1 Coffee Giant Brewing Success Beyond Beans

Set up a coffee shop, create a wide-ranging menu that caters to a broad number of tastes, charge a premium and make a lot of money.

The formula for success seems pretty straightforward for a single coffee shop but replicate that at scale, globally, and the ball game is very different.

Yet, that’s precisely what Starbucks (NASDAQ:SBUX) has managed to achieve, so is it time to buy?

Howard Schulz’s firm has many more problems to solve than a local coffee shop. For instance, it must deliver coffee and food to over 35,000 locations worldwide, daily. Then it’s got the challenge of hiring baristas in 84 countries, and paying them in local currency, and managing forex fluctuations and the accounting of the international enterprise.

This year, the net result for shareholders has been a big fat zero. All the efforts the company has made around the world has not rewarded investors one single jot thanks to the share price flatlining since the beginning of the year.

But perhaps in that underwhelming performance is an opportunity for new investors to buy the stock on sale?

How Starbucks Is Brewing Success Beyond Beans

While traditional coffee shops are generally limited to making money one latte at a time, Starbucks has expanded into ready-to-drink beverages and branded products in supermarkets which has opened up new revenue streams. Going direct to retail chains and by-passing brick-and-mortar physical storefronts gives the coffee chain access to a broader customer base too.

For those who still prefer to drop into their local Starbucks each morning, the company has leveraged its technology advantage – one that smaller rivals can’t afford or lack expertise in – to offer mobile ordering.

That isn’t just a nice-to-have app but a vital part of the business model that provides insights into consumer behavior, opens up loyalty reward programs to nudge repeat visits, makes ordering simpler for buyers, and ultimately boosts customer lifetime value.

It’s worth highlighting that the Starbucks Rewards program is a data goldmine giving the customer insights that make personalized marketing possible. The loyalty scheme creates a virtuous circle whereby customer satisfaction rises and leads to more purchases.

Speaking of selling more, the range of options have extended beyond coffee, too, and now include teas, seasonal beverages and food. This menu expansion is a strategic effort to attract a wider customer base and hike the average spending per visit, a key metric for retail profitability.

What Starbucks has succeeded in creating above all is a premier coffee brand. If you were to poll one hundred people and ask them to name a leading coffee procurer, the odds are Starbucks would win hands down.

By delivering consistent in-store experiences, Starbucks has created an intangible asset that drives higher revenues. After all, a Starbucks coffee drinker in the US is more likely to select an equivalent location in another city or abroad over an unknown local coffee shop.

Extraordinarily for a business with a $104 billion market cap, Starbucks has a brand value of $53.4 billion, meaning its operations alone are worth less than its brand, so is the stock on sale?

Is Starbucks Stock Undervalued?

Starbucks is undervalued by 7.5% according to the 27 analysts covering the stock. The consensus price target for SBUX share price is $113 per share. 

Perhaps even more notable is the fact that eight analysts have revised their guidance upwards for the current quarter.

A 10-year discounted cash flow forecast analysis places fair value nearby to analysts’ consensus at $107.58 per share.

Interestingly, Starbucks financials look really good across a host of metrics. For example, it currently has a perfect Piotroski Score of 9.

It’s also got a very high return on assets, currently sitting at 14.4%, compared to a sector average of just 2.4%.

And for income-seekers, the 2.23% dividend is a nice bonus annually, though perhaps more importantly, appears very sustainable given that the payout ratio is just 58%.

In contrast to the flat share price for the year, it’s noteworthy that the top line has been growing well. Over the past four quarters, revenues year-over-year have climbed by 8.2% in Q1, 14.2% in Q2, 12.5% in Q3 and 11.4% in Q4.

Some of that success can be attributed to the firm’s international growth strategy, forming local partnerships in diverse markets, particularly in Asia.

On the cost side, management has done a good job too keeping expenses in check as revenues have grown. The result has been a real spike in operating income over the past fiscal year too with numbers increasing from $1.2 billion in Q1 to $1.7 billion in Q4.

Starbucks Is So Much More Than Coffee

Former Starbucks CEO Howard Schultz had a vision to bring the European quaint coffee experience global and he has succeeded. But what began as a dream to bring the fresh coffee aromas to boutique coffee stores has transformed to become the leading coffee brand and empire.

Underpinning the success is the company’s expertise in supply chain logistics, a vital part of maintaining product quality and customer satisfaction. Imagine how consumer confidence would be hurt if the company failed to deliver coffee beans on a single day to a single store, let alone tens or hundreds of them. It’s one of the company’s greatest, yet least heralded, feats.

So too has Starbucks proven an ability, much like McDonald’s, to accurately identify and secure high-visibility locations, often with high foot traffic. These storefronts increase footfall as well as brand value, and ultimately translate to revenue growth.

For those who work at Starbucks, the company has been a leader in sharing the spoils with workers, and still has kept an eye on shareholders’ interests too, delivering dividend hikes regularly as well as share buybacks from time to time.

So, with all that it has going for it, is Starbucks a buy, sell or hold?

Is Starbucks a Buy?

With the S&P 500 closing in on a 20% gain for the year and Starbucks still sitting marginally under water over the same time period, it appears that the SBUX share price is on sale, at least according to the consensus estimate among analysts which has a $113 price target.

Having established a global enterprise that encompasses a lot more than coffee to include a broad range of menu items featured not only in stores but through supermarkets and other retail channels, Starbucks is on course to continue growing long into the future.

Management’s willingness to adopt mobile ordering and loyalty rewards programs further signify an agility and commitment to innovation that should support revenues climbing and margins improving.

Ideally, a pullback would occur to allow new investors enjoy greater upside to intrinsic value but as Buffett says sometimes it’s better to buy a great business at a fair price than a fair business at a great price.

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