Shares of Starbucks (NASDAQ:SBUX) have brewed up a hot, strong stock price. While the stock market was puking throughout the month of October, SBUX stock was actually rallying, climbing over 3% during the month. Its earnings result on Nov. 1 sent shares higher by roughly 10%.
So what do we do with Starbucks stock at this point? Shares are now up more than 33% from its summer lows. At the time, investors were calling for the end of Starbucks’ run. They argued that the retail environment had shifted in the U.S. and that the China growth story was over now that SBUX had printed a negative comp-store sales result.
Admittedly, Starbucks did have a comp-store sales issue, both here in the U.S. and in China. But too many investors were missing the positives, the main one being that Starbucks has built its business into a well-oiled cash-flow machine.
Specifically, the company’s third-quarter results in July– while disappointing — were still a record result. The company boosted its dividend by 20% for the second time in less than a year following multiple double-digit increases in the years before. It also announced an accelerated buyback as a result of a $7 billion deal with Nestle. Now activist Bill Ackman is in there (and for several good reasons).
People underestimate its capital return plans. For a while, Starbucks’ yield was just below that of McDonald’s (NYSE:MCD), a dividend stalwart. Even now, Starbucks’ dividend yield is 2.2%.
Valuing Starbucks Stock
Investors loved to hate SBUX stock, because the valuation was high in 2015 and the stock got ahead of the fundamentals. 2018 culminated into a tough year. CFO Scott Maw announced his retirement and its long-time leader Howard Schultz was no longer serving as CEO. However, he again reduced his role by relinquishing his executive chairman post.
The continual disappointment in U.S. comp-store sales compounded investors’ worries, even though Starbucks was continuing to churn out record revenue and earnings results. Just when it looked like the wheels were falling off, the stock went on a monumental rally.
Analysts expect sales growth of just 5.8% in fiscal 2019 (just started) and 7.4% growth in 2020. On the earnings front, forecasts call for 9.5% and 13.6% growth during the same stretch, respectively. It’s a far cry from the numbers that Starbucks used to put up. While it still plans on opening 500 stores a year in China for several more years, it’s clear SBUX stock is maturing.
But why do people say that like it’s a bad thing?
Maybe I view SBUX stock differently, because it’s my largest and longest tenured position. Eventually great growth slows to good growth and with it, comes a re-rating of the valuation. Management’s attention turns to return on investments, increasing margins and boosting cash flow. Investors’ attention to turns from revenue growth to dividend growth and all of these scenarios are playing out now.
I wouldn’t say SBUX stock is a no-brainer — especially at 22 times 2019 estimates — but keep in mind this retail stalwart plans to return $25 billion to shareholders by 2020 and is still performing at record results.
How to Trade SBUX Stock
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Earlier this year, SBUX stock broke down. It fell below the key $50-to-$52 level, which was the bottom of a multiyear trading range for Starbucks. Throughout that time, the stock continually ran into resistance between $58 and $60.
Until now.
Starbucks stock had been on a sharp rally since dropping to $47 in June. After reporting earnings last week, that steady march higher exploded to big-time gains, as SBUX came just short of hitting $66.
The big question now is, what do investors do? If the market is about to turn bullish and gravitate higher into year end, then look for support in this $62 to $63 area. If the market comes under selling pressure — which so far hasn’t impacted Starbucks — then look for a retest of the $60 level. Should it fall there and hold, SBUX stock is a big-time buy in my mind.
Bret Kenwell is the manager and author of Future Blue Chips and is on Twitter @BretKenwell. As of this writing, Bret Kenwell is long SBUX.
