- Teavana has huge potential in China if Starbucks can get the Chinese to try its tea.
- Sustained weakness in the dollar will spike earnings in international markets.
- Keurig Green Mountain & Nestle relationships brings quality diversification to the company's income streams.
I wrote an article about Starbucks (NASDAQ:SBUX) a few months back and discussed valuation and fundamentals which are two imperative areas investors clue into before scaling into a stock. Starbucks' fundamentals are very strong although some may say that its present earnings multiple of 33.6 and sales multiple of 4.2 which drive its current share price of $56.75 represent overvaluation to a certain degree.
However, I automatically get interested in a company whose share price is falling in the face of rising expected earnings and sales. Starbucks reports earnings in 14 days where earnings per share projections are $0.49 (compared to $0.42 last year) and top line projections are $5.34 billion which if met would be a 9.4% increase over the same quarter of 12 months prior.
Furthermore, operating margins for the coffee house chain climbed to 17.3% despite having elevated spend on employees and digital initiatives most recently. Prices are expected to be hiked this month which will act as another tailwind for margins. Investors should take note of the fact that if operating margins continue to increase at the rate they are increasing, there is no way this stock will continue to trade in the $50's unless there is huge dilution or something. Furthermore, it has other growth triggers in its arsenal - specifically China.
Can Teavana Gain Market Share In China?
China has to be the market where Starbucks can really start growing its numbers because its present footprint is small compared to the population on the ground. That's why I am not surprised to see the coffee house chain targeting to open 900 new stores in China alone this year with thousands to follow in years to come. A growing Chinese middle class is the target market here as discretionary spending is expected to rise meaningfully by 2020 and Starbucks wants to be first in line to avail of it.
However, what I am most excited about is the company's decision to go up against major Chinese heavyweights by bringing in Teavana (Tea Segment) into its stores by September of this year. Teavana has proved a success in US and Canada with mid teen growth rates but can it pull off the unthinkable in China. The chart below demonstrates the huge potential Starbucks has with this project as China by far is the largest tea drinking nation in the world. It won't be easy but even if Starbucks only gains a sliver of this market, it will be enough to drive the stock price higher.
Starbucks Has Much To Gain From A Weaker Dollar
If the dollar breaks down from here (which is shown below in the chart), this would be bullish for Starbucks' international markets in that sales and earnings would get a nice bump up. Currently, the coffee shop chain has almost 50% of its shops in international markets and if the dollar meaningfully breaks through 94 on the dollar index, then I could see Starbucks even upping its optimistic investment options going forward. Why? Well apart from China, India is a huge untapped market that currently has only 100 operating shops. Lower retail sales expectations in the US and the Brexit debacle illustrate to me that the Fed will keep its dovish stance indefinitely. This will keep the dollar from rallying which will be bullish for Starbucks' prospects.
Nespresso & Keurig Deals Should Boost Margins Even More
Furthermore, the company has extended its Keurig Green Mountain relationship and now has branched off into Europe by hooking up with Nestle by launching compatible espresso pod ranges. I live in Europe and the single serve coffee market is definitely growing. Furthermore, the CEO Howard Schultz recently stated that over 50% of prime Starbucks' customers have a Nespresso machine at home which means the company should hit the ground running with this initiative.
I also like the added diversification of the company's income streams. If money were to get tight or if a recession suddenly emerged, having these diversified income streams should protect it much more than what happened in 2008. Earnings per share more than halved in 2008 so protecting the downside is key and these single serve initiatives do just that.
To sum up, I do not see this stock trading under $60 as its fundamentals and growth metrics are simply too strong. The combination of Teavana growth in China, a weaker dollar and Nespresso single serve growth in Europe illustrate to me that Starbucks' downside is limited here. I would advise going long before the company announces earnings in 14 days time.