May 15, 2024
1. Summary
Starbucks is the world's leading marketer and retailer of coffee.
It operates in 86 different markets and was founded in 1985.
The company buys and roasts high-quality coffee, which it sells in its stores along with other products such as tea, other craft beverages and food.
Recurring consumer product
Has pricing power.
Solid business structure
A brand with a high market position
Competitive advantage in the form of intangible assets and scale advantages
2. Current situation
The stock fell by more than 15% on the stock market due to a poor presentation of quarterly results and a cut in the revenue and profit forecast. The fall has been more than 20% in the period from 1 year to date.
This is due to a more cautious consumer, deteriorating economic outlook, severe weather in the US affecting traffic in stores, and slow recovery in China.
The current situation leaves the company with an attractive valuation of 20x PER (similar valuation in 2018 and 2020, both were good buying points)
The current situation is a one-off (not structural) situation that should pass and in the short term the company should return to its usual growth.
Currently, as of May 2024, Starbucks is trading at a price of $75 per share, a multiple of 20x PER
The target price could be around $120 in 3 years and $180 in 5 years (not a buy recommendation)
Equivalent to a return of 16% - 18% (CAGR) at 3 and 5 years (compound annual return rate)
3. Starbucks business
Starbucks is another big brand that needs no introduction. It is present in over 80 countries around the world with its franchise model and company-owned stores. It was founded in 1985 and is the world's leading coffee roaster, marketer and retailer. The company buys and roasts high-quality coffees which it sells, along with coffee, tea and other artisanal beverages, as well as a variety of high-quality foods through company-operated stores.
Sales by product type in millions of US dollars (2023):
Coffee and drinks : $21,685 (60%)
Food : $6,585 (18%)
Packaged coffee and tea, royalties and licenses, utensils : $7,705 (22%)
Total sales : $35,975
It also sells a variety of coffee and tea products and licenses its trademarks through other channels, such as licensed stores, supermarkets and food services through the Global Coffee Alliance with Nestlé S.A. (“Nestlé”). In addition to traditional Starbucks coffee, the Company sells products under the brand name:
Teavana
Starbucks Reserve
Ethos
Princi
The company has a total of 38,000 stores worldwide .
Around 50% of the stores are operated by the company itself and the other 50% are licensed.
Of its 19,592 operated stores, 10,628 are in North America and 8,964 are in the rest of the world.
Of its 18,446 licensed stores, which have been growing strongly in recent years, 7,180 are in North America and 11,260 are in the rest of the world.
In Spain, the company operates under the management of Alsea Europe, with a total of 159 stores.
Starbucks is opening many more stores than it is closing. In 2023, the number of company-owned stores opened was 1,539 compared to only 201 stores closed in the same period, leaving a total number of new stores opening at 1,339 . The region with the highest number of new store openings was China with a total of 785 new stores.
The vast majority of Starbucks sales come from the US. Sales by geographic region in 2023 are as follows:
US sales for $26,398 (73%)
China sales for $3,081 (9%)
Other countries (especially Japan, Canada and UK) sales for $6,495 (18%)
Starbucks has become a benchmark in the hospitality industry over the years, with a remarkable expansion model in an increasingly competitive sector. The company has managed to expand internationally, adapting to different cultures and local preferences without losing the essence of the brand. The constant diversification of its offering, which goes beyond coffee to include a wide range of beverages, foods and branded products, has allowed it to attract a wide variety of customers and maximize its revenues. With the implementation of mobile payment technologies and customer loyalty programs, the company has managed to remain relevant and attractive to its customers. All this, complemented by an exceptional in-store experience, where the welcoming atmosphere and customer service are a priority, has contributed to Starbucks' solid position in the industry.
4. How the company makes money
Starbucks makes money primarily through the sale of coffee and other products in its stores, as well as through franchise agreements and other hidden assets that I will mention later:
Coffee and beverage sales : This is Starbucks' primary source of revenue. They sell a wide variety of coffee, from simple drinks like black coffee to more elaborate beverages like lattes, cappuccinos, and frappuccinos.
Food Sales : In addition to coffee, Starbucks also offers a variety of food items such as muffins, sandwiches, snacks and desserts, which contribute significantly to its revenue.
Branded Products : Starbucks sells a wide range of branded products, such as mugs, thermoses, coffee beans, coffee capsules, and other coffee and lifestyle items.
Starbucks Card : The company sells gift cards called Starbucks Card, which can be reloaded and used to purchase products at Starbucks stores. This not only encourages customer loyalty but is also a great source of funding. I will discuss this in the following lines.
Merchandising and Licensing : Starbucks also makes money through licensing agreements with other companies to sell branded products in retail stores, supermarkets, and other outlets.
Franchising : 50% of Starbucks stores are company-owned, 50% are operated by franchisees, providing them with large revenues through the initial entry fee, royalties, and the sale of supplies and equipment.
Starbucks' success as a leader in the hospitality industry is not limited solely to its ability to offer high-quality products such as coffee and beverages. Rather, it is due to a combination of strategic factors that have allowed the company to adapt and excel in a dynamic and competitive business environment.
My Card (hidden asset): One of these strategic factors is the card that Starbucks offers its customers, a kind of credit card that users can recharge within the app to make purchases in the store and that has gained strength in recent years. Currently, more than 25% of purchases in the store are made with the mobile application. The good thing about all this is that all that money is in the company's accounts, specifically in an item called "Deferred Revenue", and it is money that the company obtains for free, without interest and that it has in advance, since customers do not use the money until a few days or months after the recharge. Currently, that concept is almost 8 billion dollars, a significant amount that the company can use to finance other items or make investments.
Gif Card: Something similar happens with Starbucks' Gif Card , where customers load money that other customers can use in the future. These funds remain in the company's accounts, available for use without interest. In short, customers lend money to the company for free.
5. A look at the numbers
Sales have grown from $16 billion to $36 billion over the past 10 years (8% - 9% CAGR)
Operating margins (EBIT) of 15%
Earnings per share (EPS) growing from $1.3 to $3.6 over 10 years (10% CAGR)
ROIC of 40%
Net debt/EBITDA of 1.6x (after Covid the company has increased debt)
1,132.7 million shares outstanding
Capitalizes for $85,000 million
Sales are growing by an average of 9% per year. They fell briefly in 2008 during the financial crisis and in 2020 during the pandemic due to the mandatory closure of stores. This year sales will fall by around 3% but are expected to normalise from next year onwards.
Operating Margins have been constant, around 15% for the last 10 years, with an eventual decrease of 6% in 2020, a margin compression justified during the lockdown. A slight expansion of margins of 1 percentage point is expected.
Earnings per share (EPS) have grown slightly faster than sales. Currently, EPS is $3.60. EPS is forecast to reach $4 by 2025.
The ROCI with Goodwill (incorporating acquisitions) is 40%. The ROIC without Goodwill is 60%. In both cases a high Return on Invested Capital indicates the good management of the company's capital.
Debt is one of the points to watch, as it is at higher than usual levels of debt, due to the need for leverage during the pandemic. The company has not yet managed to reduce these levels, close to 2x net debt/EBITDA, compared to very low levels below 0.5x net debt/EBITDA prior to the pandemic. The current level of 1.8x is still low and controlled compared to similar companies in the sector.
I don't see any structural problems in the company, although it would be good to keep an eye on whether the current quarterly drop in sales becomes a recurring issue and stops being a one-off.
6. MOAT
Starbucks' competitive advantages lie primarily in its intangible assets and a strong scale advantage.
Intangible Asset : Starbucks has built a strong and globally recognizable brand. It is undoubtedly one of the most prestigious brands in the restaurant and coffee industry, which gives it a significant advantage in terms of customer loyalty and quality perception.
Scale Advantage : Starbucks' scale advantages stem from its ability to leverage its size and global reach in several aspects such as Economies of scale in supply chain, Operational efficiency, Marketing and branding, and Loyalty programs. All these aspects enable Starbucks to reduce costs in its processes and offer goods and services at a lower cost than its competitors.
Both competitive advantages, along with strategic locations, innovation and adaptability, product quality and customer experience , give the company strong pricing power (the company's ability to raise prices without losing customers ).
This results in greater negotiating capacity with suppliers, allowing margins to be adjusted and operating margins to be expanded.
7. Company valuation
To value the company I will do so under the assumption of 3 scenarios , to estimate the different future situations that may arise:
Conservative
Optimistic
Pessimistic
The general situation is as follows:
The company has been growing at an average rate of 9% over the last 10 years , 11% in the last year, 2023, and sales will fall in 2024, so I will be conservative and estimate growth in the range of 8% to value the company.
The company's historical average valuation is around PER 28x and EV/EBITDA 17x.
It is currently valued at 20x PER and 14x EV/EBITDA, due to the deterioration of economic expectations and the situation in China. These low-end valuations have only been seen in specific situations such as the 2008 crisis, in 2018 and the Brexit uproar, during the 2020 pandemic and currently.
The company is currently trading at $85 billion (market cap), at a price of $75 per share , with a total of 1,132.7 million shares.
7.1 Conservative scenario
Sales growth of 3% for the first year and 8% for the following years. In this scenario, the company continues on its current path.
Operating margin (EBIT) of 16%
Tax rate of 25%
Valuation multiples of 25x PER and 16x EV/EBITDA, multiples below their historical average
With this scenario, at a current purchase price of $75 per share, the expected return could be around 16% per year over 3 years and 18% over 5 years.
The target price could be around $120 in 3 years and $180 in 5 years.
5.2 Optimistic scenario
Sales grow by 3% for the first year and 10% for the following years.
A slight expansion of operating margins to 17%
Tax rate of 25%
Multiples of 30x PER and 20x EV/EBITDA
In a more optimistic scenario, at a current purchase price of $75 per share, the expected return could be around 30% per year over 3 years and 27% over 5 years.
The target price could be around $160 in 3 years and $240 in 5 years.
5.3 Pessimistic scenario
Sales of 3% for the first year and the following years continue to show a reduced growth of 5%
The company compresses margins to 14%
Tax rate of 25%
Multiples of 21x PER and 14x EV/EBITDA
In a pessimistic scenario, where Starbucks slows growth and compresses margins due to a deteriorating economic situation, the purchase of shares at the current price of $75 per share, gives us an expected return of around 4% per year at 3 years and 8% at 5 years, a yield below the market average, leaving the stock as an unattractive investment.
The target price could be around $85 in 3 years and $110 in 5 years.
In summary, investing in Starbucks can offer the combination of a strong brand, growth, continuous innovation and resilience to economic changes, which makes it an attractive option, especially at the current valuations of P/E 20x and EV/EBITDA 14x, which is among the lowest in the sector, considering the quality of the company. The company does not have structural problems in sales and margins, except for the current situation of the quarter. The company's competition is rather local, small local brands positioned in each country and competing on price and quality, but not on brand and scale. However, despite the positive aspects of the company, it is prudent to keep an eye on debt and maturity levels, ensuring that leverage does not compromise fundamentals.
If you have any questions, feel free to leave your comment!
Disclaimer
This analysis is not a recommendation to buy or sell, it is my personal opinion and each person should make their own analysis of the company.