星巴克 (SBUX) 2006 Q1 法說會逐字稿

At this time, I would like to welcome everyone to the Starbucks first-quarter 2006 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a questions-and-answer session. (OPERATOR INSTRUCTIONS).

Ms. DeGrande, you may proceed with the conference.

Thank you. Good afternoon, ladies and gentlemen. This is JoAnn DeGrande, Director of Investor Relations at Starbucks Coffee Company. With me today are Howard Schultz, Chairman; Jim Donald, President and CEO; Michael Casey, Executive Vice President and CFO; and Mary Ekman, Vice President, Corporate Development and Investor Relations.

During today's call, Jim will review key results and accomplishments. Howard will provide an update on the next stage of our entertainment strategy. And Michael will highlight the key drivers behind our first-quarter results, as well as discuss our fiscal 2006 growth targets. We will limit today's call to one hour, including Q&A.

I'd like to point out that today, for the first time, along with our fiscal first-quarter results, we also released our January revenues.

As a reminder to all listeners, this call is being broadcast live over the Internet. A replay will be available via telephone at 800-642-1687, reservation number 3728089 through 5:30 PM Pacific Time on Wednesday, February 8, and via the Internet on the Investor Relations page at Starbucks.com through 5 PM Pacific Time on Tuesday, March 7.

In addition, today's remarks will be available on the Investor Relations portion of Starbucks.com by the end of the day and will remain available through Thursday, March 2.

This conference call includes forward-looking statements such as anticipated store openings, comparable store sales expectations, trends in or expectations regarding the Company's revenue and expense growth, capital expenditures, effective tax rate, net earnings and earnings per share results. These statements are all based on currently available operating, financial and competitive information and are subject to various risks and uncertainties.

Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements are contained in the Company's filings with the Securities and Exchange Commission, including the Risk Factors section of Starbucks' Annual Report on Form 10-K for the fiscal year ended October 2, 2005. The Company assumes no obligations to update any of these forward-looking statements.

With that, let me turn the call over to Jim.

Thank you, JoAnn, and good afternoon, ladies and gentlemen. Starbucks' robust performance in the first quarter of fiscal 2006 sets the stage for the year and provides momentum towards achieving our ambitious 2006 growth targets.

Our successful first quarter included new as well as returning seasonal and holiday favorites, product launches in both our international and domestic markets, and a keen focus on execution at all levels of the business. This led to net revenue growth of 22%, net earnings growth of 20% and first-quarter earnings per share of $0.22. Great teamwork and flawless execution resulted in 560 new store openings -- a record number for a fiscal first quarter.

Our stores also delivered solid comparable store sales growth of 7%, at the high end of our 3 to 7% target range. We ended the quarter with 10,801 Starbucks locations in 37 countries serving more than 40 million customers per week.

The strong momentum from year end continued into January as revenues grew 23% to 555 million, and comparable store sales for the month increased 10%. And we added 67 stores during the period.

Let's review some of the key drivers behind our first-quarter results. First, I'd like to highlight what has been happening in our retail stores, where our results were driven by superior operational execution at store level.

Last year's seasonal and holiday favorites returned this year, beginning in the fall with the Pumpkin Spice platform. The continued success of Pumpkin Spice provided an excellent prelude to the November return of our great anticipated holiday offering Beverage Trio -- peppermint, gingerbread and eggnog. Based on the seasonal popularity of eggnog, this year, we added a chai eggnog latte, which quickly became a customer favorite.

We kicked off the 2005 holiday season with an innovative and unique marketing approach through several carefully orchestrated efforts, which included theredcup.com, as well as our first simultaneous promotional launch in all of our U.S. and Canadian retail stores. Between store closings on November 9 and opening on November 10, our partners transformed our stores to holiday red, igniting excitement among our partners and customers and building energy around Starbucks' holiday offerings.

We provided a variety of coffee-relevant merchandise and holiday treats specifically designed to meet the gifting needs of our customers. I am pleased to report that the combination of a strong merchandise selection and effective inventory management led to robust product sales during the holidays, as well as fewer markdowns following the season when compared to last year.

Prior to the holiday rush, we completed the deployment of our new point-of-sale scanners in U.S. and Canadian stores, which resulted in more efficient merchandise transaction processing and faster service at the counter during this busy buying season.

Once again, the Starbucks Card was a very popular item. More than four years ago, Starbucks was a market leader in introducing the stored value card. And many retailers have since tried to replicate the idea for their own businesses based on our success. Yet despite the proliferation of store value cards, the attraction of the Starbucks brand, along with convenience and the Starbucks experience that our partners deliver, continues to differentiate the Starbucks Card from others. The Starbucks Card has created a loyal following among our existing customer base and it continues to draw new customers.

The strong growth of accounts, the stickiness our card creates with our customers and the frequency of usage clearly separates us from other programs.

During the season of giving and as part of our ongoing community outreach, we continued one of our favor traditions -- the Starbucks Holiday Angels Joy Drive. Thousands of seriously ill children received gifts through this joint effort by Starbucks' partners, customers and the Starlight Starbright Children's Foundation. I am pleased to say that this year's toy drive delivered more than 865,000 gifts to pediatric patients across the U.S., surpassing our goal by more than 100,000 gifts.

Now looking at the second quarter, our winter promotion provides a feeling of warmth and comfort during these cold winter days. We begin with our Cinnamon Dolce beverage platform, highlighting sweet-bake notes that are reminiscent of a warm and buttery cinnamon pastry and evokes feeling of the comfort and pleasure associated with walking into your favorite bakery.

Customers can choose between a variety of offerings to suit their needs, ranging from Cinnamon Dolce Latte to Cinnamon Dolce Cream to a Cinnamon Dolce Frappuccino or Frappuccino light blended coffee. This platform, this flavor platform highlights the handcrafted artistry performed by our baristas every day in our stores, and it's something that truly sets us apart from our competitors.

Knowing that many of us begin the new year with a resolve to make more healthy choices, we are also featuring Starbucks' exclusive reduced fat coffeecakes. This year our new flavor, the reduced fat marble coffeecake, joins two past favorites -- the reduced fat cinnamon swirl coffeecake and the reduced fat blueberry coffeecake. The new coffeecake presents a perfect complement to a Cinnamon Dolce Latte, as well as any of our other handcrafted espresso beverages

As we mentioned during our last conference call, we are expanding our warming program to three new cities this year, which will provide more customers the option to enjoy a warm, savory breakfast sandwich along with their favorite Starbucks beverage. Beginning today, our customers in Portland, that would be Portland, Oregon, can visit one of our 54 stores which launched the warming program just this morning. We have also added warming to 37 more locations within our Seattle market today.

Looking ahead, we plan to introduce this program to both San Francisco and Chicago during the spring. We will provide more details as we get closer to those market introductions.

Before I review international highlights, I will briefly recap last week's acquisition announcement. Starbucks acquired the remaining 95% ownership of our operations in Hawaii and Puerto Rico. This added 67 stores to our Company operating store portfolio and allows us greater influence over the brand in these attractive markets. This transaction also aligns with our long-term strategy to increase our equity position where appropriate. We are energized about the continued growth potential in both of these markets and see these acquisitions as an opportunity to more fully capture it.

Now let's take a look at our international markets and the progress we are making. We opened 201 new stores in international markets during the first quarter, and today we have retail presence in 36 countries outside the United States.

Financial results for our international segment continue to strengthen, fueled by rapid retail expansion, healthy comparable store sales growth and improving profit margin in markets throughout the world. We see tremendous global opportunity for our brand, ranging from ongoing presence in current markets to exploring entering into new markets such as Brazil and, eventually, India.

All this aligns with the work we are doing to build a solid infrastructure that is sure to carry Starbucks' global expansion into the future. Starbucks continues to offer a borderless community and a place for our customers to connect with one another and for our partners to build relationships within their communities. The success of this connection is evident in the robust results delivered by our international segment this quarter.

Starting with Japan, you may have recently seen the news that Starbucks Japan has appointed a new CEO/COO-Designate, Maria Mercedes Corrales. Mercy has an impressive international management background, having held numerous senior management positions at Levi Strauss & Co. in a number of markets over a 31-year career with the company. She joins Starbucks Japan as they post their sixth consecutive month of positive comparable store sales growth, and her operational expertise and deep knowledge of the retail industry will provide strong leadership as the Company enters its second decade of operations later this year.

Continuing with the Asia Pacific news, I'd like to update you on the success of Discoveries, our new RTD product in Japan and Taiwan. The enthusiastic reception to Starbucks Discoveries by consumers in those two markets far exceeded our expectations and gained widespread public awareness. The launch of this chilled cup coffee product featuring the high-quality coffee customers expect from Starbucks clearly demonstrated powerful execution and collaboration between our U.S. and Asia Pacific consumer product teams.

Turning to China, I just recently returned from a five--day city trip in which I was accompanied by Michael and five other senior Starbucks leaders. The trip provided a wonderful occasion for us to meet with partners in our Company-operated and licensed stores and observe first-hand the opportunities that await us in this important market.

Our retail presence continues to grow nicely as we opened over 50 stores in China markets over the last 12 months, including more than doubling our store count in new Company-operated markets to 26 stores today. In total, we ended the quarter with 221 stores in China and our business there is performing well.

We are seeing continued growth in market-level comparable store sales and profitability in our older licensed markets such as Shanghai and Beijing. And we are experiencing an enthusiastic reception in newer China markets, without exception.

Personally, this was my first trip to China, and I am now even more confident in Starbucks' future there, strengthened by the gathering momentum of a lively coffee culture. Through our interaction with the local partners, it was apparent that the Starbucks culture and passion is as powerful as what we experience among our partners in our U.S. and other established markets. My excitement is reinforced by these first-hand observations that the Starbucks experience clearly travels. Let me just share a quick story.

When we opened our store in Xiangcheng, a couple from a neighboring province was working on a development project nearby and heard about the Starbucks store opening. They postponed their return flight by a day to personally experience the opening of Xiangcheng's first Starbucks location.

What is special about this story is that they told us that they were already planning a trip back the following week to visit our store again, which demonstrates the relevancy of the Starbucks brand and the connection we are making in communities worldwide.

Before I wrap up my comments, I would like to share with you some special recognition the Company received during the first quarter. First, Starbucks was recognized by the Financial Times as one of the world's most respected companies. This is the first time Starbucks made this prominent list, determined by a survey performed by the Financial Times, polling more than 950 CEOs across 25 countries.

The Company was also recently recognized by Brandchannel.com as one of the top five world's most influential brands, a meaningful accomplishment ranking with such powerful brands as Google and Apple. I'm also pleased to say that for the eighth year, Fortune Magazine named Starbucks one of the 100 best companies to work for in 2005. Now for a global retailer with over 100,000 partners worldwide, this is a wonderful accomplishment and confirms that Starbucks can truly stay small while we grow big.

And finally, I am thrilled to announce that Starbucks has been recognized in China as one of the top 10 employers in 2005. We were awarded this recognition by CCTV, China's national television network.

These accolades are very meaningful, as it takes the collective effort of each and every partner to ensure that Starbucks is a great place to work.

As I reflect on our first-quarter results, I am proud of the success we have achieved thanks to the hard work and commitment of our partners. I am looking forward to the year ahead, with continued focus on a core and exhilarating pipeline of innovations and initiatives and a very strong management team in place.

I'm confident that further extending our brand, executing at all levels of the business and providing our customers with the products and innovation they have come to expect will continue to prove successful throughout the balance of the year.

I will now turn the call over to Howard.

Thank you, Jim. Nice job, by the way. Good afternoon, everyone. Today, I'm going to focus my comments on a very exciting and evolving segment of our business -- entertainment. Before I talk about where we are today, I would like to take a step back and revisit the road Starbucks has taken in our evolving music and entertainment strategy.

As many of you know, music has always been an essential part of the coffeehouse culture. For Starbucks, our musical journey began in 1995, when we first introduced CD sales into our stores as a result of a very popular in-house music program created by one of our store partners.

A natural extension from that was our 1999 acquisition of Hear Music, a San Francisco-based music retailer known for the innovative way it helped consumers discover great music. This acquisition helped bolster our in-store music selection and propelled us forward in creating the musical coffeehouse environment.

Our role in music then moved beyond just the sale of CDs and extended to music programming for Starbucks stores worldwide. Music compilations, a 24-hour music channel with XM Satellite Radio and innovative collaborations with music labels to produce, market and distribute both exclusive and nonexclusive music followed.

From there, Starbucks has evolved to become a significant presence in the music industry. For example, collaborations with record companies such as Concord Records for the release of Ray Charles' Genius Loves Company -- this final recording by the gifted artist went on to win eight Grammys and subsequently hit the number one position on the Billboard sales chart.

More recently, Herbie Hancock's Possibilities CD, which we coreleased with Hancock Music and Vector Recordings, has received two Grammy nominations. Not only has Possibilities garnered the attention of the Recording Academy, it has also been the most successful debut in Mr. Hancock's career, selling more than 42,000 copies in the U.S. alone in its first week of sales. Possibilities also debuted at number 22 on the Billboard 200 albums chart.

In addition to offering music in our traditional stores, we also introduced Starbucks Hear Music Coffeehouse, a wonderful, unique blend of music store and coffeehouse which provides customers a venue to enjoy one of our handcrafted beverages while exploring a wide selection of CDs and digital music.

Our flagship Santa Monica store was recently joined by a second Starbucks Hear Music Coffeehouse, which opened in San Antonio, Texas, in December of '05. A third Starbucks Hear Music Coffeehouse will open in Miami, Florida, later this month.

Each store offers a vast selection of more than 1 million digital tracks to sample, listen, burn and print, truly transforming the way consumers discover and acquire music. The sale of CDs at Starbucks locations has provided record labels with a broad new channel of distribution and a powerful, cost-effective and innovative way to connect with an expanded untapped customer base at Starbucks.

Our approach to date with music has been precisely executed, changing how consumers discover great music while at the same time generating a profitable revenue platform for the Company. As we continue to seek and capitalize on emerging opportunities, we are taking our entertainment strategy to the next stage -- film.

As we have demonstrated over the last few years, Starbucks has become a marketmaker in the music industry. And now similar to music, we're seeking to be an innovator in the marketing and distribution of film. Our strategy is to bring relevant and unique entertainment to the forefront, utilizing our expansive retail footprint.

Over the past several years, the film industry has experienced a decline in box office receipts, while also realizing a significant increase in the cost to market new films. Starbucks is prepared to break that paradigm and change the model of how new films reach the public.

We are confident that the strength of the Starbucks brand, coupled with our broad national footprint, can be a catalyst for the industry. By engaging our customer base, the opportunity is there to generate higher box office receipts and lower marketing costs associated with the premiere of a film in a powerful and cost-effective way.

What we intend to do is unlike anything you have seen from others. Starbucks will not replicate the way in which fast food purveyors have co-opted their stores for the marketing of films in order to sell more fast food. We are not entering into this venture with a sole purpose to sell more coffee, but instead to bring an inspirational, uplifting story to our customers and to the public who may otherwise not have the opportunity to experience this particular film.

I'm speaking about the recent announcement of a truly transformational partnership in which Starbucks will participate in all aspects of the marketing and distribution of Lions Gate Entertainment's new film, Akeelah and the Bee. This next step is simply the natural evolution of our entertainment strategy and one we have been researching and exploring for quite some time.

In our first foray into this medium, it was critical to find the right film that would resonate with our customers and honor the trust they have placed in us. Akeelah and the Bee is especially relevant, with its inspirational story of a young girl who, despite many social and economic obstacles, advances from the inner city to the Scripps National Spelling Bee. This film, which will be released in theaters on April 28, has the content, depth and inspiration we were seeking and conveys the human touch that personifies the Starbucks brand.

I want to stop here for a moment and make it really clear that we are not investing in a movie. And we're not getting into the movie business in a traditional way. What we are doing is leveraging our vast retail store footprint and the cultural relevancy of the Starbucks brand to bring film to the public in a new way during a time when the film industry has been challenged.

Starbucks will participate in all aspects of the marketing and distribution of this new film, and we will be an equity participant in the film's success, not only at the box office, but through the sale of the soundtrack and the DVD in all retail outlets, including our stores. The soundtrack will be available in early April, and we will carry the DVD, along with other traditional retailers, when it becomes available later in the year.

Through this venture, we are creating an economic partnership with the film industry that mirrors the structure we created in music with the successful Ray Charles CD. Through the power of the Starbucks brand, we will create awareness and drive new moviegoers to the film, something movie producers could not do on their own.

We will introduce the film through a truly innovative and interactive in-store marketing campaign, which will provide customers the opportunity to experience the fun and inspirational feeling of the movie. Many of our store partners will have a chance to view the film prior to its release. And they, along with strategic marketing materials within the stores, will create enthusiasm and intrigue among our customers around Akeelah and the Bee.

Starbucks has become recognized by entertainment authorities as a significant force in the music industry. Lending our trusted editorial voice and raising awareness of this film through our partnership, through our powerful distribution system to translate into Starbucks achieving a similar role in the film industry.

While our core remains unchanged, we recognize that we have an opportunity to provide much more than the best cup of coffee. We offer a community gathering place where people come together to connect, explore and make new discoveries. We value the trust that our customers have placed in us and we are committed to providing high-quality and relevant offerings as we take our entertainment strategy to the next stage.

Before I close, I would like to share a quote with you from a music reporter who seems to be as equally energized about Starbucks' venture into entertainment as we are. According to Melinda Newman, the West Coast bureau chief for Billboard magazine, Starbucks, and I quote, Starbucks has become a power in the industry. They are a force to be reckoned with. People are looking at Starbucks and saying, is this a project we'd be best served by making a deal with Starbucks? End quote.

It is exciting to share with you these developments in our entertainment strategy. We are creating a truly transformational entertainment experience by providing our customers the venue to discover music and movies from a brand that they have come to trust.

It all gets back to the basics -- the foundation upon which we have built our Company. It is around the human connection and our passion to innovate and grow with new offerings, new sounds and new experiences while seeking unique opportunities to monetize our assets, and in doing so, increase shareholder value. We look forward to providing you with future updates as we build on this exciting venture.

I will now turn the call over to Michael.

Thank you, Howard. During today's call I will highlight our financial performance for the first quarter, both consolidated and by segment, provide a brief review of the impact of adopting the new stock-based compensation accounting rules, comment on our strong balance sheet and cash flow, and provide updated targets for the remainder of the year.

I am pleased to report that we once again produced strong top-line and bottom-line growth. Sales were solid in both our Company-operated and specialty businesses and in our U.S. and international segments.

More specifically, consolidated net revenues for the quarter ended January 1, 2006, were a record 1.9 billion, up 22% from the first quarter of fiscal 2005. Company-operated retail revenues increased 20% for the quarter, driven by the opening of 803 new stores in the last 12 months and 7% comparable store sales growth for the quarter. Comparable store sales growth consisted of a 6% increase in the number of customer transactions coupled with a 1 percentage point increase in the average value per transaction.

The comparable store sales growth of 7% is particularly satisfying, given that in October, we lapped the October 2004 beverage price increase in our U.S. and Canadian markets.

Licensing revenues grew 39% for the quarter, driven by the opening of 1049 new licensed retail stores in the last 12 months and continued growth in the licensed grocery and warehouse club business.

Foodservice and other revenues increased 18% for the quarter, primarily due to growth in new and existing U.S. and international foodservice accounts.

Operating income was up 23% to 280 million for the 13 weeks ended January 1, 2006, from 227 million in the prior year. As a percentage of total net revenues, operating margin increased to a record 14.5% from 14.3% in the prior year, primarily due to lower costs of sales, including occupancy costs, and store operating expenses as a percentage of total net revenues, partially offset by higher corporate, general and administrative expenses.

While store operating expenses as a percentage of related Company-operated retail revenues improved by only 10 basis points for the 13 weeks ended January 26, as a percentage of total revenues, they improved by 50 basis points. This leverage was created by specialty revenues growing at a faster pace than retail revenues.

General and administrative expenses increased due to higher payroll-related expenditures for stock-based compensation and higher provisions for incentive compensation based on the Company's strong operating results for the first fiscal quarter of 2006, as well as increased charitable contributions during the quarter.

As we previously discussed, this is the quarter in which we adopted the Financial Accounting Standards Board's final stock-based compensation guidance, fondly known as FAS 123R. As allowed under FAS 123R, we are adopting the new expensing requirements in fiscal 2006 with no restatement of prior period results.

The pretax stock-based compensation expense recognized for the current quarter was 23 million pretax or 15 million net of tax, for an EPS impact of $0.02 per share, in line with our expectations. Please refer to page 8 of the press release to view the numerous expense line items impacted by the adoption of this accounting standard.

Due to the timing of our stock grants, which is gently concentrated in the middle of the first fiscal quarter, the current quarter's pretax amount is slightly lower than what we would expect for subsequent quarters in 2006. However, it will continue to impact quarterly earnings per share by approximately $0.02 per share for the remainder of the fiscal year. That's $0.02 per share per quarter -- want to make share I'm clear about that -- for the remainder of the fiscal year.

The total stock-based compensation expense was allocated to our three reporting segments as follows -- the U.S. segment, 51%; international segment, 10%; and corporate, 39%. The current-quarter expense was approximately 33% due to options granted in this fiscal year, approximately 10% due to our employee stock purchase plan, and the remaining 57% was due to options granted in prior years.

I will now move on to first-quarter results by operating segment. Total net revenues for our United States operating segment increased by 21% to 1.6 billion for the first quarter of 2006. Company-operated retail revenues grew 19% to 1.4 billion, primarily due to the opening of 634 new Company-operated retail stores in the last 12 months and comparable store sales growth of 7%.

U.S. specialty revenues grew by 32% to 250 million for the first quarter. Within specialty revenues, licensing revenues increased by 40% to 170 million. This was primarily due to higher product sales and royalty revenues from the opening of 650 new licensed retail stores in the last 12 months, which was 45% higher than store openings at this time a year ago. In addition, we had strong store operating level revenue performance.

Also contributing to the increase in licensing revenues was the growth in the licensed grocery and warehouse club business. Foodservice and other revenues increased 18% to 80 million, due to the growth in both new and existing foodservice accounts.

U.S. operating income increased 28% to 339 million in the first quarter from 266 million in fiscal 2005. Operating margin increased to 20.9% of related revenues for the first quarter of fiscal 2006 from 19.8% for the first quarter of fiscal 2005 or a 110 basis point improvement. This improvement in operating margin was primarily due to leverage from strong revenue growth, as discussed above, and controlled spending in most areas of the business. The first quarter is historically our best quarter of the year from a margin point of view.

Now move to the international segment, as Jim mentioned, we recently spent a week together in China. And following that trip, I am more convinced than ever of the great opportunity that awaits us there. These are exciting times in our international business. While investing for the future, we are also reaping the benefits of strong financial results due to a sharp focus and solid execution in our current markets.

International total revenues increased 25% to 314 million in the first quarter. International Company-operated retail revenues increased 23% to 257 million in fiscal 2006, primarily due to the opening of 169 new Company-operated retail stores in the last 12 months and comparable store sales growth of 8% for the quarter.

The increase in comparable store sales results from a 5% increase in customer transactions coupled with a 3% increased in average value per transaction. International specialty revenues for the quarter increased 35% to 56 million, primarily due to higher product sales and royalty revenues from opening 398 licensed stores in the last 12 months, which is 45% higher than store openings a year ago, and to a lesser extent, the recent launch of our new ready-to-drink coffee beverages in Japan and Taiwan in the fourth quarter of fiscal 2005 and in Korea in the first quarter of 2006.

Operating income from international operations increased an impressive 79% to 35 million in the first quarter from 20 million in fiscal 2005. International operating margin expanded to 11.3% of related revenues from 7.9% in fiscal 2005. This significant improvement was primarily due to lower cost of sales, including occupancy costs, and store operating expenses as a percentage of net revenues. Also contributing to the margin expansion was an increase in income from nearly every equity investee, particularly Japan and Korea, due to an increase in our store base, improved comparable store sales growth and strengthening store profitability.

Partially offsetting these improvements was an increase in other operating expense for marketing and advertising related to the recent launch of our ready-to-drink coffee beverages in Japan, Taiwan and Korea.

Our international store base continues to increase rapidly and we are achieving a growing contribution from established areas of the business while investing in emerging markets and channels. The balance between these two resulted in significant margin improvement in the first quarter, but is expected to shift back toward investment and therefore less margin improvement for the remainder of fiscal 2006.

Moving briefly to the consolidated balance sheet, total cash, cash equivalents and other liquid investments increased to 594 million at the end of the first quarter of 2006 from 368 million at the end of fiscal 2005, primarily due to strong operating cash flows.

During the first quarter of fiscal 2006, Starbucks repurchased 4.3 million shares of common stock for a total cost of 121 million and reduced the outstanding balance on our credit revolver by 172 million.

Our solid balance sheet, continuing strong cash flows and our borrowing capacity allow us to continue to fund our operations, opportunistically repurchase shares, and selectively invest in new growth opportunities, such as our recently announced acquisition of full ownership of Hawaii and Puerto Rico operations.

Before moving onto our 2006 fiscal targets, let me add a little color on the Starbucks Card activity, which was a strong contributor to the January revenues we reported today.

During the first quarter, customers activated a record 221 million on Starbucks Cards, including 165 million in December alone, an increase of 35% compared to the first quarter of fiscal 2005. At the end of the quarter, more than 293 million was loaded onto the Starbucks Card waiting to be redeemed -- a significant increase compared to 192 million at the end of the first quarter last year. During the month of January, Starbucks Card redemptions reached an all-time record of 93 million, or 22% of Company-operated retail revenues in United States and Canada.

I will now turn to an overview of our updated fiscal 2006 growth targets, based on our very strong first-quarter performance and our latest forecast for the balance of the year. We plan to open at least 1800 new stores on a global basis in fiscal 2006. In the United States, we plan to open approximately 700 Company-operated locations and 600 licensed locations. In the international markets, we plan to open approximately 150 Company-operated stores and 350 licensed stores.

We anticipate robust revenue growth will continue. And we are targeting total net revenue growth of approximately 20% on a quarterly basis and for the full year. As we reported today, January comparable store sales growth exceeded our target range of 3 to 7%. We do not view that level of growth as sustainable, however, and we continue to expect comparable store sales growth in the range of 3 to 7% with monthly anomalies for the remainder of fiscal 2006.

Starbucks' annual leadership conference for all U.S. store managers, which was held during the fiscal second quarter last year, will be held during the third quarter this fiscal year. I mention this important store operating activity for two reasons. First, the cost of this event is significant enough that timing shifts do impact earnings growth rates for the affected quarters. Second, it is worth noting very early on that we are planning our fiscal 2007 leadership conference to shift back to the second quarter and to be held at an international location for the first time.

In updating our plans for the remainder of the fiscal year, we bear in mind the important balance between strong current performance and making investments in the future growth of the business. This strategy has consistently generated long-term value for our shareholders.

In the second half of fiscal 2006, a key area of increased investment for us will be in infrastructure to support the significant opportunity we foresee in China. We have recently filled several leadership positions in China, and we are close to filling several additional key positions and making other important infrastructure investments for the market, which we expect to begin impacting international segment expenses and operating margin throughout the remainder of fiscal 2006.

Based on our excellent first-quarter results and our continued positive outlook for the balance of the year, we have raised our earnings per share target range to $0.68 to $0.70 per share for fiscal 2006, an increase of $0.05 per share over our original target set last July.

Based on January revenue results and the revenue and expense outlook I've just described, we now have a somewhat stronger expectation for our second-quarter results than when we set our original targets, while our goals for the last half of the year are generally unchanged.

More specifically, on a quarterly basis, we are targeting earnings per share of $0.14 per share for Q2 and a range of $0.16 to $0.17 per share for each of Q3 and Q4.

I want to remind listeners again that our fiscal 2006 earnings targets include stock option compensation expense estimated at approximately $0.02 per share per quarter and $0.09 per share for the full year. And as a result, EPS growth rates compared to fiscal 2005 are decreased due to this accounting change.

The effective tax rate is expected to remain at approximately 38% in fiscal 2006, with quarterly variations. And capital expenditures are expected to be in the range of 700 million to 725 million.

With that, I would like to ask the operator to cue the first question. Please ask one question at a time and requeue for additional questions.

(OPERATOR INSTRUCTIONS). Jeffrey Bernstein, Lehman Brothers.

Thank you very much. Actually, just a question on the overall coffee segment. There's been a lot of chatter lately -- McDonald's is focused on improving their offerings, Tim Hortons is focused on growth in the U.S., Dunkin' Donuts is ramping up. Just wondering if you could provide us with just your take on the competitive landscape. Specifically, I guess, who would you categorize as your main competitors, if any? And do you view the competitive landscape as healthy for the category?

I think that is an important question. First off, we always said that as a percentage of total coffee consumed in North America, we probably have less than 10% of the total coffee market. And in view of that, we have always had a very strong competitive list of people that were trying to capture the morning segment away from Starbucks.

We view the recent activity by the companies you have mentioned as a positive influence on the category. The more education, the more advertising that people place on the category on a macro level will have a greater effect, I think, on our ability to demonstrate the differentiation between not only Starbucks coffee, but most importantly, the experience that we create day in and day out.

And as we've said in the past, although Dunkin' Donuts has done a wonderful job in the New England area, we have held our own against them consistently, despite the amount of money that they continue to spend in that market. And on some levels, we have seen the business spike up when they have placed a disproportionate amount of money in advertising.

So, we are mindful of the competitors, but we think when all is said and done, it is a positive effect on the category and we will benefit from it.

I might add, too -- this is Jim Donald -- that as we prepare for this, we are also preparing for our partners to become experts in coffee. And the pace of our coffee masters, those are partners that have gone through a training, if you will, on coffee, countries of origin, how to use coffee at home, has actually outpaced the Company. We have grown 50% in the last year, going from 10,000 coffee masters to 15,000 coffee masters. So that bodes well for us.

Larry Miller, Prudential.

Just wanted to ask you about the margins. It was impressive, almost 21%. And I think you have typically guided to relatively flat margins. And I was just trying to think about how I should think about the business going forward as you are rolling out more food, particularly breakfast and lunch. And if you could really develop on how the entertainment strategy might look in that line as it starts to extend out with movies and expanded music.

Well, we had our best -- this is Michael -- we had our best margin quarter in the history of the Company in this first quarter. So we are very pleased about that. The first quarter is traditionally our best quarter for margins because it benefits from the gifting and the holiday merchandise sales in addition to our everyday beverage business. So we would expect this to be the strongest margin quarter of the year, as it has been historically.

Looking at our individual segments, we think that full-year margins in our U.S. retail business in the range around 19% is the right place for that business. It's the right mix between delivering value to the customers and delivering value to the shareholders. And so we are very pleased to be managing our business on a full-year basis in that range. And when it's at the high end of that around 19 range, obviously we are pleased with that.

We do expect, if we continue to grow our U.S. business with fairly steady margins, that we will get leverage in other parts of the P&L, particularly with the corporate G&A.

In the international business, the margins are lower than in the U.S. and over the long term we think they will move in the direction of the U.S. margins. But they are not going to move in that direction quickly because as I tried to emphasize in my earlier remarks, while we are showing significant improvement in almost every market almost every quarter, we are also identifying new growth opportunities, whether it be China or ultimately Brazil or Russia or someplace else.

So the mix will continue to change as older stores, older markets become more profitable and new markets that have tremendous opportunity come into the picture. So we do expect year-over-year improving margins in the international segment, but not as fast as you might expect if we weren't pursuing the huge opportunities in international. We do expect to get margin improvement consistently as a total company, mainly from G&A revenue.

John Glass, CIBC World Markets.

My question is on the rate of international unit growth. If in '06, if you hit your goals -- and in opening, you say you will -- it will actually be the first year in which the percentage growth rate of international units is lower than the U.S. And I'm just wondering why, given your success in improving profitability, why has that decelerated the growth rate, and should we expect an inflection point and a pickup in unit growth anytime soon, maybe not just in China, but in other areas of the world where you have obviously been successful?

John, we don't look so much at percentages as we do at the number of stores. And we are confident that we are going to hit this year's targets for stores and hopefully exceed them, and then each subsequent year, open more stores in almost of our markets, but certainly in total than we did the year before and continue to ramp that up, particularly in our concentrated markets like the UK, Japan, China as it comes on and in Europe, as well.

I would just say, John, I would not look at it so much on a quarterly basis. It's a timing issue on a lot of issues that relate to permitting and municipality. The long-range plan, as we have said before, is at least 15,000 stores outside of North America. And we have never been more enthused or confident about the way in which we have been received and the ongoing profitability of the international business. So I would be more mindful of it long term than quarter to quarter.

Dan Geiman, McAdams Wright Ragen.

Regarding rollout of the breakfast warming program, how many stores will it have expanded to by the end of the fiscal year? Do you anticipate -- and also, do you anticipate the rate of expansion to accelerate in future years?

Also, any expectations that the results on a per-store basis are going to be comparable to what you have seen in Seattle and Washington?

Yes, it's Jim Donald. It looks in the results to be comparable to what we have rolled out. And that's between 25 to $30,000 a year annualized sales. As we mentioned, we are rolling out Portland, Oregon, today and then we have Chicago and San Francisco. So it rolls up to about 600 stores.

At fiscal year end. An additional 400, Dan.

Right. 200 currently in Seattle and Washington.

Steve Kron, Goldman Sachs.

I had a question on some of the service initiatives. You mentioned, Jim, in your prepared remarks the point-of-sale scanners introduced throughout the retail stores and improvement there. I was wondering if there was any way to kind of quantify what effect that has had on speed of service?

And on that topic, the expansion of breakfast and the rollout that you just discussed -- are we to assume that in the current markets where you're testing breakfast, that it hasn't been dilutive to your service speeds?

I will answer the second one first, and that is correct. It is not dilutive to what we are talking about with our speed of service. We had worked into the model how the deployment works in those particular areas. So we are looking at that overall in the first quarter, probably in terms of speed with service, we are 6% faster.

However, when I look at the scanners, it is just one piece of what we call speed with service. There are other areas behind the bar that we are re-engineering, including drive-through, to continue to increase that speed with service.

And when we look at our transaction growth, we are finding that -- and we've said this in the past, that as the lines move faster, they tend to kind of keep the same amount of people in them, because they know they can get through in that time frame that is right for us and right for them. So we continue to tweak [technical difficulty] scanners, but other areas of our operation as well.

I'd like to just add one thing from a previous question -- I didn't get to the second half of I think Larry Miller's question about margins as we add other things into our retail stores.

The music, the entertainment, the food products don't have as good a gross margin as the beverages -- the handcrafted beverages. But at the PC level at the store, they contribute strongly. And they don't have a negative impact on overall store margins. So it changes the composition a little bit, but overall, it adds to the average check and increases the store profit contribution proportionately.

Matthew DiFrisco, Thomas Weisel Partners.

I also have a food question. I realize you guys are a coffee company, but I also wanted to have a -- food sounds like it is catching hold here. As far as looking at it on an incremental basis, what have you learned from the 200 or so stores that you're in now? If you can give us a description of how the bell curve looks, the percent of sales that food represents from those various markets that you have seen?

Well, the food as a percentage of our business continues to increase with our new product offerings and looking at what we're doing with special platforms like better for you. So we are seeing an overall increase in food as it sits today.

We are seeing an incremental increase when you add on the breakfast and warming sandwiches to this food category. So it is a combination of both. And I thought you were going to go to where -- how has the warming sandwiches been accepted, which has been very well. But it's not necessarily driving the food increase by itself.

Well, that is what I was getting to -- is breakfast becoming incremental on top of food, or is it cannibalizing another food sale?

No, no, it is incremental to that.

And what is the high-water mark that you've seen so far, best-case scenario, best market that it's gotten to be as a percentage of sales?

I think it's better to talk in terms of averages. In both the lunch program and the warming program, the benchmark is about $30,000 per store per year.

That is probably right. That's (multiple speakers)

Without any material weakness in terms of speed of service or the qualitative aspect of the customer experience.

And we look at that from a USD perspective, too -- units per stores per day. And we are finding as we roll out this from market to market that the execution gets better, the understanding of it gets better, and we're starting to see that, just as Michael said, stay in that $30,000 a year range.

Each individually, 30,000 incrementally?

Yes.

Yes, each store, correct.

That is lunch and warming. Each.

Sharon Zackfia, William Blair.

A question on the holiday orchestrated effort that you made this year. Can you maybe give us some perspective on what you found most effective, what was less effective and what we might see you replicate going forward?

Well, obviously we have items that just blow out, and we have items that do what we consider to be on our performance. But if I had to break it down, I will tell you that the genesis of our entire holiday program started with the execution that we delivered on a store-by-store basis across North America.

When we can sit here and say on November 10 that all stores were set for holiday, meaning that all the planning went in ahead of time to make sure all product was there, point-of-sale material and all, in-store signage, that I think led to an excitement from our store partners that clearly carried the day and carried the momentum going through.

But then when you look at what that merchandise mix was made up of, from beverages to foods to general merchandise, such as Barista Bears to some of our gifting, throw in the Starbucks gift card with that, and I've got to tell you, Christmas blend coffee set record levels as well -- it was just -- we hit it out of the park when it comes to the execution of holiday. And there is little tiny pockets of things that we could probably do better that we are currently working on.

David Palmer, UBS.

Congratulations on the quarter. Specialty revenue growth was pretty strong last quarter, I thought. And I was trying to maybe pinpoint the reasons why. I know Kraft noted they had very strong sales on Seattle's Best and Starbucks coffees and that its coffee sales were bolstered by competitors having supply disruptions.

I'm just wondering if you think that this was an unusually strong quarter for grocery warehouse sales maybe because of some weird things like that? And also, I'm wondering maybe even if your new Discoveries ready-to-drink beverage in Japan was in any part a driver of that specialty revenue line as well?

Well the primary driver of specialty revenues for us was our licensing -- our retail store licensing, which is the buildout of both Starbucks and Seattle's Best licensed store. That was the primary factor.

We also had a strong contribution from our food service business, which has been a 10 to 15% grower the last few quarters -- it grew between 15 and 20% this quarter. And the grocery was strong, and undoubtedly -- if that is what Kraft attributed some of it to, I'm sure that there's some truth to that. But that was a relatively small part of the growth in our specialty revenue.

I just wanted to add one other thing. I think underlying the success of the holiday Christmas retail season and what you just noted in the specialty business is something that kind of goes unsaid, but I think it is worth repeating, and that is the equity of the Starbucks brand, the power of the Starbucks brand in the marketplace, coupled with the relevancy of the third place, the sense of community and how people are using our stores -- the attachment that people have to the Starbucks experience travels well beyond their experience in the stores.

And I think we are seeing the connectivity of the Starbucks brand in other channels of distribution and how people are trusting the experience beyond our stores. And I think it is very different than traditional consumer brands that have been built through advertising and promotion, where Starbucks has built a brand in a very enduring way, almost quintessentially by the experience. And that is -- and we are seeing the ongoing relationship of the brand in other products and other channels that are paralleling the success of our retail business.

Ashley Woodruff, Bear, Stearns.

You significantly expanded the entertainment initiative over the past several years. And as you said, soon you'll be testing movies and probably more. Jim, could you talk a bit about how you balance from a time allocation standpoint managing the core Starbucks coffee brand operations versus analyzing the new initiatives like entertainment?

Well, everything that we do, though, is core to what we are calling our Starbucks coffeehouse experience, our store retail store experience, and we're not throwing one-offs in there that don't necessarily complement the customers' experience.

And so when we work with our operating team, when we work with our implementation team, drilling it down to store level, we're making sure that the execution is all in one and is all wrapped around that customer's experience, so they are able to tie this in with understanding about coffee knowledge, understanding how to juggle new beverages that might come out in spring versus fall versus. And we tie it all into one package. So they are able to juggle these and basically bring it out to fruition.

Howard, do you have anything to add to that with the entertainment piece?

I would only say that the ongoing success we've had with music and the initiative of the movie, all of the decisions that we're making on the content side is made with the lens of making sure that the music and the movie is accretive to the experience our customers have come to expect from Starbucks. We don't want to do anything that will dilute the trust that our customers have in the Company.

And I think the first wave of all of that sits with our partners. We want our partners to be proud of the music that we're choosing and the movie that we are going to share with the American audience. I think it is linked to making sure that everything we do matters and it supports the foundation of the Company. And that is we are not an entertainment company. We are not a music company. We are a coffee company. We are creating opportunities that will complement the coffee experience.

And I would add that because of the excitement that was generated for the holiday set and the best execution that I had ever seen in retail -- when we get our partners excited about it, it gets tremendous buy-in and it gets executed.

Operator, we have time for one more question, please.

John Ivankoe, JPMorgan.

Howard, I was just thinking about the entertainment initiatives and specifically movies and I just wanted to follow up on a couple of questions. Presumably, you get to pick and choose the movies coming from Lions Gate, as opposed to them dictating the movies to you that you are going to promote.

So could you discuss, I guess, that selection process and whether it's in the script stage or if it's actually in the finished product stage? And if we can elaborate a little bit on the financials behind it -- I know you mentioned in your prepared remarks that you will be responsible for the marketing costs. But is there any capital commitment at all for the movie?

And if I may, and I think this is all one question -- should we just assume, at least for the time being, the current music and I guess sale of CD format that we currently see in the stores is being relatively static? I mean, are you done with that? Or should we expect significant continued evolvement of that piece of the entertainment strategy?

John, that's a lot of questions.

Well, it is actually short, if you think about it. So just walk through how you go through the movie side.

Let's begin with, I think we believe that given the unique relationship we have built with our customers around music that we had built a level of trust that gave us the license to extend music to other forms of entertainment.

So over the past 12 months and maybe slightly longer, we have had ongoing conversations with multiple movie studios about trying to find a movie that would fit with the aspirational story and the uplifting -- and a story that we felt needed to be told and a story that we thought we could get behind in a very natural, seamless way.

This particular movie was pretty much done when we saw it. We had screened many movies. We had read many scripts. This particular movie was almost completed.

Lions Gate, to their credit, although they are a public company, is more of an independent movie company than, say, Warner Bros. They had great success this past year with Crash. They understood the challenge of the movie industry in terms of box office problems, high marketing costs, and saw right away that if Starbucks got involved in the movie that we could advance the rate at which people would go see it and potentially lower their marketing costs.

What we wanted for that was something that mirrored what we did with Ray Charles, which was the template of our music initiative. We wanted equity in the movie without investing any dollars in the movie itself. We agreed that we would create a marketing campaign in-store that was significantly less in dollars than we were going to get paid. We wanted to be able to participate not only in the front end, but in the back end of box office receipts and all ancillary products if in fact the movie's success is what we believe it to be.

And this is a very important first step because it sets the stage and the template by which other movie deals, assuming this will be successful, will be judged. Since that time, we have had many movie studios contact us wanting to be the next one. We are going to wait and see how we do with this, and if in fact all the things that we hope to happen occurs.

With regard to music, this should not in any way be a signal that we're done with music. Quite the contrary. Our music business continues to be strong and healthy. We have a new album coming out relatively soon with Sergio Mendes. We've got Tony Bennett coming out. We just had great success with Dean Martin, believe it or not, during Valentine's Day, and we are full throttle on our ability to create a profitable stream of revenue for the Company and a new channel of distribution.

What is interesting about what we have done this year is we also debuted -- we were a marketmaker in discovering a group called Antigone Rising. They had never had a record deal. They sold over 100,000 units at Starbucks and were just picked to be the opening act of the balance of the Rolling Stones.

That was attributable directly to the validation of Starbucks' involvement. So we are a market maker. We recognize the power of that and also the responsibility. We are going to continue to look for ways in entertainment that are profitable, that are unique and add texture to the brand.

I guess that does it.

Thank you for listening in to our earnings call today. We hope that you will join us for our webcast of our second-quarter fiscal 2006 financial results, which will be on May 3. And note that at that time, that release will also include April revenue figures along with Q2 results. Thanks again.

Ladies and gentlemen, we appreciate your joining us today. This does conclude our Starbucks first-quarter 2006 earnings conference call. You may now disconnect.