Time to Steep Your Portfolio in This Stock

By Chad Henage - June 6, 2012 | Tickers: SBUX, TEA | 0 Comments

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Teavana (NYSE: TEA) got thrown out like an old tea bag recently. The company's earnings per share fell in line with estimates, but the market clearly did not like the company's guidance. The stock has taken a 23% hit since this most recent report. This got me thinking, is the market overreacting? I'm not the type to go with the crowd, so I decided to dig into Teavana's earnings report, and see what made investors decide this company wasn't their cup of tea.

Headline Numbers:

When you look at the headline numbers, Teavana seems to have turned in a decent quarter. The company increased sales by 27% and adjusted net income was up 12%. In addition, the company opened 23 new stores and had positive 1.7% growth in same-store sales. Teavana said they expect to open a total of 60 stores this year, which equates to full year growth of 30%. The company is front-end loading these store openings as well. Teavana opened 23 new stores in the first quarter, 13-14 are expected in the second quarter, which would leave about 11 or 12 in the third and fourth quarters. That's a positive for the company, as everyone knows the holiday selling season is the most important time of the year.

Financials:

Looking at the company's financials everything seemed to be moving along as expected until I got to SG&A expenses. With gross margin basically flat, you would expect net margins might stay about the same. It would have, but the company grew SG&A expenses by 40% to accompany a sales advance of only 27%. It's possible this large increase was due to expenses connected to the 23 new store openings, but this is something investors need to keep an eye on going forward. Overall the numbers look good, so what did the company say that spooked investors?

The Teatopia Acquisition:

The short answer is Teavana is acquiring Teatopia's 46 stores in Canada for about $26.89 million. Comparing analysts expectations versus the company's guidance becomes somewhat of a challenge. For instance, if you include the Teatopia acquisition costs, nearly every number analysts were expecting comes up light. Even excluding these costs, the numbers still mostly come up short. Let me give you some examples:

Since the Teatopia acquisition is expected to have such a large impact on the company's results, let's look at the acquisition itself and the future impact as well.

The total price for Teatopia works out to about $584,500 per store. With Teavana's current share count, this acquisition is expected to add about $1.154 million to earnings next year. While it is true that the cost of this buy will hurt earnings this year, a roughly 4.3% return on the purchase price within one year sounds like a decent value to me. Longer-term the company expects to reach a goal of at least 500 stores by 2015. Seemingly cheap acquisitions like the Teatopia deal, is one way for the company to reach this goal.

Conclusion:

In conclusion, Teavana has lost 23% because of an acquisition that should be a long-term positive. This short term thinking could lead to Teavana outperforming in the future. A second reason the stock looks attractive is the value of the company's competition. Starbucks (NASDAQ: SBUX) is the model that Teavana hopes to copy. Starbucks makes a lot of money selling higher priced coffee. Teavana hopes to convince buyers that their high end tea is the “Starbucks of tea”. Since the Teatopia buy skews the current year results, let's compare the two companies on their 2013 full year earnings. Starbucks sells at a forward P/E of about 22.48 and is expected to grow by 19.58%. Teavana sells for about 17.39 times next year's earnings and is expected to grow at 31.67%. I know that Teavana doesn't have the brand power that Starbucks has, but that's part of the point. Teavana has 223 shops compared to the thousands that Starbucks operates. If Teavana can continue successfully duplicating its model, we might be looking at the kind of run that Starbucks had when they only operated a few hundred stores. Considering that according to the company, “more tea is consumed each year around the world than any other beverage” the opportunity is vast. Let that fact simmer for a minute, and keep in mind investing is about building a brand for the long haul, not looking just at the next quarter or so.

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