Should I Buy Starbucks Stock? 3 Pros, 3 Cons

by Tom Taulli | August 27, 2013 1:20 pm

There seems to be no end to the success of Starbucks (SBUX[1]). In the most recent quarter, the company reported an 8% increase in global comparable store sales — the fourteenth consecutive quarter of growth north of 5%.

Investors have piled into Starbucks stock as a result; shares are up more than 31% year-to-date. Meanwhile, the stock has soared 340% over the last five years.

That run raises an obvious question, though: Is it still a good time to invest? To see, let’s take a look at the pros and cons:

Pros

Premium Brand. This first point is simple: Starbucks is one of the world’s top brands. Not only does it emphasize high quality, but it’s been a pioneer with social media, which has continued to bolster the brand. The Starbucks Facebook (FB[2]) page has over 35 million friends and the Twitter account has more than 4.2 million followers. Such status allows the company to maintain a high-priced strategy that means big margins.

New Products. With its substantial cash flows, Starbucks has the advantage of being able to invest for the long-term. To this end, the company has launched a variety of new products. One is the Verismo[3], which is expected to remain a nice growth market for some time. Another key strategy has been acquisitions. For example, the deal for La Boulange has added a strong offering of top-quality bakery products; the acquisition of Evolution Fresh added a portfolio of health and wellness drinks and has moved SBUX products into[4] Whole Foods (WFM[5]); and the purchase of Teavana provided a strong footprint in the tea market.

Mobile. It’s inevitable that the smartphone will replace the wallet. Just as Starbucks was ahead of the curve on social media, it’s also been ahead of the curve on this trend. The company has built its own mobile technologies as well as invested in pioneering companies like Square[6]. In fact, mobile payments represent more than 10% of U.S. transactions. With this, Starbucks has the advantage of cost savings in terms of speed of service. Plus, the huge opportunity is to build a stronger relationship with customers. By leveraging Big Data, SBUX can better target promotions and product offers.

Cons

Focus. Back in 2008, the shares of Starbucks stock plunged to below $8. True, the financial crisis was a big factor. But the company also suffered from a growth strategy that was too aggressive and resulted in a deterioration of the company’s products and service. Since then, CEO Howard Schultz has done a masterful job in returning the coffee chain to its former glory. With that in mind, it’s a bit risky that the company may be going back to its overly aggressive ways. While its moves into new categories have worked so far, many are still in the early stages. There will likely be tough challenges in managing the complexities of the business.

Valuation. SBUX shares are fairly expensive, currently trading for 27 times forward earnings and 34 times trailing. Plus, the dividend is meager at 1.1%. With that in mind, Starbucks stock could easily be vulnerable to a pullback  if the company begins to show growth deceleration.

Competition and Commodities. Even though Starbucks has a tremendous brand, it still must work hard to fend off tough competitors. They include players like Dunkin Brands (DNKN[7]), Peet’s, Caribou Coffee, D.E Master Blenders and even mainstream operators, such as McDonald’s (MCD[8]). On top of that, volatility in commodities markets can also be an issue. While coffee prices have moderated lately, they have been known to experience sudden spikes.

Verdict

Starbucks clearly has challenges. The good news is that it seems that Schultz has learned important lessons from the dark days of 2008 to 2009. As a result, he has focused more on better real estate site selection, store design and improved management of waste and labor.

At the same time, Schultz has been strategic about the markets he has targeted. They all seem to have synergies with the core coffee business and are addressing huge opportunities. For example, tea is the second most consumed beverage in the world.

So while Starbucks stock is far from cheap, it is still reasonable in light of the powerful global brand, growth opportunities and innovation. In other words, the pros outweigh the cons on the stock.

Tom Taulli runs the InvestorPlace blog IPO Playbook[9]. He also is the author of High-Profit IPO Strategies[10]All About Commodities[11] and All About Short Selling[12]. Follow him on Twitter at @ttaulli[13]. As of this writing, he did not hold a position in any of the aforementioned securities.

Endnotes:
  1. SBUX: http://studio-5.financialcontent.com/investplace/quote?Symbol=SBUX
  2. FB: http://studio-5.financialcontent.com/investplace/quote?Symbol=FB
  3. Verismo: http://investorplace.com/2012/11/3-reasons-why-starbucks-stock-will-be-even-better-in-2013/
  4. moved SBUX products into: http://investorplace.com/2013/08/starbucks-evolution-fresh-whole-foods-sbux/
  5. WFM: http://studio-5.financialcontent.com/investplace/quote?Symbol=WFM
  6. Square: http://investorplace.com/2012/08/starbucks-to-accept-square-mobile-payments/
  7. DNKN: http://studio-5.financialcontent.com/investplace/quote?Symbol=DNKN
  8. MCD: http://studio-5.financialcontent.com/investplace/quote?Symbol=MCD
  9. IPO Playbook: http://investorplace.com/ipo-playbook/
  10. High-Profit IPO Strategies: http://goo.gl/TXQsz
  11. All About Commodities: http://goo.gl/FfP8R
  12. All About Short Selling: http://goo.gl/t5Jzb
  13. @ttaulli: https://twitter.com/ttaulli

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