Shares of Starbucks (SBUX) were down 3% on Tuesday, making them one of the worst performers in the S&P 500 after negative commentary from ITG. The research house said same-store sales in this quarter are tracking between 5-6% vs. analyst expectations for 6.6% same-store sales growth. Investors have taken this report as an excuse to take profits in the stock, which has been a top performer this year, gaining 44%. While I understand why investors want to take profits after such a run, I think at current levels SBUX is more compelling as a long position than a short.
First, I am always hesitant to take any single research report as gospel truth, and investors need to ask themselves if they really want to sell based on one report suggesting lower same-store sales. By the same token, if another analyst affirmed a stronger outlook, would you jump back in? While it is certainly critical to understand market expectations and sentiment, investors can get whipsawed by following each incremental data point. That is why it is important to have an underlying thesis for every position and only sell when that thesis is no longer valid. I believe the bullish Starbucks thesis is very much intact.
Starbucks has guided to mid-single digit same-store sales growth in 2014, with revenue growth of at least 10% on the back of 1,500 new store openings, led by 750 in Asia Pacific (guidance available here). We have heard from an assortment of retailers that this quarter has been weak, so would it be stunning if Starbucks "only" grew 5.5% vs. 6.6%? Not really. Plus, most chains would kill for that type of growth with firms like McDonald's (MCD) barely growing at all. Under CEO Howard Schultz, Starbucks has a history of outperforming expectations with same-store sales surprising to the upside last quarter at 7% worldwide and 8% in the United States.
As a consequence, I wouldn't be so quick to write off Starbucks. Perhaps, this analyst will be correct and same-store sales are a little soft in one quarter, but given management's history, I wouldn't be surprised if we saw another beat. Moreover, over the full fiscal year, I have no reason to doubt management will execute on its mid-single digits pledge with growth in the 5-7% range. Further, with its acquisition and revamp of Teavana, there is tremendous growth potential for Starbucks outside of coffee. Teavana remains a small part of the Starbucks story, but as the company expands the brand beyond its 366 locations in 2014, we should see significant growth potential. By the end of the decade, Teavana could provide $5 billion in incremental value, which will help to power shares even higher.
Next year, I am looking for 5-7% same-store sales growth and 1,500 new locations (about 7.5% growth), which should propel revenue over 12% higher to $16.75 billion. These results should power EPS growth in the 20-23% range to about $2.65. This gives the stocks a 29x P/E, which may wrongly seem extremely expensive. With earnings growth at 20%+, there is a PEG of about 1.4x, which isn't all that expensive in this market, especially as I expect annual EPS growth of the high teens to low twenties for 3-5 years thanks to China and Teavana.
I also like using the metric market cap/stores to find a per store valuation for companies. With nearly 20,000 stores, SBUX is valued at roughly $2.93 million per location. For comparison, Chipotle (CMG) with 17% growth is valued at $11 million per location while McDonald's is valued at $2.77 million. Given its far superior growth prospects, I believe Starbucks should trade at a significant premium to McDonald's especially with store count growing 7.5%. I would be willing to pay up to $3.25 million per location, suggesting fair value around $88.
Starbucks is one of the best growth stories in the market, and with robust organic growth and store count expansion, the growth story is far from over. Below $80, Starbucks is definitely attractive. I would use this weakness to buy SBUX rather than sell. In 2014, I expect shares to push towards $90.