Sanity Check: Starbucks’ American Expansion

This time around, SBUX's aggression might be grounded in logic

   
Sanity Check: Starbucks’ American Expansion

When you first hear the news of Starbucks’ (NASDAQ:SBUX) latest expansion plans in the United States, one question immediately surfaces:

Where in the hell are they going to put another 1,500 stores?

The U.S. already holds more than 11,000 Starbucks locales, which technically makes it the nation’s third-biggest restaurant chain — behind Subway’s 24,000-plus locations and the 14,000 restaurants that McDonald’s (NYSE:MCD) owns or franchises. Is there really room for that many more coffeehouses?

It’s a question worth asking now, because it wasn’t that long ago that Starbucks was expanding like crazy despite the fact that there really wasn’t enough room for more coffeehouses.

Though the “Starbucks on every corner” cliché was usually used metaphorically in the early 2000s, in too many cases, the Seattle-based company really did open two or more stores right across the street from one another. It happened in Houston, Vancouver and Westchester, Pa. New York is loaded with more than its fair share of them too. The running joke was even used as a gag in a couple of major motion pictures.

It was no joke when Starbucks ultimately paid the price for its aggressive overlap, however, closing several hundred stores beginning in 2008.

So what makes CEO Howard Schultz think it’s time for another round of (presumably wiser) expansion?

Then and Now

Actually, it was Schultz that decided to close those stores in the first place when he rejoined the company as its chief in 2008, after being away from the company for eight years while he owned the Seattle SuperSonics.

As “the guy” who led the company from nothing in the mid-1980s to being an American way of life by the late ’90s, Schultz likely recognized the missteps taken in the early 2000s. But it was Cliff Burrows — who heads up the company’s domestic units — who finally said what most of the market already knew, stating that the company hadn’t been careful with its expansion through 2008, opening stores in locations that didn’t quite fit the right demographic profile.

Recognition of the hyper-aggressive expansion is a big first step, but Starbucks’ chiefs also report the company is much savvier now, planning to build only the size and type of store that’s needed to serve that particular target market.

Still … 1,500 new stores in the United States alone within the next five years?

Crunching the Numbers

Although Starbucks didn’t explicitly say it, it’s not unreasonable to think it would expect its new units to achieve profitability and become self-sustaining in pretty short order. Is that even possible, given the current 11,100 cafes that already saturate the domestic market?

Believe it or not, the math adds up.

With a tally of approximately 300 million U.S. residents, each of the existing 11,100 Starbucks serves an average of 27,000 American consumers. By adding another 1,500 to the total, the company still will be providing one Starbucks for about every 24,000 domestic residents.

Assuming the company puts those new shops in the right spot — and given the lesson Starbucks learned in 2008, that’s not an unreasonable assumption — it won’t cannibalize existing stores that much; the bulk of these stores will mostly win new business.

Let’s also say each new location introduces Starbucks to a target market of only 18,000 new people (who wouldn’t have visited a Starbucks otherwise). Let’s further conservatively assume that only 1/20 of them are repeat coffee drinkers that would visit a Starbucks on a regular basis of, say five times per week. With an average ticket price of $4 per visit multiplied by 900 regular patrons multiplied by five visits per week, that translates into annual revenue of $936,000 — right in line with the company’s target sales for new stores.

Point being, although the above numbers are rough, there’s clearly room in the marketplace for more Starbucks stores as long as they’re placed in spots that build the customer base rather than merely displace it.

Again, though, it’s unlikely the corporation would repeat the same overlap mistake, especially under Schultz’s guidance.

Bottom Line

Back in early November when Starbucks said it was going to add 1,300 new stores in 2013, no red flags were raised, as nearly half of them were going to be built in China, where the market is not yet saturated. The 600 new units planned for the U.S. seemed aggressive, but not out of reach.

Raising the domestic number to 1,500 in five years, however, prompts flashbacks of overly aggressive growth from the early 2000s (that ultimately led to a slew of store closures).

This time, though, the bold expansion plans actually look and feel realistic.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, http://investorplace.com/2012/12/sanity-check-starbucks-american-expansion-sbux/.

©2014 InvestorPlace Media, LLC

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