Another day, another coffee stock kicking derriere. Two days ago it was Dunkin' Brands (NAS: DNKN) ; today it's Green Mountain Coffee Roasters (NAS: GMCR) , on the heels of a new earnings report. Who would have thought 10 years ago that the next big thing wouldn't be Sun's Java, but regular old java? And when Bill Schultheis wrote The Coffeehouse Investor back in 2005, I don't think this is quite what he meant.

So what was so great about Green Mountain's earnings?

Triple-digit growth all around
Green Mountain's net income grew a staggering 206% from last year's third quarter, on the back of a sales increase of 127%. Earnings per share went from $0.13 per diluted share to $0.37. Positive chatter by Wall Street analysts and a forecast of 100% year-over-year sales growth for next quarter added to the fun

Anytime a company almost triples its EPS, the stock is bound to see some action. Green Mountain didn't disappoint; its share price rose 16% on Thursday.

Any downside?
Notice that while earnings tripled, the stock price went up 17%, not 200%. That's because Green Mountain's share price already reflected most of that fantastic growth. Believe me, if Starbucks (NAS: SBUX) suddenly tripled its profits, its stock would move much more than 20%. (When net income did nearly triple for Starbucks in 2010, the stock itself had already tripled from its 2009 low). Since investors have relatively low expectations for Starbucks, any improvements there would come as a big surprise.

In contrast, so much as Green Mountain's $100 price tag and 129 P/E is already built on expectations of aggressive future growth that there's little left to surprise investors. And if Green Mountain doesn't continue to meet or beat those expectations, the stock will be severely punished.

Compounding my worry, I note that Green Mountain has never had a year of positive free cash flow since 2007. And I look more heavily to free cash flow than I do to reported earnings (or dividends).

Therefore I recommend that aggressive growth investors look to SodaStream (NAS: SODA) , Starbucks, and Dunkin' Brands instead.

SodaStream has a lower P/E and P/S, and a large growth opportunity in our soda-guzzling country. Dunkin' Brands has the steadiness and operating leverage of an established franchise, with a much lower P/E than Green Mountain. And Starbucks still continues to crush the market with surprising growth.

Green Mountain may continue to outperform, but I think you can find a better trade-off between risk and reward elsewhere.

At the time this article was published The Motley Fool owns shares of Starbucks. Motley Fool newsletter services have variously recommended buying shares of Starbucks, SodaStream, and Green Mountain; creating a lurking gator position in Green Mountain; and shorting Green Mountain. Try any of our Foolish newsletter services free for 30 days.Fool contributor Chris Baines loves coffee but loves value investing even more. Follow him on Twitter @askchrisbaines. Chris's stock picks and pans have outperformed 89% of players on CAPS. Chris owns no shares of the companies mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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Jerry

I think part of this article misses many more opportunities. There is great growth potential in suppliers to this market also. WMF, Schaerer, LaCimbali and other manufacturers of the machine required to continue to support this growing segment. Other factions such a Perk Dynamics which provides software that is opening new opportunity areas to roasters and coffee chains that were not feasible to service in the past. Perk will provide the software required for convenience stores, universities, grocery and hotels to compete with quality bean to cup coffee offerings.

Alternatives to traditional coffee shops like Starbucks, Peets, Caribou, and others will be popping up in many new locations. Coffee will be everywhere with quality.

July 29 2011 at 2:17 PM Report abuse rate up rate down Reply