The Honeymoon Is Over! Navigating Starbucks' Uncertain Path in a Shifting Global Market
At the Morgan Stanley Global Consumer & Retail Conference on December 5, 2023, Starbucks CEO Laxman Narasimhan provided sobering insights into the company's strategic direction and initiatives. He emphasized Starbucks' commitment to human connection, sustainability, and delivering long-term shareholder returns. Narasimhan highlighted the company's focus on community, the environment, and the "Triple Shot Reinvention" strategy to address current challenges and opportunities. The discussion also covered Starbucks' governance, digital expansion, product innovation, particularly in the afternoon and evening dayparts, and the evolving role of food at Starbucks. Additionally, Narasimhan spoke about optimizing labor hours for greater demand and throughput in stores, the relevance of the third-place model in a predominantly off-premise business, and the company's cost and margin management approach.
Here are Hedgeye's three positive and three negative themes from Laxman Narasimhan's presentation:
Positive Themes:
Innovative Growth Strategy: The "Triple Shot Reinvention" strategy demonstrates Starbucks' commitment to evolving and growing in a dynamic market. This includes enhancing customer experience, digital expansion, and product innovation, particularly in new dayparts.
Strong Brand and Market Positioning: Starbucks' emphasis on its strong brand values, focus on human connection, and premium positioning, especially in markets like China, highlight its robust market presence and customer loyalty.
Commitment to Sustainability and Community: The company's focus on sustainability, community impact, and creating a positive environment for partners (employees) aligns with contemporary corporate responsibility standards and resonates well with socially conscious consumers.
Negative Themes:
Challenges in the U.S. Consumer Market: Acknowledgment of the slowing U.S. consumer market presents a challenge, indicating potential headwinds in Starbucks' most significant market due to changing economic conditions and consumer spending habits. Is the 3.0 billion in cost savings real?
Operational and Market Challenges in China: The evolving and competitive nature of the Chinese market and a slower-than-expected recovery post-COVID suggest significant challenges in one of Starbucks' vital international markets.
Global Geopolitical and Economic Uncertainties: Narasimhan's mention of geopolitical challenges and a complex global environment indicates broader external risks that could impact Starbucks' operations and strategic planning in various markets.
Other Highlights:
Triple Shot Reinvention Strategy: The Strategy addresses shareholder value, partner and customer relationships, and community contributions. It also improves store operations by reducing labor hours and optimizing them to meet greater demand and increase throughput. Doubling down on the digital business, leveraging technology and partnerships to enhance customer engagement, streamline operations, and implement new equipment and technologies to improve efficiency and customer service.
Acknowledgment of a Slower North America: Narasimhan recognized that the U.S. consumer market is slowing down. This is the first acknowledgment that indicates an awareness of the changing economic landscape in the United States and its potential impact on consumer spending habits. While he did not delve into specific details, the acknowledgment suggests that Starbucks is aware of these market changes and is likely considering strategies to adapt to this evolving consumer environment. Narasimhan emphasized the company's long-term strategy, including the "Triple Shot Reinvention" plan, as part of the solution. Even with the acknowledgment of a slowing market, there was a continued emphasis on growth and innovation, particularly in product offerings and digital expansion, indicating a proactive approach to maintaining customer engagement and business growth.
China Is Recovering (sort of): SBUX is navigating a different and competitive market post-COVID, focusing on long-term growth. He said the Chinese market is currently more promotional and discount-driven than it has been in the past, reflecting heightened competition. Starbucks' business in China has significantly changed since the COVID-19 pandemic. The network of stores and the business model has evolved, including introducing a digital and delivery business that wasn't present before, which raises the question of whether China is behind the curve in China. A large portion of the current Starbucks stores in China (about 65%) were built post-COVID, and performance has been erratic, indicating a rapid expansion and a shift in the store network. Starbucks operates as a premium brand in China, with Starbucks and Starbucks Reserve well-regarded. This positioning is crucial in a highly competitive market. The economic recovery in China is happening but at a slower pace than expected. This slower recovery affects the pace at which Starbucks' business is normalizing in the country. Despite the challenges and a choppy recovery, Narasimhan expressed confidence in the long-term strength of the Starbucks business in China. He believes that Starbucks's market will remain robust once China works through its current challenges. Recognizing the unique aspects of the Chinese market, Starbucks is adapting its strategy to meet local preferences and trends, which includes leveraging its digital and delivery capabilities.
The 3.0 Billion in cost savings is nothing more than a headline and talking point.
Details about the 3.0 Billion in cost savings are lacking. Narasimhan emphasized that these initiatives are part of a broader strategy to progressively expand margins "over time," combining sales leverage, productivity improvements, and revenue management enhancements. How is sales leverage a part of cost savings?
Above Store Level: A significant portion of the savings (70%) is expected to come from initiatives above the store level. This includes optimizing procurement, supply chain management, and services to improve efficiency and reduce costs.
In-Store Improvements: The program also focuses on enhancing in-store operations. This includes reducing waste and introducing more efficient equipment to help partners work more effectively, not reducing labor hours but optimizing them for increased demand and throughput.
Sustainability Initiatives: Sustainability efforts are integrated into the productivity program. Initiatives like waste reduction are environmentally beneficial and contribute to cost savings.
These two don't make sense to me. How do they fit into the definition of cost savings?
Revenue Management: Enhancements in revenue management (whatever that means) are also expected to contribute to margin expansion and overall cost savings.
Is sales leverage part of cost savings? He said part of the cost savings will come from sales leverage, which includes managing general and administrative expenses. Narasimhan mentioned that as sales grow, the proportion of G&A expenses in relation to total revenue is expected to decrease. This implies a focus on leveraging sales growth to improve the efficiency of G&A spending rather than directly stating a plan to cut these expenses. The approach seems more about optimizing and possibly streamlining operations to ensure that G&A expenses become a smaller percentage of the overall revenue as the company grows rather than outright cuts.
Game On or Game Over? Navigating Dave & Buster's Challenges in a Shifting Landscape
Dave & Buster's Entertainment reports Q3 GAAP EPS (0.12) vs. FactSet (0.15) Revenue 466.9M vs. FactSet 472.3M EBITDA 70.5M vs FactSet 74.4M Comps (7.8%) vs FactSet (8.9%)
In 3Q23, PLAY reported an EBITDA of 70.5 million, which intriguingly falls short of the FactSet projection of 74.4 million, and its EBITDA margin declined 120bps in the quarter. This development is accompanied by revenues that didn't meet consensus expectations, down 3% YoY. However, in a twist of events, the company's comparable sales decline of 7.8% emerged less severe than the anticipated 8.9% downturn (beverage SSS improved QoQ, while food and amusement were worse). A closer look at the operating margin reveals a shortfall of 130bps versus consensus and down 230bps YoY. On a different note, the bulls point to organic growth as fertile ground for PLAY. The company has embarked on experimental ventures spanning marketing strategies, culinary and beverage enhancements, pricing models, exclusive events, and comprehensive remodeling initiatives. The CEO claims these endeavors have borne significant fruits, marking a stride in the company's growth trajectory but not showing up this quarter. The remodels have positively impacted various aspects of the business, including overall sales, special event sales, F&B sales, and guest satisfaction scores. The company plans to remodel 40 to 45 stores by the end of 2024, which is accelerated compared to their initial plans. This decision is based on the success and encouraging results from the initial remodels, mainly the Friendswood store. Amid these developments, PLAY maintains a steadfast gaze towards the ambitious 1 billion AEBITDA goal, a target that was prominently featured during their investor day. With a relentless and focused approach, the company is poised to turn this vision into reality in the forthcoming years, navigating the complexities of market dynamics and operational challenges.
We have our doubts about the lofty goals and believe that the negatives outweigh the positives for the foreseeable future:
Positive Themes:
Strategic Use of Capital: The share repurchases were presented as part of a strategic approach to capital allocation. The company emphasized its confidence in the long-term plan and strong free cash flow profile, supporting these repurchases.
Successful Remodel Program: The remodel program, particularly highlighted by the success at the Friendswood store, exceeds expectations. This initiative drives improvements in sales, special events, F&B revenue, and guest satisfaction, indicating a successful strategy in enhancing the customer experience and business performance.
Strategic Expansion and Investment: The company is continuing its expansion with new store openings and strategic investments in technology and marketing. These efforts aim for long-term growth, focusing on maintaining strong investment returns and leveraging digital marketing and technology enhancements to drive business forward.
Negative Themes:
Economic Challenges: Management acknowledged the complexities of the current macroeconomic environment, indicating potential challenges in navigating post-COVID economic fluctuations and consumer behavior changes.
Comparative Performance Concerns: There was an admission of revenue and adjusted EBITDA being slightly lower than the previous year, reflecting the difficulty in surpassing the robust demand experienced in the post-COVID recovery phase.
Uncertainty in Demand Trends: While there is optimism about improvements in trends, there remains a degree of uncertainty, particularly with a significant portion of the quarter's business still ahead. The potential impacts of economic factors on consumer spending and demand compound this uncertainty.
Sysco's Hoping for Strategic Surge: Navigating Growth and Market Leadership in a Dynamic Industry
At the Morgan Stanley Global Consumer and Retail Conference, Sysco's CEO Kevin Hourican and CFO Kenny Cheung presented the company's performance and future outlook in a very canned presentation. Sysco, a leader in the food-away-from-home industry, expects a top-line revenue of approximately 80 billion for fiscal 2024, with an EPS range of 4.20 to 4.40 (FS is a 4.32). The company, with a vast distribution network and a diverse customer base, including restaurants, hospitals, and educational facilities, has a strong presence in the global foodservice market. Sysco's growth strategy includes expanding its specialty offerings and leveraging its large sales force for total team selling. The company also sees significant opportunities in international markets and through mergers and acquisitions, like the recent acquisition of Edward Don. Sysco's financial strengths include industry-leading margins, an investment-grade credit rating, consistent dividend growth, and a commitment to ESG goals.
During the Q&A session, Sysco's leadership addressed various questions about the company's strategies and outlook in the face of potential market changes:
Response to Market Changes: Sysco has modeled for muted volume growth and lower inflation rates. The company is prepared to manage expenses prudently if market conditions change. Key strategies include leveraging strategic sourcing, optimizing Sysco brand products, and managing working capital.
Labor Cost Flexibility: Sysco has developed a disciplined approach to managing labor costs. The company can adjust labor in response to volume changes, benefiting from an essentially full-time workforce.
Performance in Customer Segments: National sales have been strong due to improved technology and dedicated account service. Local sales are growing, with changes in compensation structures and sales force expansion. International growth is also notable, especially in Canada and Europe.
Productivity and Cost Rationalization: Opportunities for further productivity improvements exist, especially in the supply chain and SG&A. The global COO role aims to accelerate the implementation of Sysco's strategies internationally.
Demand and Margin Outlook: Sysco expects consistent volume growth with a return to average inflation rates. Margins are anticipated to increase due to operating leverage and strategic initiatives like Sysco Your Way.
Feasting on Success: A Sizzling Tale of Burgers, Coffee, and Chicken
At a conference, Morgan Stanley discussed with Patrick Doyle, Executive Chairman of Restaurant Brands International. They covered various topics, including labor challenges, particularly in California, and the impact of regulations. Doyle shared insights from his experience with Burger King's international operations, emphasizing how higher labor costs lead to more efficient restaurants and the industry's ability to adapt to government-induced changes. The conversation also delved into the potential for restaurant automation, especially in ordering systems, and the future of kitchen automation. Doyle highlighted Tim Hortons' success in Canada and its U.S. expansion, focusing on the brand's quality coffee and food. He discussed Burger King's improved franchisee satisfaction due to a focus on profitability and operational execution, as well as Popeyes's growth and operational changes. The discussion also touched on the unique strengths of each brand under Restaurant Brands International, like food quality and efficient operations. From the discussion, several vital concerns emerged, reflecting the challenges and complexities of the restaurant industry:
Labor Challenges and Regulations: The ongoing difficulties with labor, especially in regions like California, pose a significant challenge. This includes dealing with new regulations and the potential for unionization, which can impact operational efficiency and costs. While higher labor costs can lead to more efficient operations, they also necessitate adjustments in restaurant management and pricing strategies. The transition period for adapting to these changes can be challenging for restaurant operators.
Impact of Automation: The move towards automation, particularly in ordering systems, raises questions about the future of employment in the industry and the balance between technological efficiency and human labor.
Market Competition and Brand Differentiation: With expanding brands like Tim Hortons and Popeyes into new markets, there is a need to differentiate from competitors in already crowded segments, like the coffee and chicken categories.
International Expansion Risks: While expanding internationally offers significant growth opportunities, it also comes with risks related to understanding and adapting to different market dynamics, consumer preferences, and regulatory environments.
Operational Execution Challenges: Ensuring consistent and high-quality operational execution across various franchises and locations is a significant concern as brands expand and adapt to new markets. Maintaining franchisee satisfaction and profitability is crucial, especially in a competitive industry where franchisees have options. This includes managing the balance between brand directives and franchisee autonomy.
Technological Investments and Data Utilization: Investing in technology and effectively utilizing data for operational efficiency and marketing poses both an opportunity and a challenge, requiring significant resources and expertise. Managing financial strategies, including investment priorities and leverage levels, is critical for sustainable growth and stability in a fluctuating market environment.
