SBUX – THE PREMISE OF THE WSJ ARTICLE IS MISGUIDED

According to the WSJ, with SBUX trading at 23x consensus 2010 estimates, ”the company's stock price suggests that Starbucks will naturally start expanding again as consumers regain confidence.”

Naturally there are some things that I agree with in the article and some that I don’t, but nothing is new (the “people won’t drink pricey coffee” thesis is definitely not a new argument).

First, SBUX is much better off controlling the store assets than to sell off selected stores to improve margins.  Each store sold would be dilutive to EBITDA and not create shareholder value.  Very few restaurant companies have been able to sell stores and create value.  YUM did it successfully because its stores were severely underperforming, and therefore, the company benefited by getting them off the books.  I don’t believe this is this case for SBUX.

Second, SBUX does NOT need to start expanding again.  In fact that would be a mistake.  SBUX, unlike most companies, has the ability to grow globally, but the company would be better served to maintain its more recent disciplined level of capital spending.  Overtime, the company’s ability to grow globally will come to light.  Right now, the company is in the early stages of becoming better not bigger.  The opportunity for the company to generate more profits from its existing store base is massive.  That being said, it will ultimately need to get more customers in the door, which means the company needs to generate positive same-store sales.  The company’s national advertising campaign and new value combo offerings should help with this but increased consumer confidence and lower unemployment is needed for a real turnaround in sales growth (as is the case for most restaurant companies).

Third, I have to dispute the idea that “the mainstay cafe business [is] in doubt.”  This seems to suggest that the business is going away, which is just not the case.  Yes, SBUX’s earnings growth has slowed, but the company achieved double digit operating margins in the most recent quarter with same-stores sales down 5%.  Additionally, the company generated over $500 million dollars in free cash flow in the last 12 months.  The company will definitely benefit from an improved economic environment and positive same-store sales growth, but in the meantime, this company has improved its business model and is not going away.