Starbucks’s 22.7% return over the past six months has outpaced the S&P 500 by 19.7%, and its stock price has climbed to $100.49 per share. This was partly thanks to its solid quarterly results, and the performance may have investors wondering how to approach the situation.
Is now the time to buy Starbucks, or should you be careful about including it in your portfolio? Check out our in-depth research report to see what our analysts have to say, it’s free.
Why Do We Think Starbucks Will Underperform?
We’re glad investors have benefited from the price increase, but we're cautious about Starbucks. Here are three reasons there are better opportunities than SBUX and a stock we'd rather own.
1. Shrinking Same-Store Sales Indicate Waning Demand
Same-store sales is an industry measure of whether revenue is growing at existing restaurants, and it is driven by customer visits (often called traffic) and the average spending per customer (ticket).
Starbucks’s demand has been shrinking over the last two years as its same-store sales have averaged 2% annual declines.
2. Shrinking Operating Margin
Operating margin is a key profitability metric because it accounts for all expenses keeping the business in motion, including food costs, wages, rent, advertising, and other administrative costs.
Analyzing the trend in its profitability, Starbucks’s operating margin decreased by 6.8 percentage points over the last year. This raises questions about the company’s expense base because its revenue growth should have given it leverage on its fixed costs, resulting in better economies of scale and profitability. Its operating margin for the trailing 12 months was 7.2%.
3. EPS Trending Down
Analyzing the long-term change in earnings per share (EPS) shows whether a company's incremental sales were profitable – for example, revenue could be inflated through excessive spending on advertising and promotions.
Sadly for Starbucks, its EPS declined by 5.9% annually over the last six years while its revenue grew by 5.7%. This tells us the company became less profitable on a per-share basis as it expanded.
Final Judgment
Starbucks doesn’t pass our quality test. With its shares outperforming the market lately, the stock trades at 40.4× forward P/E (or $100.49 per share). At this valuation, there’s a lot of good news priced in - we think other companies feature superior fundamentals at the moment. We’d suggest looking at a safe-and-steady industrials business benefiting from an upgrade cycle.
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