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Published: May 12, 2010
There was once a company akin to a 10-year-old on a triple
espresso high, an energetic beast that wouldn't rest. Its stock
had superior risk-adjusted returns. The company became a global
brand. It redefined what people do with their free time, giving
them a place to meet and hang out somewhere other than at home
or at work. And then one day, the company ran into a brick wall,
as if that 10-year-old thought it could crash through said wall
if it just put enough power behind its stride.
There's a great sight gag in the movie
Shrek II, when a giant gingerbread man grabs the giant cup of
coffee sitting atop a Starbucks (Nasdaq: SBUX). All the
patrons scream and run out of the Starbucks they are in...
and into the one across the street. Little did investors know
that it was precisely this level of overexpansion that would
turn into the aforementioned brick wall.
The premium coffee market has become saturated and Starbucks is
in the process of closing 800 stores. McDonald's is successfully
challenging with the McCafe concept, backed with its marketing
muscle. Case in point: a billboard outside Starbuck's
headquarters, with a picture of McDonald's coffee next to a
Starbuck's coffee that reads, "Four bucks is dumb." For
McDonald's customers, coffee is a cool new perk. What can
Starbucks add to its menu that it hasn't already tried? Is there
anything the company can do to caffeinate a resurgence? Yes,
there are many things. Don't count Starbuck's out -- ever.
The current answer comes in the form Starbucks instant coffee,
Via. Investors should take note of just how bold a move this
is.The $21 billion global instant coffee market is a great
target from which to capture
market share. Folger's holds 30% of domstic share and
Maxwell House another 19%. By making Via's price point
attractive to the instant coffee user, and by providing an
instant version that most would say is superior to those
long-standing brands, Starbucks has effectively declared war.
Starbuck's does not break down individual product sales, but one
source reports that Via started in 12,000 retail outlets last
fall, hit 15,000 in March, and will be in 37,000 by the end of
June. If a product isn't working, a company doesn't expand it
this aggressively. There's also room for international
expansion: There's a $5 billion market in Japan ripe for
exploitation and innovation, for example.
The company has finally embraced digital media and social
networks as part of its marketing strategy as well. Finally, and
significantly, the new product is not cannibalizing regular
premium coffee sales. Instant coffee customers are a totally
different type of customer.
Via's performance is not just important in the short-term. Its
rollout will be used as a template for other products Starbucks
is sure to develop.
The question, however, is whether these new developments make
Starbucks a piping hot buy.
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Starbucks'
balance sheet is exceptionally strong. The company's debt
could be extinguished with just six months of free
cash flow. The debt service is puny. The company has also
netted almost $800 million in earnings during the past twelve
months.
In both quantitative and qualitative evaluations, Starbucks
comes off as one of the great global brands anyone should be
excited to own. So is it a buy? The answer is a qualified "yes."
The stock is expensive. While great brands deserve
PEG ratios over 1.00, Starbuck's is significantly over that
threshold. Given potential economic headwinds, it feels pricey
at the moment.
Also, the stock's biggest growth days are behind it. The stock
peaked well before the recession, at $40 back in late 2006,
meaning it was already falling before the recession. The stock
has had an incredible run off its V-shaped bottom, but I think
investors have built too much optimism into the stock at this
point. Furthermore, insiders are not terribly invested in the
company's outcome with only 3% ownership. It's not a big deal,
but it suggests that insider interests may not be aligned with
shareholders.
Starbucks is still a world-class company, but waiting for a
pullback before buying the stock wouldn't be out of order,
either.
-- Frederick Steier
Contributor
StreetAuthority |
