India May Bring Starbucks To New Highs

Oct.26.12 | About: Starbucks Corporation (SBUX)

Norway, China, and now-India? Yes, after 60 other countries, Starbucks (NASDAQ:SBUX) has finally made its way to India by opening its first store in Mumbai, with two more stores opening in the country this month. With Starbucks being down over 20% from its 52-week high of $62, investors are asking whether new overseas markets, such as India, can boost an otherwise saturated market, or whether it will drive the stock to its grave. I feel the move into India presents a bullish case that will ultimately bring the stock back into growth mode and drive the stock forward. In a country that embraces Western brands and names, including the likes of KFC (NYSE:YUM) and McDonald's (NYSE:MCD), Starbucks is the next brand poised to benefit from India, rather than struggle in this unique market.

A Modern Experience with Tea and Coffee

The country of India, with over one billion people, is a relatively new market for many brands. In the modern age, however, the people of India are more frequently embracing Western brands more than ever and it is becoming somewhat of a status symbol, especially among the young and open-minded in a country where the median age is only 25.

Additionally, while it is fair to say that India is primarily a tea drinking country, with the International Coffee Organization claiming the average Indian purchases only three ounces of coffee per year (versus the US's average purchase of about nine pounds per year), this should not be of much negative influence to the potential success in the region for two reasons.

First, while coffee consumption per person, on average, may be low, there is still a huge market for coffee consumption. John Culver, president of Starbucks' Asia and China region, told the Wall Street Journal that India currently runs about $200 million annually in revenue from existing coffee houses, and Culver states cafes and coffee sales are expected to receive 25% growth. Starbucks could take a great chunk of market share as India's primary coffee house chain, Cafe Coffee Day, is estimated to service 2/3 of the coffee house industry. Although competition may be fierce, the simple lack of numbers in competitors provides Starbucks a unique advantage to gain footing in a $200-plus million market.

Second, Starbucks offers a full experience, not merely a simple cup of coffee. Howard Schultz, CEO, addresses this very aspect by referring to the experience offered by visiting Starbucks: "If you visit a store in Amman, Jordan or Shanghai or Tokyo or here in Mumbai this week, you will see a common thread of an experience," says Schultz. Essentially, it is not so much the coffee that will attract customers, but rather the experience of a relaxing, modern, and safe area, complete with free Wi-Fi, to hang out and have a coffee or tea with friends and family. This is a concept that can be attributed to the success of Starbucks locations around the world, particularly in Europe and South America, where cafes are seen as a place to socialize and relax for a while, rather than a quick grab-and-go store.

Additionally, Starbucks has customized its menu and food offerings to appeal to Indian tastes, and will utilize its partner, Tata Beverages, to provide a tailored plan on how to best serve an established Indian taste, leaving Starbucks in a position to profit greatly while reducing costs on undesirable food and beverages.

Socioeconomic Concerns

Some concerns have arisen over pricing and the socio-economic abilities of Indian citizens. While it is true that Starbucks is a discretionary purchase in a country where many people live on less than $2 per day, this is not to say there will be trouble in sales. The U.S. State Department reports there are over 50 million middle-class citizens in India, with that number expected to grow at least ten times by the year 2025.

While this is a long-term scale, The India Times believes in as little as five years the middle-class population is expected to reach 267 million people-over 75% of the entire population of the United States. Even in present times, the figure of 50 million middle class residents, as well as the small but growing amount of wealthy-class citizens, provides a large consumer base for Starbucks to appeal to. Compare this amount to the population of the United States, which, according to an August 2012 Pew Research report, places about fifty-percent of the United States population as "middle income," or roughly 156 million people out of 312 million total.

Ultimately, India will have more potential consumers of retail coffee, such as Starbucks, than the United States has citizens. Given these population figures, we can imagine potential increases in revenue for the chain. The third quarter of 2012 reported operating revenue of $181.8 million in the Asia/China region. If even just 1% of India's total population, or about 14 million people, were to purchase a mere $2 equivalent worth of Starbucks' offerings, this would bring an additional $28 million-approximately 15% growth! While it is still to be seen the exact amount of revenue and sales brought in by the new stores in India, this is not an impractical scenario by any means.

Carefully Avoiding a "Store on Every Corner"

Finally, growth in the country is planned at a steady, but careful, rate. With four more stores planned by the end of 2012, this is far from even the roots of saturation seen in the United States, with a "location on every corner." Howard Schultz recognizes that Starbucks is entering a challenging market, evidenced by the fact that fifty stores were originally planned for India rather than four, but Schultz has adjusted to overcome this challenge. Schultz has stated in an interview with The India Times on October 25, 2012 that Starbucks is confident Tata Global Beverages is an excellent, wise partner that is familiar with the needs and desires of the local population.

Schultz asserted in the same interview, when asked about future openings in India, that his company will "open two up next week and let us see […] this is going to be thoughtful, disciplined." Schultz clearly has the proper mindset in a new, challenging region, which will provide opportunity to speed up or slow growth as needed without losing money.

The Long-Term Investor

All things considered, fears over Starbucks in India are easily put to rest given the facts. Starbucks currently trades at approximately 25 P/E, which although higher than average for the restaurant industry, is reasonable given the growth prospects in store for the chain. Additionally, the stock pays a $0.17 quarterly dividend, which has been raised twice since 2010 and equals approximately 1.4% at the current $45 PPS. Given the two annual increases so far, it is likely that it may be increased again after the upcoming earnings release.

While it will take at least another six months to see the financial progress Starbucks is making in India, it is reasonable to conclude it will be a success given the facts. Having the dividend along the way makes it worth the wait for the patient, long-term investor.

Disclosure: I am long SBUX. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.