Tag: sbux

Odlum Brown analyst Felix Narhi had an interesting call on Starbucks (SBUX)last week.

Recently Starbucks’ projected earnings per share growth of 17% to 21%, while previous guidance was 20% to 22% for FY 2008. Narhi said of this “While this performance and outlook would have been stellar for most companies, apparently some Starbucks investors were expecting even more, nevertheless, this reduction in earnings guidance is hardly a disaster, in our view.”

“Starbucks shares are cheap”, said Mr. Narhi, and they are trading at their lowest level since going pubic in 1992 (26.6 times trailing 12 months as of Friday). He rates Starbucks a “buy” with a $35 price target, down $1 from his previous forecast and he recommends aggressive buying in the low $20-range.

Here is the problem and it is a question of looking at price and implying value from it.

EPS Growth for Starbucks.
2004- 41%
2005- 29%
2006- 20%
2007- 19%
2008- 17%-21% (company provided)

So, we have 4 consecutive years of EPS decline. The last time that happened? Uh, never?!? Investors think there may be a fifth and that is a VERY good chance. That is the reason they are fleeing the stock. It is not due to a “temporary” disruption.

In those previous years Starbucks faced competition on a national scale from, um, nobody. Now they have the juggernaut that is McDonald’s (MCD) gunning from them and regional goliath Dunkin’ Donuts taking direct aim at Starbucks’ business. When one look at the results from those operations, the only deduction that can be made is that it is working. As McDonalds introduces espresso drink nationwide in 2008, that competition will only get more intense, putting more pressure on Starbucks earnings growth.

Mr. Narhi mentions the stock being at its lowest levels since 1992, well in 1992 the company was growing EPS at over 50% a year and there was almost 100 million LESS shares outstanding. Comparing the pure dollar value of a stock is just meaningless unless other factors are also considered.

I have said it here countless times and it has yet not to be true. As earnings growth slows, the premium investors will pay for a stock also decreases. That is simply what is happening with Starbucks. At 26 times trailing EPS, shares are by no means a bargain or an “aggressive buy”. A low share price does not automatically equate to value. Investors are not sure where the bottom is because they cannot get a handle on how much slower things will get. This is in part because of the fierce competition that the company has now it did not have even two years ago AND the lack of honesty or disclosure from management. Donald and Schultz seem to be in denial about their business and with the rest of us seeing it, we doubt everything coming out of Seattle HQ.

The fact they did not address milk costs until almost 2 months after I did ought to make current or potential investors very nervous. It is like they are closing their eyes hoping it will just go away and be ok.

In August management addressed the store traffic issue and said “we expect it to be short term issue”. Now we find out it will take until halfway through 2008 at best to get that straightened out. A “short term” year?

Back in May I said “With all the uncertainty surrounding the company at this point, I could not even begin to consider shares at any price other than the lowest end of the range, $22 or another 21% lower than current prices as I expect EPS growth to slow more.”

That price point now looks too optimistic, high teens are the range now. Those who blindly follow Mr. Narhi’s advice will be disappointed to say the least.

Think it is just Mr. Narhi? Check out the other analyst calls that would have had you throwing you money away in 2007 alone.

20-Nov-07 Friedman Billings Upgraded Mkt Perform to Outperform
16-Nov-07 McAdams,Wright,Ragen Reiterated Buy
16-Nov-07 UBS Reiterated Buy
16-Nov-07 RBC Capital Mkts Reiterated Outperform
16-Nov-07 Friedman Billings Reiterated Mkt Perform
16-Nov-07 CIBC Wrld Mkts Reiterated Sector Outperform
16-Nov-07 Robert W. Baird Downgraded Outperform to Neutral
12-Nov-07 UBS Reiterated Buy
08-Oct-07 Lehman Brothers Reiterated Overweight
27-Sep-07 Banc of America Sec Downgraded Neutral to Sell
02-Aug-07 JMP Securities Reiterated Mkt Outperform
02-Aug-07 McAdams,Wright,Ragen Reiterated Buy
02-Aug-07 RBC Capital Mkts Reiterated Outperform
02-Aug-07 CIBC Wrld Mkts Reiterated Sector Outperform
19-Jul-07 CIBC Wrld Mkts Reiterated Sector Outperform
18-Jul-07 Lehman Brothers Reiterated Overweight
02-Jul-07 Bear Stearns Reiterated Outperform
22-Jun-07 Friedman Billings Downgraded Outperform to Mkt Perform
15-Jun-07 Lehman Brothers Reiterated Overweight
08-Jun-07 Deutsche Securities Reiterated Hold
21-May-07 CIBC Wrld Mkts Reiterated Sector Outperform
02-May-07 CIBC Wrld Mkts Reiterated Sector Outperform
18-Apr-07 Lehman Brothers Reiterated Overweight
01-Mar-07 Prudential Reiterated Neutral
30-Jan-07 JP Morgan Upgraded Neutral to Overweight

Only 1 sell in the whole bunch….. sad

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I always go to the Q&A because it really tells you something about management, both in their candor what they are looking at.

Starbucks (SBUX)CEO James Donald said at one point:

“Let me just add to that. When we examine the competitive landscape, I think one of the things that we have not done a very good job of, because we haven’t had to, is just examine and leverage the assets that the company has that’s meaningful to our customers.

As an example, most people that are entering the space and creating lots of noise are not coffee roasters. They don’t have 35 years of history and heritage around sourcing, buying, blending, and providing the customer with a fully comprehended, vertically integrated experience. That’s an asset that is very, very important to our customers and speaks to the quality, the loyalty, and the trust they have in Starbucks.

We have not really had to tell that story for many, many years because we haven’t been concerned about people trying to in any way create attrition for us.

The issue of competition I just want to address, is that we take it extremely, extremely seriously. We understand all too well that we have built a very attractive business for others to look at and try and take away, whether it’s 1% on the margin or big companies that are trying to take more. We are up for the defense and we are going to get on the offense.

I want to make it clear also that the size of the prize is so large and although I’ve said it so many times, I need to say it again; we have less than 10% share of the total coffee consumption market in North America and less than 1% in the world. As what has happened in many consumer products when there is new awareness, it creates a new trial among consumers who have not yet been in the category. That is taking place as we speak.

Those consumers over time are going to trade up. They are going to trade up because they are not going to be satisfied with the commoditized experience or the flavor. We will do everything we can to ensure the fact that when they trade up, they are trading up to the company that built the category and is the leader and that, ladies and gentlemen, is Starbucks. And you can be assured that we are deeply, passionately committed to preserving our leadership position.”

If all that is true, then why are people fleeing? Why are comps down at Starbucks but up at McDonalds (MCD)(I am just considering coffee) and Dunkin Donuts? What is happening out there is Donald sells a commodity that people are very price conscious to (despite his claims). That simply means that when given the option between comparable products, price and convenience win.

They are “trading up” as he says it but they are trading up to less expensive option. What Starbucks refused to admit it seems is that the competition has a quality product and it sells for far less. Also, does anyone really care about their “vertically” integrated operation? Some may, but not enough to keep the 20% EPS growth the company touts for next year.

CEO Donald responded this way to a question asking for an explanation of the negative traffic comps.

“I think that when we look at the softness in transactions, there’s a couple of things unfolding, and I mentioned them in my remarks. There are other operators in this specialty coffee business, but that doesn’t necessarily link in to this softness in comps. I think what you have to look at is just the pure and simple economic trends that we see.”

He actually said other operator do not “necessarily link to this softness”. Incredible. The only take away here is that he does not accept the simple FACT they are losing business to the competition. Are these folks just not drinking coffee anymore James? Staggering… Has he seen McDonald’s numbers and transaction growth?

Even trading down 40% for the year to levels not seen since 2005, the stock still trades at 27 times current earnings and 22 times next years and if you believe they will hit the numbers they project next year, well, sorry..

Starbucks is still thinking like they are a little specialty niche operation and not the mega-chain they are. You cannot continue to growth a $16 billion dollar operation 20% a year by appealing to a smaller and smaller segment of the public. Especially when your competition and yes James, McDonald’s and Dunkin Donuts are your competition and they have raised their game to match yours on several fronts.

This is just bad…

Read the whole transcript here:

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“We only have 10% of the US coffee market” says Starbucks (SBUX) Chairman Howard Schultz. So, by that logic ought we expect 18% growth from Mercedes because they only have 3% of the US auto market? Me either and thus the problem with Starbucks

I would be willing to bet they have 95% of the US coffee market that would be willing to pay $5 for a latte. That being said, we now have Starbucks’s central issue. The market they are selling to is only a fraction of what they think it is and they have virtually tapped out that smaller market. Schultz & Co. cannot continue to promise 18% to 20% growth when the number of people in the US they are serving has been stagnant for the current year. Consider the following chart from the WSJ.

Some folks have made the case that Starbucks grew too quick and saturated their market. Quite the contrary. They still have the same number of locations in the US as McDonalds (MCD) but the different is the coffee is more than twice as expensive. How could Mercedes increase their market share? Lower the price of the cars. How can Starbucks? Lower the price of its coffee.

Starbucks is caught here though between market share, maximizing ever penny per cup and growth. They have promised to expand to 40,000 stores and to back off that would scare investors. This is the problem will such bold predictions much like Home Depot(HD) is seeing with the shares repurchase plan, if you can’t deliver, people are less than pleased with you. This causes management to fight reality. Always under promise and over deliver.

When you have two products that are similar, price and convenience always win. Now, does McDonalds have the “super premium” blends and the variety of drink offering Starbucks has? No. But what they do have is a very good product at very reasonable prices. What they have done is take a huge segment of Starbucks current and potential customers who are looking for value.

If you look at the chart above one thing has to stick out, Starbucks “no growth” periods in the US coincides 100% to McDonalds coffee improvement.

What to look for today? Transactions. Did they grow over last year and IF they hit their EPS number, was it due to the addition of debt to buy back abnormally large blocks of shares like they did at the beginning of the year.

My guess? Flat to negative transactions and an earnings estimate miss. The good news? They start coming up against much easier comps in the next quarter so the illusion of growth can at least be there for those investors still holding on.

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