In 2022, Starbucks was at a critical juncture, grappling with internal challenges and external perceptions. But the question arises: Was the company truly facing a breakdown in its business model, or was this narrative strategically amplified to counter the burgeoning union movement?
As the global coffee market continues to percolate with competition and challenges, our upcoming Starbucks Black Book offers an in-depth analysis of the company's strategy for 2024, juxtaposed against the backdrop of management's recent commentary. This comprehensive review delves into the intricate layers of Starbucks' plans, highlighting where our insights diverge from the official narrative of the company's leadership. We will unravel a series of themes from the September 2022 Reinvention Analyst meeting and compare them with the revelations from the company's more recent strategy session. Our analysis is not just a recapitulation of Starbucks' projections but a critical examination of the gaps and inconsistencies in its strategic roadmap.
EVENT DETAILS:
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SUMMARY
Howard Schultz returned to Starbucks as interim CEO in April 2022, following the departure of the previous CEO, Kevin Johnson. Kevin Johnson, who had been at the helm of Starbucks for five years, stepped down, leading to Schultz's return. It's important to note that Schultz's return was in the capacity of an interim CEO, and there is no indication that he directly fired Kevin Johnson. Some then speculated that Johnson's departure was a planned transition. I have my doubts. In 2022, there had been increasing unionization efforts among Starbucks employees in the United States, which were part of a broader trend of labor organizations in various industries nationwide. In response to these unionization efforts, Starbucks' corporate stance and actions were the subject of significant public and media scrutiny. The interim CEO often expresses significant concerns about unionization impacting the company's operational flexibility, direct communication with employees, and overall business model. It became apparent that Starbucks opposed these unionization efforts, with allegations of the company engaging in anti-union activities. This included claims of Starbucks engaging in tactics such as holding anti-union meetings, disseminating anti-union literature, and other measures perceived as attempts to dissuade employees from unionizing. In hindsight, my conspiracy theory suggests that the interim CEO used the September 2022 analyst meeting as a tool to fight the unions.
Starbuck's Rewind
At the September 2022 analyst meeting, Schultz discussed the company's unprecedented growth until 2008, followed by hubris and loss of focus. He detailed how the 2008 financial crisis and internal issues led to a decline in Starbucks' performance and sparked significant innovation and transformation. Schultz compared the 2008 crisis to the challenges faced in 2022, emphasizing the company's ability to innovate and adapt in difficult times. Yet a few months later, in the summer of 2023, the new CEO, Laxman Narasimhan, boasted about "our significant progress against our Reinvention Plan." Yet, most of the plan's elements, including the Siren System, had not been implemented. The Siren system's primary goal is to significantly enhance the efficiency of beverage preparation, particularly for cold drinks, which have seen a surge in popularity and slowing throughput. By streamlining this process, Starbucks aims to increase the speed of service, thereby reducing wait times for customers. The Siren System was expected to simplify the beverage-making process, which could lead to labor optimization. This means that baristas can be more effectively allocated to other tasks, improving overall store operations and potentially enhancing customer service. With significant labor cost leverage in 4Q23 (operating expense margin expanded 290bps) and traffic growth of 2% (2 yr accelerated by 50bps to 1.5%), we are not surprised to see the rollout of the siren system pushed out.
Overall, the financial performance of Starbucks in FY 2023 was not that of a company that was broken in FY22. The company's growth was robust, with a strong focus on growth, customer experience, and operational efficiency.
Pricing, Transactions, and Revenue Growth: Starbucks reported growing transactions of 3% in N.A. and 5% internationally, indicating a healthy customer base and consistent business growth. Starbucks' approach to driving same-store sales growth includes aggressive or strategic pricing and customization. This involves increasing customer spending through premium beverages and customization options rather than relying solely on traditional pricing strategies. Prices were up 5% in N.A and flat(ish) internationally. This led to consolidated revenue growth of 11.6%
Resilience Despite Economic Concerns: Despite concerns about economic slowdowns and recessions, Starbucks noted that their business had not been significantly impacted. This resilience was attributed to their digital customer relationships, rewards program, and loyalty members growing by 13.6%.
Focus on Experience and Premium Offerings: The company commented on a consumer trend towards spending on experiences over durable goods, particularly in restaurants and bars. Starbucks positioned itself to benefit from this trend by providing a premium and unique customer experience.
Store Expansion and Portfolio Management: Starbucks discussed its plans for continued store expansion, mainly through drive-thrus and mobile order and pay options. They also emphasized the strength of their store portfolio and their ongoing process of reviewing and optimizing it, with a global store growth of 6.5%.
Margin Expansion and Investment: The company expressed confidence in progressively expanding margins over time, returning to historical levels. They emphasized the importance of flexibility in their investments, focusing on partners, technology, and store investments to fuel growth. Starbucks mentioned making choiceful investments in G&A to grow this slower-than-revenue growth in FY24 after years of investment in FY23. EBIT margins expanded 200bps in FY23.
EPS Growth was 19.6% in FY23, very different than the 53% decline in net income the company experienced in 2008. The company was not broken in September 2022, as the founder suggested! Declaring the company was broken was part of his union-busting strategy! Well done!
Looking ahead
Where do we go from here? In summary, Starbucks' guidance for Fiscal Year 2024 reflects a strategic balance of growth and efficiency and no cyclical slowdown. The company focuses on expanding its global footprint, particularly in high-growth markets like China, while driving operational efficiencies and margin expansion. The guidance indicates a cautious yet optimistic outlook, ignoring the macroeconomic and geopolitical environment, and only underscores Starbucks' confidence in its long-term growth trajectory. Is that confidence misplaced, given that the reinforcement program and the siren system have been pushed out? This is what FY 2024 looks like for the company:
Global Comparable Store Sales Growth: Starbucks expects global comparable store sales growth to be 5% to 7%. This is a slight adjustment from the previous year's guidance of 7% to 9%. As a significant contributor, the U.S. market is anticipated to see comparable store sales growth from 5% to 7%. In China, comparable store sales are expected to grow by 4% to 6% from Q2 to Q4, with a higher growth rate in Q1 as the company laps over previous mobility restrictions.
Global New Store Growth: The company plans for a global new store growth rate of approximately 7%, with around 75% coming from outside the U.S. In the U.S., store count is expected to grow by about 4%, driven by a dynamic portfolio of store formats. In China, rapid store growth is anticipated to continue at approximately 13%, in line with the company's strategy to expand its presence in this vital market.
Consolidated Revenue Growth: Starbucks projects consolidated revenue growth to continue from 10% to 12%, albeit at the lower end of this range. This projection does not include any impact from foreign currency translation. The Channel Development segment is expected to see a high single-digit revenue decline, primarily due to the sale of Seattle's Best Coffee and broader optimization efforts.
Operating Margin Expansion: The company expects progressive margin expansion in Fiscal Year 2024, driven by efficiency gains in and out of stores, sales leverage, and strategic pricing. Approximately 1 billion in incremental investments is planned, focusing on wages, new store equipment, digital and product innovation, and supply chain modernization. Starbucks also aims to unlock approximately 1 billion in incremental leverage opportunities through various efficiency work streams.
Capital Allocation and Investment: The anticipated capital expenditure (CapEx) for Fiscal Year 2024 is around 3 billion, with over 85% directly invested in the global store portfolio. The company remains committed to a stable dividend approach, targeting an approximate 50% dividend payout ratio. Starbucks expects to maintain its BBB+ investment-grade credit rating.
Tax Rate and EPS: The effective GAAP and non-GAAP tax rates are expected to be in the mid-20% range, higher than the Fiscal Year 2023 rates. GAAP and non-GAAP EPS growth is projected to be in the 15% to 20% range, reflecting a balanced plan of revenue growth and margin expansion.
Important Questions we have and will try to address some of them on the call:
Regarding Leadership and Organizational Strategy: How does Starbucks view the impact of leadership changes on its long-term strategy and company culture? What lessons has Starbucks learned from the leadership transition, and how are these lessons applied to future strategies?
Unionization and Employee Relations: The company appears to have killed the unionization movement; how does Starbucks plan to address the growing unionization movement within its workforce? What are Starbucks' strategies for maintaining direct communication with employees in the context of increasing union activities?
Innovation and Operational Efficiency: Can you provide more details on the implementation and expected impact of the Siren System? How does Starbucks plan to balance labor optimization with maintaining high-quality customer service?
Fiscal Year 2024 Outlook and Strategic Initiatives: Given the delay in the rollout of critical initiatives like the Siren System, how confident is Starbucks in achieving its FY 2024 targets? How does Starbucks plan to navigate potential macroeconomic and geopolitical challenges in its key markets, especially in the U.S. and China?
Financial Health and Investment Strategies: How does Starbucks plan to manage its capital allocation, especially regarding store expansion, digital innovation, and supply chain modernization? What measures is Starbucks taking to ensure sustainable growth and shareholder value in the context of its projected revenue growth and margin expansion?
