3 Big Reasons Starbucks Corporation Stock Has Lost Its Buzz

Wrongheaded attempts at growth will hurt Starbucks stock

Starbucks stock

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Starbucks Corporation (NASDAQ:SBUX) is off to a rough start in the post-Howard Schultz era. Starbucks stock first hit $60 in 2015, and has touched that level twice more. On each occasion, the stock has slumped again, badly underperforming the market as a whole.

The last time Schultz left Starbucks, in the early 2000s, the company proceeded to go into a tailspin. He eventually took over again to save the company in 2008. So far, his second retirement, announced in late 2016, is off to a similarly rocky start.

The company is expanding too quickly, making risky moves with its menu and engaging in needless political drama. Investors are, justifiably, shunning the stock given these risks.

What’s Gone Wrong: Too Many Products

Starbucks stock crashed during the Great Financial Crisis. Sure, the overall stock market declined about 50%. But SBUX stock fared much worse, falling 75% peak to trough. Many investors view Starbucks as a safe blue chip stock today, but it’s worth remembering how badly it fared in the last recession and why.

For the why, we can turn to longtime CEO Howard Schultz’ book Onward. In it, he describes several major problems. The first of these was getting too far away from their coffee ethos.

Around 2005, the company felt pressured by investors to keep showing more same-store sales growth. It was having trouble achieving this via selling more coffee-based drinks. The average drink customer is only going to spend so much on their beverages, after all.

To get around that problem, the company went heavily into food. This backfired, however. The food effort overwhelmed employees, slowed down service dramatically, and diluted Starbucks’ brand.

Schultz was appalled by the decisions his successors made. In particular, a line of smelly meat and cheese sandwiches overpowered Starbuck’s traditional coffee scent inside its stores. While overall sales went up, repeat customer visits declined as core coffee customers went elsewhere. Once Schultz returned to his CEO role, he simplified the food menu.

However, they’re at it again. Schultz retired (again) in early 2017, and now Starbucks has blown up the menu with a ton of new food options. This has led longtime Starbucks stock bull Howard Penney at Hedgeye Restaurants to turn bearish. He explained it well:

“Complexity kills growth and it’s a theme that I think about for every restaurant company that I like […] As Starbucks has raised the number of items on their menu, sales have slowed. That’s a problem.” We’ve seen this movie before, and it’s unlikely to have a better ending this time.

What’s Gone Wrong: Overexpansion

Speaking of playing out an old story, the other big issue Starbucks faced in 2006-09 was overexpansion. From Schultz book, we find this passage:

“One particular statistic, however, raised my ire: 70 percent of all stores slated for closure [during the recession] had been opened in the past three years, during the aggressive growth period when we opened 2,300 locations. It was staggering. We were closing almost 20 percent of our newest stores! We thought all we had to do was show up to be successful, I thought to myself.”

Starbucks is again planning to open untold thousands of new stores around the world. In particular, it is launching a massive territorial push in China. This risks a similarly ugly outcome to the mid 2000s. Starbucks is moving heavily into a country it hardly knows and where coffee consumption per capita is minimal.

It’s understandable why Starbuck’s new CEO is so intent on international growth at any cost. Starbucks stock has stalled out since U.S. store comps have slipped. The company needs something to keep growth investors on board. But opening thousands of stores all at once in a potentially difficult geography exposes SBUX stock to significant downside risk.

If Starbucks has to shutter most of its Chinese stores in the future, it would be a monumental blow to the stock.

What’s Gone Wrong: Antagonizing Their Customers

Some companies seem to have a problem with sticking their feet in their mouths. Target Corporation (NYSE:TGT) is a classic example, with its various public relations blunders. It comes to mind, since Target infamously generated national attention with its controversial stance on who could use its bathrooms.

Starbucks, no stranger to public relations issues, has walked into a bathroom brouhaha of its own. Last month, a Philadelphia Starbucks employee told two black men to “either make a purchase or leave.” When they didn’t do either option, the police arrived and arrested the two men.

The police chief, who happens to be black, said the police officers, “did absolutely nothing wrong.” Others, however, said it was another example of Starbucks and the police showing unconscious bias.

Regardless of who’s right in this sort of he said, she said incident, Starbucks bungled their reaction. They initially put out a press release claiming that their stores and bathrooms would now be open to all people. It wouldn’t matter whether they made any purchases.

This, predictably, set off a wave of concern. People feared that panhandlers, drug users, and other such disruptive guests would overrun stores. Starbucks was then forced to clarify its new guest policy to alleviate concerns. The updated statement lays out reactions to trouble-making guests, including banning them from the premises.

That’s sensible. But the genie is already out of the bottle. Many customers worried that vagrants would overrun Starbucks’ cafes. Other restaurants manage to maintain a bathrooms for paying customers only policy without incident.

This sort of polemic behavior is nothing new for Starbucks. Former CEO Howard Schultz famously antagonized much of the country with his shifting stance on guns. FastCompany summarized it well:

“After years of waffling amid increasing controversy, Starbucks CEO Howard Schultz has finally asked gun-owners to stop carrying firearms in his stores. But that doesn’t mean you can’t carry your gun when you get your latte. Schultz and co. would just prefer you didn’t. No signs will be posted, and employees are not to confront gun-owners toting their weapons.”

Starbucks consistent tendency toward pandering on social issues threatens shareholders. Taking opinionated stands on controversial issues and then backtracking later accomplishes little, either ethically or in terms of pleasing customers.

Starbucks Stock: Don’t Expect It to Perk up This Year

Starbucks stock just doesn’t hold much appeal here. At 21x forward earnings, SBUX stock isn’t exactly cheap here. Yet it is facing a bunch of fundamental problems. At 3.4x sales, you could argue that Starbucks is slightly cheaper than say Dunkin’ Brands Group (NASDAQ:DNKN) which is around 5x.

However, Dunkin has much faster growing earnings, more growth potential left in the United States, and it has a solid mix of food and treats that doesn’t clash with its coffee sales.

Additionally, in a recession, expect Dunkin to fare better as customers become more price-conscious. Neither stock is cheap here, but Dunkin has fewer big headwinds ahead of it if you want to own a national coffee player.

At the time of this writing, the author held no positions in any of the aforementioned securities. You can reach him on Twitter at @irbezek.


Article printed from InvestorPlace Media, https://investorplace.com/2018/05/starbucks-stock-lost-buzz/.

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