Buoyed by the strong U.S. consumer, Starbucks (NASDAQ:SBUX) is enjoying a spectacular 2019. With just a few days left in the year, the world’s largest coffeehouse operator is higher by 37.36%, putting it about 1,150 basis points ahead of the Consumer Discretionary Select Sector SPDR (NYSEARCA:XLY).
The comparison is relevant because as an embodiment of a consumer cyclical name, Starbucks stock is the fifth-largest component in XLY at a weight of 4.48%. Fortunately, recent consumer data has been impressive. Last Friday, the Commerce Department said household spending jumped 0.3% in November compared with a 0.1% rise in October, while the University of Michigan consumer sentiment reading for December showed a fourth-consecutive increase.
Those are the types of rising tides that lift boats in the consumer discretionary sector, particularly SBUX stock, because regardless of how one feels about the quality of coffee the company serves, enjoying java at Starbucks, McDonald’s (NYSE:MCD), Dunkin’ Donuts (NASDAQ:DNKN) or an independent coffeehouse is a luxury, not a necessity.
On Friday, Dec. 20, Starbucks stock closed just over $88, indicating there’s some upside to be had holding on to the $94.37 consensus price target. Analysts are mostly bullish on the name, citing the company’s ability to evolve with consumer tastes and trends, leverage technology (including Mobile Order & Pay) and use store enhancements and refurbishments to lure more customers.
Knowing Its Constituency
One of the primary fundamental factors that explains the long-term success of Starbucks stock — the shares have more than doubled the returns of the S&P 500 index over the past five years — is the company’s ability to leverage its knowledge of its core customer base.
There are definitely instances of Starbucks becoming ensconced in political controversy and there are some stark realities on that note, namely that folks with certain voting habits are likely to avoid Starbucks while the company is viewed as leaning toward the opposite end of their political spectrum. Still, the company is hip to how its customers view the world. Hence, efforts to be seen as a sustainable company have paid off.
“Starbucks partnered with Conservation International, an environmental nonprofit organization, to develop C.A.F.E. Practices (Coffee and Farmer Equity Practices),” according to Stanford University research. “The goal was to contribute to the livelihood of coffee farmers and to ensure high-quality coffee for the long term. If Starbucks were able to overcome the issues it faced with a widespread implementation of C.A.F.E., the initiative could go a long way towards improving the sustainability of its coffee supply chain while at the same time improving Starbucks’ image as a socially responsible corporation.”
Although long known, pivotal to the Starbucks investment thesis is consumers’ associating it with being a high-end, destination brand. That type of marketing is hard to come by, but can be highly rewarding for investors. Just look at Apple (NASDAQ:AAPL) and Tesla (NASDAQ:TSLA), among a select few names.
Confirming that there’s something to the Starbucks affluence thesis is a Harvard study published in 2018 that indicates when a Starbucks comes to town, residential property values increase, on average, by half a percent.
More Avenues for Growth
While there thousands of Starbucks stores around the U.S., the company has plenty of ways it can increase domestic sales, including enhanced payment technology, increased food offerings and delivery partnerships, such as the tie-up with Uber Eats.
“Platforms like K-Cups and Nespresso should support channel diversification over the medium term, boosted by the Global Coffee Alliance marketing/distribution partnership with Nestle,” said Morningstar in a recent note. “Longer term, we’re also optimistic about mobile, digital, and loyalty program synergies across the various business lines; new payment technologies; and international unit expansion opportunities.”
At 29x forward earnings, Starbucks stock is pricey relative to the broader market, but the growth is worth paying up for due to the aforementioned customer-related initiatives and the company’s commitment to growing its dividend in the coming years.
As of this writing, Todd Shriber did not hold a position in any of the aforementioned securities.
