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Howard Schultz Wants Starbucks to Be the IBM of Coffee

Stocks in this article: SBUX IBM MCD DELL HPQ

IBM has cut a string of small-sized deals in recent years that leverage its existing IT services, software and consulting divisions that earn roughly 60% of IBM's $100 billion plus in revenue and are key to Big Blue's overall 15% profit margin.

When buying cloud specialist DemandTec for $440 million, IBM laid out a case for why the move fit within a much larger $20 billion Smarter Commerce push. That initiative, which ties to a much larger Smarter Planet strategy, also was a key in the divestiture of IBM's Retail Store Solutions unit and a large licensing agreement with Toshiba Tec in 2012. Acquisitions, IBM says time and again, are used to bolster an existing product or service - or to gain entry into a new market -- such as cloud computing -- that fits with its profitable core.

Just over a decade ago, IBM was facing an existential crisis as an onslaught of competition from Dell (DELL), Hewlett Packard (HPQ) and Apple (AAPL) eroded profits, making it a losing proposition for "Big Blue" to manufacture the personal computers it had pioneered.

Instead of trying to scale the business for synergies, IBM spun the unit and under former CEOs Lou Gerstner and Samuel Palmisano, it transformed into a tech consulting and IT services giant. Years later, IBM's near-record share price stands apart from former competitors like Dell and Hewlett Packard, who continue to struggle to sell computers profitably.

Like IBM, Starbucks is saying it's high margin core is here to stay. To continue growth, though, the company has to look for new products and customer draws in which it can invest and that in turn can benefit from existing business, enhancing as opposed to diluting the core.

There are risks, highlighted by Starbucks near 3% Tuesday share drop.

Starbucks noted that the deal will dilute earnings by a few pennies, likely causing some investor concern. "We struggle with a dilutive deal because it suggests both aggressive spending as well as a lack of operating income from the current business," wrote Bank of America Merrill Lynch analyst Joseph Buckley, who lowered his earnings per share estimate for Starbucks by 2 cents in 2012 and 4 cents in 2013. Still, he rates shares a buy with a $68 price target on the company's existing growth prospects.

Many see benefits outweighing EPS dilution. " This marks a material attempt at a somewhat needed upgrade to the quality of core baked goods.," said Credit Suisse analyst Keith Siegner in a Tuesday note. "This is just another example of investing some of the upside from K-cups and coffee deflation in longer-term growth drivers, and we continue to believe this is the path to long-term shareholder value creation," Siegner added.

Brian Bittner of Oppenheimer wrote, "while the acquisition is small in dollar terms, its potential is substantial as distribution to SBUX locations increases, the retail footprint expands and the possibility of another thriving CPG offering now exists."

A bet on Starbucks is simpler than all this, though: Big Bean is hoping that a strategy similar to Big Blue will result in a continued jolt for its shareholders.

Here's another take on Starbucks in a peak coffee era.



See top rated restaurant stocks for more on Starbucks.

-- Written by Antoine Gara in New York

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