Starbucks: Buy, Sell, or Hold?

Starbucks (NASDAQ: SBUX) stock sold off sharply after its most recent earnings report, resulting in the world’s largest coffee chain losing nearly $15 billion in market capitalization. Anytime a bellwether stock like Starbucks takes a significant hit, a prudent investor will look to see if it’s a possible bounce-back candidate. So, let’s dive into Starbucks’ latest earnings, its management’s turnaround strategy, and valuation to see whether the stock is a buy or sell.

Starbucks’ earnings disappointed

Starbucks recently released its fiscal 2024’s second-quarter earnings report, in which the beverage retailer generated $8.6 billion in revenue. That marked a 2% year-over-year decline, partly attributed to a 6% decrease in transactions. Additionally, Starbuck’s net income declined 15% from $908 million a year ago to $772 million in the latest quarter as its operating expenses, depreciation and amortization expenses, and general and administrative expenses all increased.

Starbucks CEO Laxman Narasimhan wrote that the quarter “did not meet our expectations.” As a result, the company updated its fiscal 2024 revenue guidance from 7% to 10% growth to now “low-single-digits” growth. Notably, this was the second guidance downgrade after its initial fiscal 2024 outlook of “the low end of 10% to 12%” growth. Generally, anytime a company’s management downgrades its outlook in two consecutive quarters, it will sow the seeds of doubt about its future growth potential.

What’s the bull case for Starbucks?

At the end of March 2024, Starbucks had 38,951 stores globally, representing a 6% year-over-year increase. The company has 61% of its stores in China and the U.S., and management believes the former could be the key to future growth, noting, “We’re still at 13 cups per capita. Japan’s at 280, and the U.S. is at 380.”

Additionally, Starbucks has tested opening stores overnight, when its business has traditionally been closed. Management claimed the pilot program doubled its business and believes it could become a $2 billion opportunity over the next five years.

While Starbucks’ growth drivers may take time to develop, prospective investors would be buying a long-term market-beating stock, currently trading at a substantial discount. Using the standard valuation metric for mature companies, price-to-earnings (P/E) ratio, the company trades at roughly 21 times earnings, well below its five-year median of 31 times earnings, signaling that the stock is cheap.

Additionally, Starbucks prioritizes returning capital to shareholders through dividends and share repurchases. The company has paid and raised its dividend for 13 consecutive years and currently pays a quarterly dividend of $0.57, representing a near-record high dividend yield of 3.1%. Over the past five years, Starbucks has lowered its share count by roughly 6%, which increases shareholders’ ownership stake.

A barista serves a cup of coffee.

Image source: Getty Images.

What’s the bear case for Starbucks?

Beyond Starbucks’ revenue and earnings decline, the hope that China can deliver growth for the company may be overstated. The country demonstrated significant weakness in the second quarter, with comparable-store sales declining 11% and the average ticket dropping 8% year over year compared to North America’s decline of 3% and 7%, respectively.

Another area for concern is that Starbucks Rewards members dropped from 34.3 million to 32.8 million quarter over quarter. Management pointed to headwinds such as the strained consumer and severe weather as reasons why sales and Starbucks Rewards members fell for its most recent quarter.

What to do with Starbucks stock

Starbucks continues to be the global market leader in the coffee industry, but it faces increased competition. The drive-thru coffee chain Dutch Bros, for example, is taking market share in the United States. Its revenue of $275 million during the most recent quarter represented 39% year-over-year growth.

Additionally, management’s inability to control its earnings guidance is a red flag, demonstrating that it doesn’t have the answers to stabilize a business that is always in demand.

Given Starbucks’ recent stock drop and cheap valuation, current shareholders and prospective investors should both hold steady and wait until management shows it can meet its own expectations before buying.

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Collin Brantmeyer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Starbucks. The Motley Fool has a disclosure policy.

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