From: Reuters
Published January 7, 2008 02:57 PM

McDonald's sees $1 billion in sales from new drinks

By Nichola Groom

LOS ANGELES (Reuters) - McDonald's Corp's <MCD.N> plan to expand the beverage lineup at its U.S. restaurants with cappuccinos, lattes and other drinks is expected to add $1 billion to annual sales, a spokeswoman said on Monday.

The espresso-based drinks, which are currently in 800 of McDonald's nearly 14,000 U.S. locations, mark the newest effort by the world's No. 1 restaurant company to upgrade its coffee offerings and take on rival Starbucks Corp <SBUX.O>.

McDonald's has even added a "barista" position in its restaurants and dedicated a section of counter space to the automated espresso machines so customers can see the drinks being made, spokeswoman Danya Proud said. Those details were first reported Monday in the Wall Street Journal.

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But though McDonald's expects the coffee drinks, smoothies and new bottled beverages to add $1 billion to its annual revenue (the company recorded $21.6 billion in sales in 2006), investors and analysts said they do not expect much of that to be at Starbucks' expense.

"People don't go to McDonald's for their coffee, they go for their food," Friedman Billings & Ramsey analyst Howard Penney said in an interview. "It's ridiculous to think that McDonald's is going to take all of Starbucks' business. Even McDonald's doesn't think that's going to happen."

In the last year, Starbucks shares have fallen 48 percent on investor fears about slowing U.S. sales growth, soaring dairy prices and increased competition from McDonald's, Dunkin' Donuts and other fast-food rivals. McDonald's stock, meanwhile, has climbed 33 percent as extended hours, demand for breakfast offerings and other new products have fueled U.S. growth.

One McDonald's investor said the Golden Arches' foray into espresso-based drinks would still not provide the choice that many die-hard Starbucks customers have come to expect. As a result, McDonald's could end up taking market share from other relative newcomers to the latte field.

"If you want a half-caf, no-whip, low-fat, sugar-free, raspberry syrup latte you are probably not going to get that at a McDonald's," said Janna Sampson, co-chief investment officer at OakBrook Investments in Lisle, Illinois. "But you aren't going to get that at Dunkin' Donuts either. It's a more direct hit at Dunkin' Donuts' business."

Still, fears about competition have helped drive Starbucks' multiple below that of McDonald's. The stock trades at about 17.6 times analysts' average 2008 earnings estimate, compared with a multiple of 18 for McDonald's shares.

In a note to clients on Monday, Penney said Starbucks shares are "severely undervalued," adding that the current multiple does not reflect the value in its fast-growing international or consumer products businesses.

Starbucks' biggest opportunity to reassure investors, however, is to slow the rate of its domestic store growth, Penney said.

"They shouldn't be growing as fast," he said. "The biggest thing they can do to improve their rate of growth is to slow the domestic unit growth."

McDonald's shares were up 99 cents, or 1.7 percent, at $58.04 on the New York Stock Exchange. Starbucks shares rose 25 cents, or 1.4 percent, to $18.37.

(Editing by Maureen Bavdek)

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