Starbucks is among the most recognizable brands in the world but is it a good investment?
Opdateret: 3. maj
I really like companies with strong brands, and in my blog, I have investigated several companies with strong brands. One company I haven't had a chance to investigate until now is Starbucks. As they have just announced their earnings, I thought it was about time. These are my thoughts on Starbucks.
This is not a financial advice. I am not a financial advisor and I only do these post in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.
Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and also briefly go through why the company has meaning to me. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.
For full disclosure, I should start by mentioning that I don't own shares in Starbucks, and I never have. Personally, I prefer local coffee shops over Starbucks but like everyone else, I have obviously had my visits at Starbucks as well. Nevertheless, my preference towards local coffee shops will not affect my analysis on Starbucks, as I will stay unbiased. If you are interested in seeing or copying my portfolio, you can do so by following this guide.
Starbucks was founded in Seattle, USA in 1971 with a single shop. Now it has grown to the largest coffee chain in the world, and now operate 33.000 stores in more than 80 countries. Starbucks is more than coffee shops, as they also have made a deal with Nestlé, granting Nestlé the rights to market Starbucks Consumer Packaged Goods and Foodservice products globally, which means that you, among other things, can buy Starbucks coffee beans on your local supermarket. Their largest market is by far the United States followed by China. It is easy to find a moat for Starbucks as they have a large brand moat, as consumers know and trust the brand.
Their CEO is Kevin Johnson. He started by serving on the board of directors in 2009 but joined Starbucks in 2015 as a COO and became the CEO in 2017. He has a bachelor's degree in Business Administration from New Mexico State University and had a career in software development before joining Starbucks, where he held positions in IBM and Microsoft, before becoming a CEO in Juniper Networks in 2008. He was the CEO in Juniper Networks until he quitted due to him suffering from skin cancer. Once he was suffering from skin cancer, he made a rule for himself that he would only do things he enjoyed and has stated "that is why I'm here at Starbucks, doing some something I think is joyful with people I love". With his background in software development, he believes that technology can do some of the tedious time-consuming tasks to free up resources, not because he wants fewer employees but so his employees can use more of their time on the costumers. Examples of this is that he uses machine learning to schedule coffee machine maintenance, track dairy in store refrigerators and manage inventory and shipping. He also believes that technology can improve the customer experience as machine learning can personalize offers to each customer on their mobile device. He is known for encouraging everyone in the company from barristers to accountants to come with ideas and feedback for new products. Furthermore, he is known for putting on an apron and help the staff in the local Starbucks during the holiday season. Personally, I feel confident that Kevin Johnson has the skills and credentials to continue to grow Starbucks.
I believe that Starbucks has a strong brand moat. And I feel confident in Kevin Johnson being the right person to continue Starbuck's growth. Now let us investigate the big five numbers to see, if Starbucks does live up to our requirements for a strong moat. In case you want an explanation about what the big five numbers are, you can have a look at "MY STRATEGY" on the website.
The first number we will look into is the return on investment capital, also known as ROIC. We want to see 10 years of history and we want the numbers to be above 10 % in all the benchmarks, and ideally increasing from benchmark to benchmark. The numbers of Starbucks are exactly as we would like to see them. Well above the 10 % requirement and growing from benchmark to benchmark. Honestly, it is hard to come by companies that can present as good a ROIC as Starbucks.
The next numbers we will investigate are the Sales Growth Rates. Ideally the numbers should be above 10% in each benchmark and increasing. All right the numbers are a bit underwhelming but in no way disastrous. Regarding the one-year benchmark, Starbucks just announced their earnings as they end their fiscal year in September. It means that the one-year benchmark is pretty much the year after the lockdown, and when looking through these numbers, we shouldn't give the one-year benchmark too much importance. Looking at the sales growth rate, it is a bit underwhelming, but it wouldn't keep me from investing in Starbucks.
The next numbers are the EPS Growth Rates. As with all other growth rates we want the numbers to be above 10 % in all benchmarks. It is somewhat of a mixed bag. The older benchmarks look great, while the three-year benchmark is bad. The one-year benchmark is to be ignored in this case.
The Equity Growth Rate is the most important of the four growth rates. The numbers in the oldest benchmarks are just below the requirement of 10 %. The five-year benchmark is a bit lower than others but by no means alarming. The three-year benchmark looks fantastic and hopefully that momentum will continue in the future. Once again you cannot put any importance into the one-year benchmark.
Finally, we investigate the Cash Growth Rates. This is really all over the place. We have some fantastic numbers as in the seven-year benchmark and some disastrous numbers as in the three-year benchmark. Once again, the one-year benchmark should be ignored. The cash growth rate is not the most important growth rate for me and seeing a year like we do in the three-year benchmark won't keep me from investing in Starbucks.
To sum up the five numbers. The most important number will always be the ROIC, and it is fantastic. Very few companies I have come across can present a ROIC like Starbucks, and while we must ignore the one-year benchmark, it has still grown from benchmark to benchmark historically, and is well above the 10 %. I was a bit surprised to see a ROIC like this on Starbucks, and it makes me much more interested in the company. All the other growth rates are a bit mixed. While the cash growth rate, EPS growth rate and sales growth rate all have their worst performance in the three-year benchmark, it is the strongest year for the equity growth rate. Nevertheless, when looking at all the numbers overall, I would say that Starbucks is certainly a more interesting investment for me than it was before I started my analysis. Especially fueled by their fantastic ROIC.
Another important thing to investigate is debt, and we want to see if a business has a reasonable debt that can be paid off within 3 years. We do so by dividing the total long-term debt by current cash flow. Doing the calculation on Starbucks, I can see that Starbucks has 3,24 years earnings in debt. It is a bit higher than we would like but it isn't alarming.
Based on my findings so far, I believe that Starbucks is a good company. However, no investments are without risk and Starbucks has some risks as well. One obvious risk is the ongoing pandemic. We saw the pandemic significantly influence on Starbucks numbers in 2020, and while we see many countries reopening, Starbucks is significantly invested in China's growth, and lately we have seen some lockdowns in China, which could hurt Starbucks short-term. High commodity and freight prices are something that could cut into Starbucks's revenue. As I write this the price of coffee is the highest is has been since 2014, higher dairy prices could hurt Starbucks as well. The sky-high freight prices will also hurt a company like Starbucks that needs to ship coffee around the world. Economic slowdown could also hurt Starbucks. During the last financial crisis Starbucks saw a significant decline in revenues, and if we see a similar recession, especially in the United States, it could hurt Starbucks.
Starbucks also has a lot of potential to grow their business. One large catalyst is the potential growth in China. According to Daxue Consulting, coffee in China is mostly consumed by middle-to high class urban Chinese. Everyone that have followed my writings on Alibaba knows that China wants to grow their middle class, which could bode well for China in the long run. According to Mordor Intelligence, the Chinese coffee market is projected to grow at a CAGR of 10,15 % until 2026. In the same analysis from Daxue Consulting, they mention that there is a shift in the Chinese consumers coffee preferences, as quality is now the main buying determinant when buying coffee. Furthermore, Starbucks has a very secure and positive brand image in China, as they were first movers, which also means they are way ahead of competition. Another potential growth catalyst is automation. I know that I previously wrote that so far Kevin Johnson has used automation to free up some time for his employees, so they could use their time on the customers. However, in their latest conference call, Starbucks mentioned that they have experienced some challenges regarding recruiting enough staff. It could force Starbucks into a higher level of automatization, as we see in other companies in the quick service restaurant sector, which would lead to a cut in labor costs. Besides that, it must be expected that Starbucks will fare much better in a post-pandemic world, as they are still facing challenges in some of the more than 80 countries, they are present in.
All right, we have gone through the numbers, potential and risk regarding Starbucks, and now it is time for us to calculate a price for Starbucks. In order to calculate price, we will need the numbers that I have explained in the "MY STRATEGY" section of the website, as I do not want to go through the whole calculation here. I chose to use an EPS slight lower than it is now at 3,50. I chose a Estimated future EPS growth rate of 12 (It might be a bit on the higher side but I feel it is attainable), Estimated future PE 24 (which the double of the growth rate, as the historically PE for Starbucks has been higher) and we already have the minimum acceptable return rate on 15 %. Doing the calculations by using the formula I described in "MY STRATEGY" we come up with the sticker price (some call it fair value or intrinsic value) of $64,49, and we want to have a margin of safety on 50 % so we will divide it by 2, meaning that we want to buy Starbucks at price of $32,24 (or lower obviously), if we use the Margin of Safety price.
Our second way to calculate a buy price is the TEN CAP price, which is also explained at "MY STRATEGY". To do so, we need some numbers from their financial statements, keep in mind that all numbers are in millions. The Operating Cash Flow last year was 5.989,1 The Capital Expenditures was 1.470. I tried to look through their annual report to see, how much of the capital expenditures were used on maintenance. I couldn't find it though, so as a rule of thumb, you expect 70 % of the capital expenditures to be used on maintenance, meaning we will use 1.029 in our further calculations. The Tax Provision was 1.156,6. We have 1.180 outstanding shares. Hence, the calculation will be like this: (5.989,1 - 1.029 + 1.156,6) / 1.180 x 10 = $52,03 in TEN CAP price.
The last calculation is the PAYBACK TIME. I also described in "MY STRATEGY". With the Free Cash Flow Per Share at 3,95 and a growth rate of 12 %, if you want your purchase back in 8 years, the PAYBACK TIME price is $54,41.
I believe that Starbucks is an interesting company, and I was very surprised about their fantastic ROIC. I also like the leadership style of the CEO and believes that the management will be in position to continue the growth story of Starbucks. Obviously, there are some risks, especially when it comes to commodity and freight prices, and the question is how long it will last. Before I started this analysis, I was not really interested in Starbucks, and one thing I didn't mention in the analysis is their relative low margins, which is something I find slightly concerning. Nevertheless, the moat, the management, the ROIC and the potential means that I would be interested in Starbucks at the PAYBACK TIME price at $54,41 if it ever drops to that.
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