Is Starbucks Corporation a Buy?

Starbucks (NASDAQ: SBUX) has a lot going for it as an investment. The coffee chain controls one of the world’s most valuable consumer brands, for one. Some customers make several visits to its cafes each day, and they usually don’t mind paying up for premium beverage products.

The combination of customer loyalty and pricing power has formed the basis for massive stock returns for long-term investors who’ve seen their shares soar since Starbucks went public in 1992.

Below I’ll take a look at why the stock could still be a good buy today, even if the chain’s most aggressive growth days are behind it.

Image source: Getty Images.

Slowing growth

Until recently, Starbucks routinely put up market-trouncing growth numbers with comparable-store sales jumping by 6% or more in fiscal years 2013, 2014, and 2015. But since then, there’s been a significant downward shift. Comps fell to 5% in 2016 and then dropped again to just 3% in 2017.

The primary driver of this decline has been customer traffic, which dropped to a 1% uptick in 2016 before worsening again, to a flat result, in the following year. Traffic has been flat through the first half of 2018, too.

Annual traffic change — 2018 is through the first six months of the fiscal year. Starbucks’ fiscal year ends at the start of October. Chart by author. Data source: Starbucks.

As a result, Starbucks has had to lower its long-term sales and profit outlook. Rather than expanding at a 10% annual rate while boosting earnings by between 15% and 20%, management now believes sales growth will be a bit weaker, and profit gains will be closer to 12%.

Retailing strength

Yet even through this difficult sales period, Starbucks has demonstrated impressive retailing strength. Annual revenue has jumped to $23 billion from $14 billion five years ago, and the chain now serves roughly 100 million customers per week — up from 66 million back in 2013.

The company has several big growth initiatives that should keep those operating figures marching higher, even if the growth isn’t as robust as investors have been used to seeing. CEO Kevin Johnson and his team believe they can arrest the customer traffic slide in the core U.S. market with help from food sales, which have jumped to a record 21% of the business lately and are on pace to climb toward 25% in the coming years. The chain is also planning to close 150 underperforming stores in the United States.

Starbucks also has a massive long-term opportunity in China, which has a middle class that is projected to double in size over the next five years to reach 600 million.

Why buy the stock

These initiatives aren’t likely to generate head-turning results any time soon, though. In fact, Starbucks’ latest quarterly update implied that the company will end up at the low end of its growth targets in fiscal year 2018 after missing 2017’s goals. Executives recently warned that sales gains will slow to about 1%, a pace that they said “does not reflect the potential of our exceptional brand and is not acceptable.”

That surprisingly weak performance is a key reason why Starbucks’ stock has trailed the broader market over the past three years whereas a rival like McDonald’s has fared much better. The good news is this gap has left Starbucks shares valued much more reasonably at around 17 times last year’s earnings compared to 25 for McDonald’s.

That relatively modest valuation, plus the promise of increasing cash returns through dividends and stock repurchases, should set prospective shareholders up to accumulate modest gains in the short term while they wait to see whether Starbucks’ broader initiatives speed growth up over the next few years. Given the chain’s dominant market position, valuable brand, and stellar long-term track record, a rebound seems likely, and so buying the stock today shouldn’t leave patient investors regretting the purchase.

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Demitrios Kalogeropoulos owns shares of McDonald’s and Starbucks. The Motley Fool owns shares of and recommends Starbucks. The Motley Fool has a disclosure policy.

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