Teavana isn't all its Brewed Up to Be

By Simon Erickson - September 12, 2012 | Tickers: SBUX, TEA | 0 Comments

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I have read quite a few accolades lately about how Teavana (NYSE: TEA) is sure to become the next big thing. Fellow blogger Matthew Luke made some compelling arguments about the potential of the tea industry and Chad Henage thinks that its time to steep your portfolio into the stock.  Even the venerable Rule Breaker Rick Munarriz has made a bullish call for Teavana.

But in the spirit of Dueling Fools, I’m going to take the other side of this argument and de-caffeinate some of the cheerleading.  I don't think Teavana is all that it's brewed up to be, and expect them to underperform the market going forward.

The Bull Case

Promoters of Teavana favorably compare the company to Starbucks (NASDAQ: SBUX).  Tea consumption is increasing in America, and Teavana is in the right place to capitalize on the relentless and oncoming trend.  After all, Starbucks made their fortunes by selling coffee.  Tea is also a caffeinated beverage that has appeal across a wide audience. 

Tea, by dry weight, contains substantially more caffeine than coffee does.  However, steeping tea requires the use of much less weight of tea leaves than the brewing of coffee grounds.  In this sense, tea can be enjoying and have a calming nature as well.  This bodes well for American consumers that are looking to blow off some steam after a long day of work.

Even Starbucks has taken an interest in the potential merits of tea.  The company will open its first tea-only store in October under the Tazo brand. 

Both Starbucks and Teavana sell a caffeinated beverage that is rising worldwide.  But in my opinion, that’s about where the likeness ends.

Tea is Not Coffee and Teavana is Not Starbucks

First of all, let's talk about the merits of coffee.  Coffee is an addictive beverage.  If you work with coffee-drinkers, you know what it's like to be around them before they have their first morning espresso (not pleasant).  Bottom line, people make drinking coffee one of their daily habits. 

And those daily habits are an EXTREMELY powerful phenomena in the business world.  Charles Duhigg devoted an entire book, “The Power of Habit,” to exploring how companies can take advantage of peoples’ routines and habits.  He also gave a fascinating interview with Motley Fool Money - which I would highly recommend if you haven't heard it yet.

Coffee's additive pick-me-up nature made it the perfect product for Starbucks to sell.  Starbucks succeeded as a company because it was able to distribute coffee universally.  Starbucks was founded in 1971, sold to Howard Shultz in 1988, and began international domination ...err... expansion in 1996.  Before long, you could enjoy your favorite morning beverage at any Starbucks around the world and be able to count on it tasting exactly how you like it every time.

Starbucks optimized its business to replicate a perfect customer experience in every location, which maximized revenues from repeat customers.  These customers already had developed deeply-formed habits of drinking coffee, and Starbucks' aggressive expansion appealed perfectly to working Americans.  It became extremely easy to grab a Starbucks every morning on your way to work at locations right near the highways and commuter roads.  Starbucks expanded to put kiosks directly into the corporate high-rises, or at worst a short walk near to them.  And then at night, people could relax at a Starbucks as their ‘third place’, away from work and home, as a place where they could spend their free time.

Impressive business legacy, isn't it?  Now let's turn our attention to Teavana.

Teavana operates out of smaller stores that are largely located in mall shopping properties.  As of the beginning of the month, they have 284 stores, which is up an impressive 60% from the 179 locations that they had a year ago. 

The majority of Teavana's sales come from loose-leaf teas.  They carry all types:  Fruity, Jasmine, Dessert, Spicy, and so on.  And they also sell online...just in case you're a tea afficianado and a few of those sounded of interest to you (note that I am not a Teavana shareholder and/or do not receive any incentives from promoting sales).

However, this loose-leaf model requires consumers to go back home and brew the teas themselves.  It is a far cry from having an expert coffee barista quickly and conveniently prepare a beverage for you while you sit in your car.

For this reason, I just don't think that Americans are patient enough for Teavana.  There will no doubt be an interested minority that can't wait to go back to the mall to see what the Maharaja Chai Oolong tastes like.  But the masses like convenience.  If Teavana's model were effective, we would have seen Starbucks' customers abandon them long ago in favor of buying cheaper, superior coffees and brewing them at home in their own kitchens.

Final Roasting

Teavana is still very small, with a Market Cap of only half-a-billion dollars, compared to Starbucks' $39 billion empire.  So it's obvious that we're not exactly comparing apples-to-apples here.  Teavana is a very early-stage company that is still growing, and Starbucks is a mature industry leader with a much larger footprint.

That said, I don't see Teavana's business model as one that will effectively reach mass market appeal.  This will limit their overall market and put a lid on the stock price potential.

Feel free to let me know if you read the tea leaves differently, but I can easily see a future where the hype around Teavana gets poured down the drain.

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