other stockholders' meetings can be very dull; though I hear PIXR's is pretty good. Starbucks always aims to please in an informal and stylish way. They also serve lots of food and drinks which is natural. Maybe all of that extra caffeine and sugar brightens the crowd too. This crowd is unique too. It has the smallest percentage of suits. Lots of employees and regular stockholders show up.

This year was unique because attendance required an invitation. That is a first for the meetings that I attend. Here are three reasons it might be that way. 1) Maybe that was in response to last year's grandstanding by organizations hunting for a public pulpit and a captured audience. 2) Limiting the participation makes security easier. 3) As Starbucks has grown the meeting attendance has grown as well so they might need to control the crowd size. Take your pick, combine a few or make up some reasons of your own. The result was a more homogeneous crowd. Finding a seat was more difficult but the three of us managed to grab our seats in the balcony as always. Tradition holds.

In case the food and drink weren't enough, there was also a juggler and a magician working the crowd while onstage there was a guitarist playing Spanish music. We joked about the juggler and magician being the new accounting system but didn't really mean it.

Presentations - Howard Schultz Chief Global Strategist
The meeting had a Spanish theme to celebrate the entrance into Spain's markets. With that in mind the first action on stage was a Flamenco dancer. Very nicely danced and played. Next came a video of Howard Schultz digitally inserted into the running of the bulls in Pamplona. Orin Smith and Howard then came out on stage wearing outfits from the video that then were stripped off to reveal conventional business attire. Once things settled down they added a somber element with a moment of silent prayer for the troubles in the world. He actually had better words than that but I won't do them the disservice of misquoting them.

Segueing into business talk Howard pointed out that in such a terrible year for the world and many businesses Starbucks set records: $3B in revenue, $200M in profit with $500M in cash without any appreciable debt and as of the meeting a market cap of $10B.

Within the last year Starbucks celebrated its tenth anniversary of its IPO. Since the IPO the S&P is up 122%, the NASDAQ is up 160%, the Dow is up 160% and SBUX is up 2500%. This success was pointed out to be more about relationships with growers, employee partners, customers, and stockholders than about coffee; though good coffee made it happen. Their long term goal is to maintain that type of corporate benevolence and success effectively becoming a new type of company relative to old traditional approaches.

Somewhere in there the audience gave a very nice round of applause to the employees. They deserve it and I am glad that Starbucks has such a good employee stock ownership policy.

Very little advertising is a hallmark of Starbucks. One significant departure from that is the acquisition of the sponsorship for Seattle's baseball team. Rather than being a hometowny sort of thing to do they showed ingenious savvy by being able to put a Starbucks on the outfield wall directly behind Ichiro. That didn't sound like much of a coup until he pointed out that all of the games are broadcast live in Japan and aren't interrupted by ads. Ichiro's status in Japan is enormous and Starbucks will get a lot of exposure as part of that.

At this point they usually bring up a series of videos and jokes that show how Starbucks is thought of in movies, TV, and the world in general. This was given over to one excellent comedian's routine from "Late Night with David Letterman". The ONLY way to appreciate that would be to get a replay. If you are lucky it is on the web site. There is no way I can do it justice in print. Suffice it to say that some folks were laughing so hard that they cried.

Presentations - Orin Smith president and CEO
Orin had a hard act to follow but he had really good numbers to show so he did alright.

He started by showing how Starbucks' growth may have spawned without monopolizing the resurgence of the coffee house industry. In 1992 there were 142 Starbucks out of 2250 coffee houses. Today in the US there are 3200 Starbucks out of 13500. Starbucks added over 3000 stores but the country gained over 11000. That is nice industry growth.

Within the last year the following awards were bestowed upon the company:
Among most admired #9 - Fortune
Among Strongest global brands #93 - Business Week
Among 100 best places to work - Fortune (five years in a row)
Among best corporate citizens #21

His financial presentation was sprinkled throughout his talk. Hopefully my summary of it here is accurate enough.
Revenue - 1992 $103M grew to $3.3B for 2002 which is an annual growth rate of 41%. The 3 to 5 year goal is 20% annually and 2002 had 24% and 1Q03 had 25%.
Store growth - 1992 was 165 grown to 6300 in 2002 and 7000 in 2003. Last year they added 1172 stores. Today's rate is about three stores per day. In 2005 they expect 10000 stores with a conservative estimate of 25000 more than five years out.
Earnings per share growth - Last year was 19%. 1Q03 was 17% to a value of $.67 - $.69 and the 3 to 5 year goal is 20% to 25% annually.
Employees - In 1992 there were 1800. That is now more like 60,000.
Market capitalization - In 1992 it was $400M but now is $10B.
Customer base - In 1992 there were 600,000 customers. Now there are about 22,000,000.
Same store sales growth - For the last 5 years it has been about 6%. The 3 to 5 year goal is 3% to 7%.
He emphasized that this all happened during some recent years that have been terrible for other companies. Creativity like the card and new drinks were credited with the difference.

He switched to a discussion of opportunities for growth. Market saturation has never happened for the company despite some people's fears. The more folks know about Starbucks the more business the company does. The areas of highest store density also show the highest growth rates. Conservatively he expects 10,000 stores within the US before saturation and about 15000 more worldwide. He pointed out that Manhattan has the one of the highest concentrations and they aren't done yet. Much of the growth will include things like drive through service, mini stores incorporated into airports and grocery stores, and innovations like the card, new drinks and higher productivity drink machines. A few other billion dollar avenues are also opening up in terms of product sold from grocery shelves (a supermarket near you) and within the food service (Sysco).

Presentations - Anne Saunders VP Interactive (and technology?)
Anne mostly talked about the card and how it is catching on. It accounts for 11% of transactions and its use is growing at about 35% annually. It is handy for productivity and marketing. A combined card the acts like a Starbucks card within the store and a credit card outside the store is going to be debuted soon. Stockholders were given the opportunity to get a limited edition version of the card. (That is the nicest credit card pitch I have ever seen and I still won't do it.) Evidently use of the card outside the store accrues awards or discounts within the store; so some heavy users might have to pay for their lattes. I'm not sure how that will work. Ask Anne.

She also helped demonstrate the wireless broadband available within the stores by connecting a laptop to the head of Conservation International. He was hanging out in a Starbucks and gave his presentation remotely. His presentation was a thank you to Starbucks for being so environmentally conscious.

Presentation - Mary William & Williard Hey (sorry Williard my handwriting got sloppy there. I might have the last name mispelled.) SVP of coffee
The biggest news was that Mary is retiring in 2004 and Williard will take her place. They emphasized (as Mary has done in the past) that Starbucks' direct support of the growers life services and environment are something to be proud of. Evidently many farmers have gone out of business because of recent price fluctuations but the Starbucks growers are hanging in there because of the long term contracts and commitments the company makes. It is even called "the Starbucks effect" in those countries. Mary pointed out that such an approach was considered impossible years ago but the company has made it work. To emphasize the point one of the farmers, Miquel Badilla, took his first airplane flight to give a thank you presentation speech. It was well received. He delivered it in a very professional manner and made me wonder how well he would do if he was within Starbucks' management.

Presentation - Peter Masien - Pres. International
This is where the really big growth is expected to happen as Starbucks becomes a global, rather than only an American, company. Nine new markets were added last year. Most of them involve choosing existing local companies as partners. The selection process was described as ending with the four finalists coming to Seattle to check for the best match of people values. By that point every other criteria has been met.

The president of the Spanish partner emphasized that message in a short speech.

Presentation - Howard Schultz again
Howard summarized the journey as stated above and emphasized that despite how it looks, the company is just in the early days of its growth. The 25,000 store number is considered conservative. One additional measure is that post 9/11 and during the first week of the Iraq war business is up. The stores are seen as a place for human connection and are becoming part of a global social change. He talked about a book called "The Tipping Point" that talks about rapid unexpected changes. Evidently there are lots of similarities to what is happening with Starbucks' growth.

Formal meeting - Paula Boggs EVP and general counsel and Secretary
This is usually very formulaic. While the votes didn't come in until after the Q&A I will summarize them here. Everyone nominated got elected. The proposal to improve food labeling of products with growth hormone only got 5.8%. The proposal to expense options got 42.3% which is significant except that it didn't pass.

Q&A - note that I paraphrase both sides of the discussion
> Some folks want Starbucks to use basically organically produced everything. The response pointed out that the FDA hasn't found problems with the items mentioned but that the stores provide the option for folks that are worried about it. Part of the problem is also a supply issue in that 97% of the supply has some of the growth hormone in it and that using it would add about $.50 per beverage to the cost.
> The questioner felt that Starbucks' Fair Trade effort was a token one because it only involved 1% of the total coffee sold by the company. She implied that the other 99% was unfair trade. Orin pointed out that the company buys its coffee at an average of $1.20 per pound while the Free Trade goal is $1.25 which is better performance than any large coffee company. Also the 1% number is misleading because some folks use the term "Free Trade" to mean only those farmers that have joined a particular organization and does not include non-members who feel that they are already being treated fairly.
> One fan talked about a book that is for sale but I missed the details of her comments.

That concluded the shortest Q&S session of any stockholders's meeting that I can recall. That ticket process probably made the difference.

My conclusions
They always seem to have maxed out and then come in with very good numbers with new ideas for growth. I've been watching them and I don't know how they do it so consistently. Maybe their corporate culture really works. Maybe this industry is growing so fast that they can't fail. In any case I like what they are doing. The only cause for caution I see is the stock price but then a 20% growth with 6% same store sales and a lot of room for store growth might make up for all of that. In fairness the possible downsides I see are the introduction of automation into the coffee making and delivery process. I know some baristas have left because they can no longer apply their artistic creativity to what they hand the customer. Growth begets bureaucracy in so many companies that I tend to sell as they get very large. This is a coffee company that is worth $10B. That seems odd but at least it is based on earnings and growth. We all agreed that walking out of the meeting always seems like a good time to buy more stock so I guess that we came away with a very positive assessment.

LTBH and have owned SBUX continuously since 1994 though the original share got sold off as we reduce our holdings. I might buy more but the market cap is getting up there if not already past my size criteria. If you can't tell, I am conflicted about a successful, socially and environmentally conscious company that consistently executes with a quality product (though I wish I could get a loose leaf cup of teat there). If it sounds too good to be true something must be up or maybe this time it really is true. Danged if I know, but they do put on a good show.

Looking forward to comments from any Fool brave enough to read this entire tome.
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