This article was written by Julia Masch, a Financial Analyst at I Know First.

“People with a growth mindset believe that they can improve with effort. They outperform those with a fixed mindset because they embrace challenges, treating them as opportunities to learn something new.”
– Travis Bradberry

(Source: Pixabay)

Highlights:

• New strategic partnership with Nestlé
• Starbucks continues expansion and growth in China
• Reaction to recent struggles with racial bias
• Current bullish I Know First Algorithm prediction for SBUX

Starbucks has shown tremendous growth over the past decade, growing at triple the rate of the S&P 500.From September 31 until May 21, the stock has increased by about 7%. While this growth is not as large as it has been in the past, Starbucks is still producing strong earnings.

Starbucks had a strong Q2 2018 with increases in comparable store sales, net revenues, and both GAAP and non-GAAP earnings per share (EPS). A 3% increase in average ticket prompted a 2% increase in comparable store sales of 2% with China leading the way with a 4% increase. Total net revenue is up to $6 billion, an increase of 14% from FY 2017, thanks to streamlining and continued growth in Asia. GAAP EPS are up 4% to $.47 and non-GAAP EPS are up 18% to $0.53 over the past year.

(Source: Starbucks Investor Relations)

Starbucks Strategic Partnership with Nestlé

Over the past few years, coffee shops have seen declining traffic as many consumers spend more time at home and opt to brew their own artisanal coffee. In order to combat this market trend, Starbucks has announced a deal with Nestlé to bring packaged Starbucks coffee to regional markets all over the globe. With this new partnership, Starbucks coffee will expand into the previously untapped Nestlé single serve capsule coffee systems such as Nespresso and Nescafé Dolce Gusto. President and CEO of Starbucks, Kevin Johnson, explains “this global coffee alliance will bring the Starbucks experience to the homes of millions more around the world through the reach and reputation of Nestlé.” Starbucks will be able to vastly expand its global reach of Starbucks Consumer Packaged Goods (CPG) from 28 countries to almost 190 all over the world thanks to Nestlé.

(Source: Flickr )

In exchange for usage of the brand’s name and coffee, Starbucks will receive $7.15 billion upfront as well as royalties and revenue from ongoing product sales. The company will use this money to continue its goal of returning over $20 billion to shareholders through share buybacks and dividends by 2020. Over Q2 2018, Starbucks bought 27.4 million shares of stock and the Board of Directors has already authorized the repurchase of another 100 million. These repurchasing initiatives show confidence within the company about Starbucks’ future success. Starbucks also predicts that the Nestlé deal will be grow earnings per share (EPS) by 2021. Since Nestlé has a large market share in packaged coffee in Europe and Asia, the partnership will also Starbucks to expand its reach of Starbucks’ CPGs/ pre-packaged drinks across these regions.

Continued Expansion in China

Starbucks has put an emphasis on continuing to develop in China, an area that has shown large growth since Starbucks entered the market. Currently, Starbucks operates around 3,300 stores in 141 cities in China.

(Source: Starbucks Investor Relations)

In China, Starbucks has increased its new store growth to nearly 600 per year, a staggering number, that has a new store opening in mainland China every 15 hours. By the end of the 2022 fiscal year, Starbucks plans to expand to 100 more cities for a total of 240 all over the country. Starbucks expects to double its presence in China to 6,000 stores in the same time period. Starbucks has surpassed its competitors by being the fastest to triple store count within 4 years.

(Source: Starbucks Investor Relations)

Starbucks is not only opening simple stores, but also roasteries, flagship stores, and reserve bars meant to create an experience that keeps customers in stores loner than in smaller stores as well as drawing consumers back to stores. The newest roastery in Shanghai will indicate how receptive Chinese consumers are to these types of experiences. Starbucks roasteries feature unique features such as augmented reality tours and getting to watch the whole coffee brewing process from roasting to serving.

(Source: Starbucks)

Starbucks’ commitment to furthering its reach in China is clear. Recently, the company held its first-ever China investor meeting. In comparison to the 2017 fiscal year, Starbucks expects to triple revenue and double operating expenses over the next 5 years. The Chinese market also shows great potential for growth of mobile payment ecosystem; 90% of Chinese consumers actively use the Starbucks app and the number of loyalty members over the past 90 days has nearly tripled to 7 million.

Like Americans, Chinese market trends have also shifted towards consumption of prepackaged ready-to-drink (RTD) and CPGs. The RTD market is currently the fastest growing portion of the coffee retail market and is expected to grow by 67% over the next 5 years. Starbucks already has a partnership with Tingyi, a leader in China’s RTC market to reach over 400 major cities as well as 125,000 prime distribution points. In conjunction with the Nestlé deal, these strategic partnerships will allow Starbucks’ market share in this critical area to increase too.

Starbucks’ Recent Struggles

All of these positive aspects are not to say that Starbucks has gone without struggle recently. In late April, a Starbucks Manager at a store in Philadelphia called the police on two young African-American men he claimed were loitering in the store. Both men were arrested when they did not leave the store, resulting in national outcry over the  racism bias. Since then, Starbucks founder Howard Schultz has sat down with the aforementioned young men and discussed strategies to prevent similar situations in the future. Starbucks has now changed it policy to allow all patrons, even those who are not paying customers, to use its bathrooms and stay in the store. While this will prevent the same scenario from happening again, the policy change may also have negative effects as it becomes harder for customers to find seats in already crowded stores. In addition to the policy changes, Starbucks will close over 8,000 US stores to conduct racial bias education in an attempt to prevent future discrimination. Starbucks is doing its best to correct for the unfortunate situation and will provide this training to all new employees and release it so other companies can also use it.

Starbucks does not only pride itself on being an inclusive company which it is currently making amends for, but also considers itself to be an ethical company. For the past 10 years, Starbucks has been named by Fortune magazine and the Ethisphere Institute’s lists of most ethical companies. While Starbucks continues to grow in China, it will also give back to the community. The Starbucks Foundation and Starbucks China are committed to improving the lives of Yunnan coffee farmers and other groups facing barriers through a 5 year commitment of $20 million.

SWOT Analysis

Strengths:

• Starbucks’ strong brand image: Starbucks logo and most Starbucks stores are easily recognizable. Starbucks’ large amount of loyal customers who will flock to Starbucks stores whenever they see them.
• Starbucks Experience: Starbucks wants getting coffee to be an experience for customers that keeps them coming back. Howard Schultz, founder of Starbucks,  has explained they try to make Starbucks a “third place” for its consumers to have as an in-between location for the home and the workplace. Starbucks stores aim to be a place of inclusivity and comfort and the large quantity of stores allows each store to be tailored to its location and makes people feel at home at their local Starbucks. Additionally, with their specialty shops like roasteries have specific experience that have customers coming back.

Weaknesses

• High price points: In regular Starbucks people already expect to pay a premium for their coffee. Further in some specialty stores such as roasteries, a single cup of coffee can go for as much as $10. Some members of the middle class will not be able to afford these high prices and will instead purchase their coffee from a cheaper competitor.
• Human Resources: The recent situation in Philadelphia highlighted a problem with Starbucks’ human resources department. Clearly, someone missed something when hiring an employee who discriminated against a customer, whether or not it was inadvertent. This is not an isolated incident as racist things have been written on customer’s cups in the past. The company will attempt to amend this issue by closing all stores and having racial sensitivity training on May 28.

Opportunities

• Potential for Growth in China: Starbucks is acting on its previous success in China by opening a new store every 15 hours. There is a potential for China to represent half of the company’s revenue in FY 2019 before lowering to a still large 30%. Starbucks does not have any other Americans attempting to enter this market in the same way it is in Asia which should allow its Chinese business to continue to thrive.
• Ready to Drink and Consumer Packaged Goods Market Growth- Starbucks is also taking advantage of these two quickly growing markets and increasing their presence in both. Utilizing partnerships with companies like Nestlé and Tingyi will allow Starbucks to accelerate its penetration into both markets.

Threats

• Increasing Competition: Starbucks has competitors in many different facets. If a consumer wants cheaper coffee they can go to Dunkin’ Donuts or McDonald’s. Alternatively, some may choose more niche local coffee shops instead of choosing to go to such a mainstream coffee shop like Starbucks. Additionally, as Starbucks become more crowded, people may relocate to less crowded locations to meet with others or do work.
• Public Image: Following the arrest debacle in its Philadelphia store in April, national outcry attacked the Starbucks store and brand for racism. Starbucks is already working to improve its image in regards to race relations by closing all stores on May 28 for racial bias education. Additionally, with the new Starbucks policy in which anyone can loiter in the store more homeless people and drug addicts may frequent the store and drive out customers. If this continues, Starbucks may become known as a less safe place to hang out of work.

Analyst Recommendations

(Source: Yahoo Finance)

Like me, other analysts also have positive expectations for the future of Starbucks with the majority either recommending a buy or strong buy on the stock and none opting to sell.

Current Bullish I Know First Forecast for SBUX:

The I Know First Algorithm currently gives SBUX a bullish signal of 29.97 over the next 3 months with a predictability of .39.

Conclusion

From this SWOT analysis, we can see Starbucks’ strengths and opportunities outweigh its weaknesses and threats. Starbucks is pouncing on available opportunities and already combating threats to its success. Starbucks will continue to be a strong grand with a global presence that is only expanding as it develops more business in Asia

Following a strong Q2, Starbucks will continue to expand into areas where it will be extremely profitable such as the Chinese market and CPG and RTD markets through its partnerships will allow the company to continue growing. Additionally, the company’s ability to adapt and change policies following difficult situations as well as its commitment to being a home of inclusivity will allow it to continue thriving in the face of national outcry. While its growth is not as large as it has been in the past, I expect Starbucks to continue growing over the next few years as it continues to progress and expand into profitable markets in line with the current I Know First algorithm bullish mid-term forecast for SBUX.

I Know First Algorithm Heatmap Explanation:

The sign of the signal tells in which direction the asset price is expected to go (positive = to go up = Long, negative = to drop = Short position), the signal strength is related to the magnitude of the expected return and is used for ranking purposes of the investment opportunities.

Predictability is the actual fitness function being optimized every day and can be simplified explained as the correlation-based quality measure of the signal. This is a unique indicator of the I Know First algorithm. This allows users to separate and focus on the most predictable assets according to the algorithm. Ranging between -1 and 1, one should focus on predictability levels significantly above 0 in order to feel confident about/trust the signal.