by Will Ashworth | April 23, 2014 5:30 am
Starbucks (SBUX) earnings are due out Thursday after the close. In the lead-up, InvestorPlace contributor Serge Berger discussed shorting SBUX stock in his April 14 article, suggesting it was ready to slide to $65 over the next week due to downside velocity.
While SBUX stock is still down 9.8% year-to-date through April 21, it appears that investor support has settled in around $70. What happens next depends on the quality of Starbucks earnings in the second quarter.
If business is mediocre, I think SBUX stock settles in for the next few weeks. If, on the other hand, SBUX meets or beats the street’s estimate for comparable store sales — in Q1 it delivered 5% comps in the Americas compared to the consensus of 6.4% — you can expect SBUX stock to resume its climb ever higher.
But for now, let’s consider some of the things you’ll want to study more closely in Starbucks earnings.
Let’s start with what Wall Street is expecting. In its Q1 report, SBUX provided fiscal 2014 earnings guidance between $2.59 and $2.67 per share with at least 54 cents coming in the second quarter. According to Yahoo Finance, analysts expect 11% year-over-year revenue growth in Q2 to $3.95 billion.
With global comps expected in the mid-single digits in 2014, my guess is Q2 will produce a 4% increase in traffic with a 1% increase in the average ticket, leading to a 5% comp. That would be one percentage point less than in Q2 2013. However, with operating margins in the last four quarters averaging a 195 basis point increase year-over-year, SBUX investors can expect Q2 2014 operating margins of at least 17%.
In other words — the bottom line is going to be just fine.
Success in the restaurant industry is pretty simple. You utilize as much of the day as you possibly can in a profitable manner. SBUX has worked on the middle of the day by improving its food offerings and now midday has become its fastest growing part of the day.
While I wouldn’t say that its food business is anywhere near where SBUX would like it to be, it’s certainly far ahead of where it has been in the past. With a stronger lunch to go with its traditional morning crowd, the only thing missing is evenings.
Having never really dealt with the evening portion of its operating hours, it’s finally getting serious about its business beyond 4 o’clock. Rolling out Starbucks Evenings at thousands of stores across the country will cement its “third place” status amongst American adults.
As I said in an article in early April, beer and wine will enhance each store’s four-wall contribution, increasing the overall profitability of the company. While it’s still only in a handful of cities at the moment, I’d listen intently to what Howard Schultz has to say on this subject. When it comes to the Americas, this is a big deal for SBUX.
Forget China and the rest of Asia for a moment and consider its Europe, Middle East and Africa (EMEA) segment. In the first quarter, EMEA generated $340 million in net revenue — $73 million higher than China/Asia Pacific (CAP). Yet its CAP region had an operating profit margin of 30.4%, which was 20 percentage points higher than EMEA. Imagine how much profit SBUX would generate if all three of its regions were delivering operating margins of 20% or higher.
In the first quarter, EMEA’s operating margin was 9.9% — 260 basis points higher than in the same quarter in 2013. That might not seem like a lot, but exactly two years ago its Q2 operating margin was -2.0%. It’s making plenty of progress. If it continues to add 250 basis points of margin over the next 12-18 months EMEA could be as profitable as the Americas. That’s something no one would have considered in 2012.
Howard Schultz was interviewed by CNBC’s Jim Cramer in January after releasing its Q1 earnings. Schultz reminded investors that SBUX sold $1.4 billion in SBUX cards in Q1 — 24% higher than a year earlier. Going further, he let Cramer know that in December a 1% increase in comps was equivalent to $23 million in revenue. With 5% comps in the quarter we’re talking approximately $115 million in additional revenue year-over-year for stores open more than 13 months.
Meanwhile, a 24% increase in gift cards sold translates into $270 million in additional future revenue, or more than double the contribution of comparable store sales growth in the quarter. With the expansion of its Chinese business, you can be sure that SBUX cards will continue to grow in popularity both as gifts and for personal use because of the My Rewards loyalty program. Keep an eye on this number. It’s going to play a big role in the future Starbucks stock price.
It’s not enough to look at the top and bottom line with SBUX. You need to read between the lines. Its comps will do just fine in Q2. What I’m more interested in is what it has to say about the future. That’s where you’ll find the value in Starbucks stock.
As of this writing, Will Ashworth did not own a position in any of the aforementioned securities.
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