Investors See Cup Half Empty Despite Progress at Farmer Bros.

WALL STREET WEST

Shareholder discontent is still brewing at Farmer Bros. Co., even after the Torrance-based coffee company made concessions to dissident shareholders that included a recent 10-for-1 stock split.

New York investment banker Gary Lutin, who runs an investor forum for Farmer Bros. shareholders, drafted a letter dated May 18 requesting that management explain, among other things, why coffee sales are declining and the company's service area shrinking.

For the third quarter ended March 31, Farmer Bros. net income fell 40 percent, to $10.7 million, compared with $17.8 million for the like period a year earlier. Revenue declined 0.1 percent, to $49.1 million.

In a May 13 press release, the company said the "sales trend continues to reflect general economic conditions."

It also cited legal costs, pension and other employee costs, and the costs of implementing a new information system as reasons for the decline in net income.

By comparison, competitor Starbucks Corp. last week announced an 11 percent increase in May same-store sales. At Peet's Coffee & Tea Inc., first quarter sales rose 19 percent and net income rose 41 percent.

Farmer Brothers shares fell to $26.05 on May 17, the day before Lutin issued his letter, from $32.63 at the close on May 13. (By May 26, the shares had recovered to $29.)

"Most of the concerns in the letter have been there all along, but there are things that became heightened as a result of the last quarterly reports. It was their lack of explanation for what was going on," Lutin said.

In the past, Lutin has written numerous letters seeking information that the tight-lipped company has been reluctant to give out.

James Lucas, spokesman for Farmer Bros., said the company has not responded to Lutin's past letters because the concerns are not founded.

"The problem with a lot of this letter is that it is silly and irrelevant," Lucas said.

The letter raises five concerns: declining coffee sales; a shrinking service area; the cost of an information systems project; the management of derivatives investing; and the vulnerability of the company's debt-laden employee stock ownership program to a decline in Farmer Brothers' share price.

"The company needs to either develop the strategies and management to lead the company effectively or it needs to sell the company's business to somebody else that can manage it effectively before its strategic value deteriorates," Lutin said.

Karey Wutkowski

Too Much Success?

Since the beginning of the year, shares of Long Beach-based Molina Healthcare Inc. have risen by 50.6 percent, to $38 a share on May 26.

Investors are optimistic about the growth potential in the Hispanic segment of the managed health care market that Molina targets. But after the recent run-up, one Wall Street analyst has put on the brakes.

Legg Mason analyst Thomas Carroll downgraded Molina shares to hold from buy, mainly on valuation concerns. The benefits of two recent acquisitions in New Mexico and Washington State have already been factored into Molina's share price, Carroll said. And other potential acquisitions may end up costing more, and add to the integration risk of combining operations.

"I would characterize it as a building concern among investors," said Carroll. "If they do decide to acquire more, I'm going to get more calls about it. Investors will take profits."

Molina is considered a potential bidder for the Wellness Plan, a Michigan managed care provider that has already received offers.

"Should Molina announce the acquisition of the Wellness Plan in Michigan, investors may negatively speculate about the company's ability to integrate three acquisitions simultaneously," Carroll said in his report.

Molina reported first-quarter net income of $11 million, compared with $8 million for the like period a year earlier. Revenues were $220 million vs. $192 million.

Carroll praised Molina executives. "I think they are top-notch managers. "There's just a lot of politics in (integrating), dealing with state legislatures."

Andrew Simons

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