Is Starbucks Brewing Up a Merger With Peet's Coffee?

Peet's Coffee & Tea (PEET) has more in common with Starbucks (SBUX) than their well-roasted flagship beverages; the two companies share an origin story.

The three founders of Starbucks modeled their coffee-roasting company on Peet's, and bought their beans from Alfred Peet in 1971. The Seattleites grew more quickly than their Californian kin, however, and adopted the European coffeehouse concept that Peet's would later, in turn, copy.

That the longtime rivals would consider a merger is not a surprise. Reports late Tuesday that Starbucks was in talks to acquire Peet's, however, focused on a decidedly 21st-century product: the single-cup coffee market.

When Starbucks finally sundered its partnership agreement with Kraft Foods (KFT) earlier this year over claims that the packaged goods company had bungled the grocery distribution deal, it also severed its exclusive deal to provide coffee for Kraft's Tassimo single-cup coffee machines. Starbucks turned around and signed a deal with Green Mountain Coffee Roasters (GMCR) to provide coffee for "K-cups," which fit in Keurig single-cup coffee machines. Keurig holds a much bigger market share than Tassimo.

With single-cup brewers in only 6% of U.S. homes, providing coffee for the cups, or discs, of the market leader makes sense -- so much sense, that it's possible the disruption of the Kraft grocery deal was engineered to open the door for Green Mountain and Keurig.

Speculation Brewing

Where, then, does that leave Peet's? The smaller company really wants to be a bigger player in the single-cup coffee market, and lost a takeover battle for Diedrich Coffee -- a big supplier of coffee for Keurig machines -- to Green Mountain about a year ago. With Starbucks in the door, Peet's is shoved out; unless, of course, the company was not such a competitor of Starbucks.

The bigger company is known for its willingness to slurp up rivals, but keep their brands alive -- just look at Seattle's Best Coffee, which is so beloved by Starbucks that it got its own logo makeover, and lots of muscle positioning it as a "mellower" flavor than the over-roasted Starbucks brand.

And Peet's could provide Starbucks with a much easier route to controlling its own grocery distribution strategy. The smaller company has long had a particular interest in the grocery channel, and has deals everywhere -- from large grocery chains to regional markets like Stop & Shop.

Speculation has been brewing for many months; but only overnight has the murmur brimmed into breaking news. One analyst is quoted as saying a deal could be seen as early as the end of March. In my experience, these long-simmering rumors only start boiling a few days before an announcement; but naysayers suggest the two companies' many rival stores (in my city, I can think of a few cases where two of the four corners at an intersection are taken up by one Starbucks and one Peet's) would sewer a deal.

Starbucks has weathered such tempests before; I am taking these rumors seriously.

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