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) -- The divorce of




Kraft Foods


may yet prove lucrative, at least for

Peet's Coffee & Tea



Kraft and Starbucks continued to trade in negative territory Tuesday after the former challenged the latter's decision to

terminate their 12-year supermarket distribution partnership. The schism could benefit coffee up-and-comer Peet's, according to Stifel Nicolaus analyst Steve West.

>> Kraft Challenges Starbucks; Shares Fall

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"(When) Starbucks and Kraft part ways, we believe Peet's could be a nice fit to deliver Starbucks into the distribution business," he noted Tuesday morning while conceding that "we have no knowledge of any M&A negotiations or discussions between Peet's and Starbucks or any other party."

The analyst speculated that Peet's stock, currently trading around $38, could garner as much as a 40% premium to recent pricing, pushing it up as high as $54, with EV-to-EBITDA, or enterprise value to earnings before interest, taxes, depreciation and amortization, to about 13.5 times his fiscal 2011 estimates.

"It appears Starbucks prefers a distribution agreement to maximize profit and minimize risk (similar to current KFT agreement only with more of the profits), however, this may not be viable now that the SBUX/KFT disagreement has become so public and negative," West wrote.

West purported that Starbucks must do one of three things:

Find a new distribution partner, a likely scenario with less risk and lower profits.

Acquire distribution capabilities, less likely with moderate risk and maximum profit potential.

Establish its own distribution capability, unlikely given the high risk, despite maximum profit potential.

West added that Peet's direct-store delivery system covers around 80% of all grocery locations "with established relationships at virtually all of club, mass and drug" store outlets, "needing minimal investment to achieve full coverage in the midwest and south."

The increasingly popular single-serve coffee market could also be an entry point, the analyst speculated. "Additional premium brands (Peet's and


) could significantly leverage a potential Starbucks single-cup brewer, possibly giving it enough market weight nationally across all retail channels to challenge

Green Mountain's


K-Cup supremacy."

Still, a Peet's-Starbucks agreement would carry its own risks, West continued, given inherent vulnerabilities in transitioning a national distribution network, "no matter how it's done."

Kraft said Monday it started an arbitration proceeding to challenge Starbucks' attempt to end their 12-year packaged coffee agreement.

Starbucks, in documents obtained by


, claimed that Kraft mismanaged store displays and marketing and failed to take measures to "address the erosion of Starbucks market share." Starbucks' claims were found in an Oct. 5 letter from Starbucks' attorney Aaron Panner to Deanie Elsner, president of North American beverages at Kraft, the newswire reported.

Unless Kraft fixed the breaches within 30 days, the letter said, their deal -- in which Kraft sells Starbucks and Seattle's Best bagged coffees at grocery stores and other retail chains -- would end next March.

Starbucks, in another letter, dated Nov. 5, released hours after its stellar quarterly earnings report, said Kraft "made no effort" to cure the breaches and so the deal would end.

>> Starbucks Percolates on Earnings Beat

Kraft, on Monday, fought back, maintaining that the contract remains in effect indefinitely, subject to "certain limitations and protections," and that Starbucks can't just walk away from their deal.

"Starbucks unilaterally and unjustifiably declared in public statements the agreement's termination, needlessly risking confusion among customers about the agreement's status," said Marc Firestone, Kraft's executive vice president, corporate and legal affairs and general counsel.

Under the protections of the indefinite agreement,


needs to be given sufficient adjustment period to deal with the end of their partnership and must be compensated with the fair market value of the Starbucks business partnership, plus, possibly, a premium of up to 35% of that value, the company said.

Kraft argued that it helped Starbucks build its retail grocery coffee business significantly over the years, from $50 million in annual revenues in 1998, when their partnership was formed, to $500 million today.

"In effect, Starbucks is trying to walk away from a 12-year strategic partnership, from which it has greatly benefited, without abiding by contractual conditions. Kraft reasonably expected Starbucks to honor the contract," Firestone declared.

-- Written by Miriam Marcus Reimer in New York.

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