FY2012 has been quite interesting for Starbucks (SBUX). While the company has seen many ups and downs in financial performance, it has also been pretty keen about growth by not only focusing on organic means, but also inorganic ways. It achieved inorganic growth by acquiring La Boulange Bakery and expanding ties with Green Mountain Coffee Roasters (GMCR).
Though analysts would categorize such moves fairly relevant to the core coffee business, the recent move of acquiring the leading loose leaf tea maker Teavana seems quite parted from it. SBUX plans to use its structural competence with Teavana's expertise in premium tea making to tap the tea market. While its previous strategies can be categorized as related diversification, this one is a good example of unrelated diversification.
Was this unrelated diversification done because of unsatisfactory performance in its core coffee business? The answer would probably be a no as Q42012 shows some strong performance from financial as well as strategic perspectives. The FY2012 started with a sluggish performance in first two quarters as revenue fell by 7% in the second quarter. However, the performance started improving in Q32012 when revenue went up by 3.3%. Q42012 has also proved quite positive for the company as revenues improved all over the world with an average of 1.82% as shown in the following graph.
click to enlarge images
The company also improved its gross margin and net margin by 43bps and 59bps respectively. We feel that strict expense control measures have been a reason behind the improvement in profitability as the administrative expenses have gone down by 81% if compared to Q42011.
Based on its P/E of 19x, SBUX is trading at a premium of 17.7% to its competitors.
A Relative Analysis Based on Multiples (X)
Krispy Kreme Doughnuts (KKD)
Einstein Noah (BAGL)
Green Mountain Coffee Roasters
Yum! Brands (YUM)
Tim Hortons (THI)
Dunkin's Brands (DNKN)
SBUX EPS Forward
SBUX P/E Historical Average
SBUX Price Based on Competitor Average P/E
SBUX Target Price Based on historical average P/E
However, we feel that the premium valuation of SBUX is justified based on estimated high growth rates. Analysts expect SBUX's revenues to grow by 14.15%, and EPS to grow by 23.91%. Both rates are higher than most of the competitors.
Current Quarter (A)
Next Quarter (E)
Krispy Kreme Doughnuts
Green Mountain Coffee Roasters
We base our target price on two key estimates. If analyzed relatively, on the basis of competitor average, we set a $42.25 price. However, if analyzed by taking into account its historical P/E, we set a target price of $68.09. In case of SBUX, we feel that using historical P/E is a better measure because of its higher growth prospects.
Another reason which makes us feel value in the stock of SBUX is the improvement in its operational performance. The same-store sales (SSS) of SBUX improved over the year while its competitors suffered on this dimension.
We feel that following key drivers have played a vital role in improving SBUX's SSS.
- After a decline in traffic in Q22012, the company brought its Treat Receipt marketing promotion back, which allowed customers to come back in the afternoon and get coffee at discounted prices.
- Things improved even further when SBUX succeeded in selling more than 1.5 million cards mostly to new customers in September.
- A big reason behind a consistent increase in SSS is the augmented offerings (free wifi, music and other luxuries) by SBUX.
We rate SBUX a buy because of following reasons:
- Its new plan of acquiring Teavana seems a good move to tap a new market. This can be especially relevant to the Asian markets where tea is a key alternative to coffee and other beverages.
- We strongly feel that its expansion and acquisition in core business domain will keep adding value to its revenue resulting in better EPS in the coming fiscal year.
- Its financial performance is quite satisfactory. Strong marketing strategies by SBUX have pushed its SSS up, despite a bad performance by several competitors.
- Its turnaround in the U.S. seems quite optimistic and we expect the company to continue the trend through product innovation and improved customer satisfaction.
- Although the stock is slightly overvalued, a higher growth than competitors justify the premium valuations.