Starbucks Must Pay $2.7 Billion for Improperly Terminating Contract

Published in CSP Daily News

Arbitration ends coffee marketing dispute with Kraft

DEERFIELD, Ill. & SEATTLE -- The independent arbitrator in the dispute between Kraft Foods and Starbucks Coffee Co. has ruled that Starbucks must pay more than $2.7 billion in total cash compensation for its unilateral termination of the companies' coffee contract. The award includes compensation for the fair market value of the agreement, a premium for improper termination and interest.

Kraft first began marketing Starbucks roast and ground coffee in 1998 and succeeded in building a highly profitable consumer packaged goods (CPG) business, from a base of approximately $50 million to approximately $500 million in 2010. In Nov. 2010, Seattle-based Starbucks announced its intention to unilaterally terminate the agreement that provided Kraft with the exclusive rights for the sales, marketing and distribution of Starbucks roast and ground coffee in grocery and other retail outlets. Later that month, Kraft initiated arbitration proceedings to challenge the improper termination of the companies' contract.

In Oct. 2012, Mondelez International spun off Kraft Foods Group, its North American grocery operations, as an independent company. Based on the Separation and Distribution Agreement between the companies, Kraft Foods Group will direct the net proceeds from the award to Mondelez International.

"We're pleased that the arbitrator validated our position that Starbucks breached our successful and long-standing contractual relationship without proper compensation," said Gerd Pleuhs, executive vice president legal affairs and general counsel of Mondelez International. "We're glad to put this issue behind us. We can now fully focus on growing our global snacks business."

The company said that it intends use the net proceeds from the arbitration award, after federal and state taxes of approximately 37% and certain other expenses, to repurchase Mondelez International Class A common stock, subject to final approval by the board of directors and actual receipt of the proceeds. This authorization would be in addition to the company's current $6 billion share repurchase program.

Starbucks Coffee Co. CFO and group president of global business services Troy Alstead issued this statement:

"We are pleased the arbitration has ended; however, we strongly disagree with the arbitrator's conclusion and that Kraft is entitled to $2.23 billion in damages plus $527 million in prejudgment interest and attorneys' fees. We believe Kraft did not deliver on its responsibilities to our brand under the agreement, the performance of the business suffered as a result, and that we had a right to terminate the agreement without payment to Kraft. While we disagree Kraft is entitled to damages, the amount awarded reflects the value of our at-home coffee business and the continued global growth opportunity that lies ahead for Starbucks. We have adequate liquidity both in the form of cash on hand and available borrowing capacity to fund the payment, which will be booked as a charge to our fiscal 2013 operating expenses.

"I would add that taking our packaged coffee business back from Kraft was the right decision for Starbucks, our brand and our shareholders. The results over the past two and a half years clearly demonstrate that Starbucks at-home coffee portfolio is significantly healthier than it was before we assumed direct control from Kraft in 2011. We have the leading market share of premium packaged coffee, and our total at-home coffee portfolio has grown significantly under the direct model.

"Ending our agreement with Kraft also gave us the flexibility to aggressively expand our growth in the premium single serve segment with Starbucks Coffee K-CUP Packs and Verismo. With single serve as the fastest growing category within at-home coffee, this represents a strategic opportunity for Starbucks that will continue to contribute meaningful growth for many years.

"Together, packaged coffee and Starbucks premium single serve offerings are the cornerstone of the channel development segment of Starbucks business, which cumulatively grew by $3.2 billion in revenue since taking the business back from Kraft and 47% in profitability in the past two years. Channel development, which is still early in its growth curve, is already the company's second largest operating segment with substantial potential for long-term global growth. With continued focus, innovation and execution, we will build on channel development's strong momentum and expand our global footprint beyond our 29 current markets and more than 100,000 points of distribution in the years to come."

Mondelez International, Deerfield, Ill., is a global snacking company with 2012 revenue of $35 billion. It is a world leader in chocolate, biscuits, gum, candy, coffee and powdered beverages, with billion-dollar brands such as Cadbury, Cadbury Dairy Milk and Milka chocolate, Jacobs coffee, LU, Nabisco and Oreo biscuits, Tang powdered beverages and Trident gum.