It’s time to discuss a stock I’ve never discussed on Seeking Alpha – or anywhere else.
As the title already gave away, that company is the Starbucks Corporation (NASDAQ:SBUX), a company I have avoided because I am not a big fan of consumer stocks, which turned out to be a huge mistake!
I believe my dislike of coffee and fancy drinks played a minor role as well.
That said, a lot of people love SBUX, which has resulted in massive gains.
Investors who put $10,000 into Starbucks on the last trading day of 1992 are currently sitting on $2.1 million, including dividends.
This massive return is provided by a compounding annual growth rate of 18.6% during this period, which beats the S&P 500’s 10.0% return by a wide margin.
Even adjusted for volatility, the stock had a better risk-adjusted return than the market (Sharpe/Sortino Ratios).
In this article, I’ll focus on how Starbucks is growing, what to make of its operating environment, and why it’s still a great stock to build significant wealth – after all, the bullish title isn’t clickbait.
So, let’s get to it!
The Return Of Confidence Could Unlock Huge Gains
Since October 2003, SBUX has returned 13.8%. This is below the long-term annual total return of 18.6% but still enough to generate tremendous wealth.
To give you a few examples:
- If you find an investment that can return 13.8% per year over the next ten years, you can turn $10,000 into $36,400.
- If you keep this investment for 20 years, that number turns into $132,700.
- If you keep this investment for 40 years, you can generate $1.8 million!
- If you identify a potential high-flying stock and buy it below “fair” value, you can generate substantially higher returns.
- You need just 32.94 years to turn $10,000 into a million if you find a 15% CAGR opportunity. Again, 32.94 years may seem like a lot. However, $10,000 isn’t a lot. In my country, that doesn’t even buy you an entry model of a Japanese/Korean car company.
- $20,000 turns into $1 million after just 28 years of 15% returns.
With all of this said, on paper, it’s easy to get rich. Very easy.
It’s harder to find good opportunities and put actual money to work.
That’s where Starbucks comes in.
What I like about Starbucks is that it is a high-flying growth at a very attractive price.
Using the data in the chart below, SBUX is expected to grow its EPS by 17% in FY2024, and 16% in both FY2025 and FY2026.
Going back to 2003, the normalized valuation of SBUX was 31.8x. This number was fully justified by elevated growth.
However, despite the outlook of consistent double-digit EPS growth, the company is now trading at a blended P/E ratio of just 25.1x.
Based on these numbers:
- Purely theoretically, if the stock were to see a valuation shift to 31.8x, it could return 28.5% per year through FY2026. Again, that’s purely theoretical.
- However, even a 24x multiple (below its current valuation) could imply a 17% annual return going forward.
To put it simply, if we can demonstrate that SBUX is still performing strongly and if we can understand why, it has performed poorly since the pandemic, we can argue that it presents a highly appealing opportunity for long-term dividend growth.
However, before we dive into that, let’s take a look at its dividend.
The SBUX Dividend
One of the most attractive things about SBUX is its dividend. The current quarterly dividend is $0.57 per share, which translates to a yield of 2.5%.
- The S&P 500 yields 1.4%.
- The Vanguard Dividend Appreciation Index Fund ETF Shares (VIG) yields 1.9%.
On September 20, 2023, Starbucks hiked its dividend by 7.5%. The five-year dividend CAGR is 10.4%.
This year, the company is expected to generate $4.14 in EPS, which translates to an earnings payout ratio of 55%, which is very healthy.
Even better, the company has a net leverage ratio of less than 2.0x EBITDA and a BBB+ credit rating, one step below the A range.
The company has hiked its dividend every single year since its initiation in 2010.
With that said, let’s take a closer look at the bigger picture to find out how sustainable the company’s growth is.
Despite Headwinds, SBUX Is Poised For Strong Growth
In its most recent quarter, 4Q23, the company experienced strong growth, with consolidated revenue up 9% to $9.4 billion.
The U.S. business delivered record-breaking average weekly sales, leading to an 8% comparable store sales growth globally.
Q4 consolidated operating margin expanded by 310 basis points to 18.2%, surpassing expectations.
The International segment delivered $2 billion in Q4 revenue, up 11% from the prior year.
China played a significant role, contributing to double-digit growth and surpassing 20,000 stores. China’s revenue in Q4 grew by double digits, driven by new stores and 5% comparable store sales growth.
During its 4Q23 earnings call, the company outlined strategic and optimistic guidance for fiscal year 2024. The company expects global comparable sales growth in the range of 5% to 7%, reflecting a shift from the prior year’s guidance of 7% to 9%.
The U.S. comparable store sales are projected to grow between 5% and 7%, building on the strong performance of 9% comp growth in fiscal year 2023.
The company forecasts consolidated revenue growth in the range of 10% to 12% for fiscal year 2024, albeit at the low end of the range.
While this guidance is good, the company’s lower-than-expected comparable store sales guidance is the result of economic headwinds.
During last month’s Morgan Stanley Global Consumer & Retail Conference, the company elaborated on some of these headwinds.
For example, the company acknowledged that the recovery in China is slower than expected, reflecting broader economic challenges. While expressing confidence in the long-term strength of the Chinese market, the immediate future is seen as choppy, marked by uncertainties and a more promotional environment.
This is no surprise, as the Chinese economy is under tremendous pressure.
Also, this is what consumer confidence in the U.S. looks like:
On top of that, geopolitical tensions and conflicts in certain international markets pose challenges.
The company recognized the impact of geopolitical dynamics on its operations, especially in regions affected by conflicts. This adds an element of unpredictability to the international expansion strategy, especially because it is hit by boycotts of certain political groups (for lack of a better word) in some countries.
Furthermore, while improvements have been made in the supply chain, the company has experienced disruptions and challenges.
The need to continuously optimize supply chain processes, especially with the introduction of new equipment and technology, remains an ongoing focus.
The good news is that operating margins have stabilized, with the company seeing “progressive expansion” in 2024.
Based on this context, SBUX is heavily investing in growth, which could leverage both margins and earnings growth the moment cyclical challenges start to fade.
For example, during the same conference, the company mentioned that it has seen success in its current digital run rates and is undergoing a transformation in its approach to digital innovation.
This involves more frequent releases, with meetings every six weeks to assess progress and plan future developments.
Starbucks aims to leverage its existing customer base of over 300 million people globally, including 75 million Starbucks Rewards members, to drive more business into its stores.
These partnerships are strategic in enhancing the digital experience, offering specific benefits to customers, and increasing the value proposition for Starbucks loyal.
On top of that, it is working on new partnerships in other areas.
Another thing I’m excited about (it could get me to visit its stores more often) is that SBUX sees untapped potential in the PM daypart, especially in the beverage and food segments.
The company aims to bring targeted and innovative products to the PM daypart, capitalizing on its existing store footprint and the capacity to meet customer demand.
Essentially, the company sees opportunities for growth in both beverage and food sales during the afternoon, with a focus on customization, digital engagement, and attachment to beverages.
Although I would not compare this to McDonald’s (MCD) offering all-day breakfast, it seems to be a very promising development.
So far, the company has observed high attachment rates, especially in the U.S., with two out of five customers attaching food to their orders.
But wait, there’s more!
The company sees substantial potential in international markets, particularly in regions like Latin America, Continental Europe, Southeast Asia, India, the Middle East, and Africa.
With a focus on building a global network through digital solutions, there’s an emphasis on tapping into diverse markets where coffee culture is growing.
With regard to the aforementioned Chinese developments, despite current challenges and a slower recovery rate in China, the company views it as a critical market with long-term growth prospects.
Premium brands, Starbucks and Reserve, are well-regarded, and there’s room for further penetration in cities.
Speaking of headwinds, the company is also actively addressing the supply chain issues I mentioned in this article.
The company has a $3 billion productivity program, with 70% allocated outside the store, which presents an opportunity for continuous improvement and cost efficiency.
This includes optimizing supply chain management, procurement, and services globally.
All things considered, there are reasons why SBUX is trading below its historical, “normal” valuation.
- Economic growth is weakening, while the consumer is in a tough spot.
- It is still dealing with supply disruptions and margin compression.
- Strikes caused by labor issues and geopolitical developments aren’t helping, either.
However, the company’s growth expectations are high. While 2024 may be somewhat of an underwhelming year, we’re still talking about elevated EPS growth expectations.
On top of that, investments in growth should keep future growth high and customer satisfaction elevated.
Hence, I believe the company will continue to consistently grow its dividend and enjoy elevated capital gains, making it a great long-term investment.
I am considering buying the stock for my portfolio this year, as I am massively underweight consumer stocks.
As the title suggested, I have high hopes for SBUX and believe it will continue to generate tremendous wealth for its shareholders for many years to come.