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Robert Abbott
Robert Abbott
Articles (799)  | Author's Website |

Is Starbucks a Value Stock?

Some gurus are buying the coffee giant at its lower-than-normal valuation

May 26, 2020 | About:

As a major operator of coffee shops in China as well as the U.S., Starbucks Corporation (NASDAQ:SBUX) felt the sting of Covid-19 sooner than most U.S. food and beverage corporations. As its Chinese stores began to cautiously reopen, lockdowns and other measures to prevent the spread of the pandemic led to store closings in North America and Europe.

Unsurprisingly, the stock price of Starbucks has been depressed in 2020, which was a signal for some investors to take an interest. Among those investors were about a dozen value-investing gurus; according to the GuruFocus S&P 500 Screener list, 12 gurus bought the stock in the past quarter while six gurus sold the stock. 

Th below chart shows how the company became a net buy of gurus in the first quarter of 2020, compared to being a net sell of gurus during the previous several quarters.

GuruFocus Starbucks guru buys and sells

Thee below chart shows the stock’s five-year price history:

GuruFocus Starbucks price chart

With the current price well below its recent peak, is this a good time for value investors to consider owning Starbucks? Let's start trying to find an answer to this question by taking a look at the company’s financial strength:

GuruFocus Starbucks financial strength

First, the cash-debt ratio tells us Starbucks has significant debt. Taking a closer look, we see it has added quite a bit of debt lately, but seems to have used it effectively to grow its earnings:

GuruFocus Starbucks long-term debt and earnings per share

The ratio of ROIC (return on invested capital) compared WACC (weighted average cost of capital) also indicates profitability. 

The increase in long-term debt coincided with the arrival of Kevin Johnson as president and CEO in 2017 (he had been a director of Starbucks since 2009). Before joining Starbucks, he had been CEO of Juniper Networks (NASDAQ:JNP) and a senior executive at Microsoft (NASDAQ:MSFT). Juniper, too, had borrowed heavily to set up a higher level of earnings not long before Johnson joined the firm.

Turning to Starbuck's profitability, we see it garnered a strong 8 out of 10 rating from GuruFocus and is doing well compared to its competitors. 

GuruFocus Starbucks profitability

It posts double-digit results in its margins, as well as for ROA (return on assets). However, GuruFocus gives two severe warning signals for declining gross margins and operating margins.

Starbucks is owned by 17 of the gurus followed by GuruFocus. The biggest holder is Bill Ackman (Trades, Portfolio) of Pershing Square Management with more than 10 million shares. Ken Fisher (Trades, Portfolio) of Fisher Asset Management holds three and a quarter million, while Pioneer Investments (Trades, Portfolio) holds almost three million.

Starbucks was part of a massive strategic move by Ackman in the first quarter of this year, as disclosed in a letter to his shareholders on March 25. Ackman sold his entire Starbucks position in January, and around the same time he established a major hedge, telling his shareholders, “On March 3, 2020, we disclosed that we had acquired large notional hedges which have asymmetric payoff characteristics; that is, the risk of loss from these hedges was limited, while their potential upside was many multiples of our capital at risk. We did so because of our concern about the negative effect of the coronavirus on the U.S. and global economies, and on equity and credit markets.”

By March 23, Ackman had fully exited the hedge, some $2.6 billion richer. He had also re-established his position in Starbucks at a lower price than he received when he sold out of the stock two months earlier.

Why did he re-deploy his capital to Starbucks? Regarding this, I think fellow GuruFocus writer Dilantha De Silva's article about the coffee giant’s growth model is still relevant, despite the current difficulties. Looking beyond the economic crisis and the pandemic, he referenced “forward-looking initiatives” taken by Starbucks management over the past decade. He expects net income to grow more slowly, as margins face pressure from competitors.

Not that price isn’t also important; as noted above, the stock is currently trading at close to its fair value according to the GuruFocus discounted cash flow (DCF) calculator.

The below chart puts the current price into a price-earnings context:

GuruFocus Starbucks P/E ratio chart

Conclusion

For growth investors, Starbucks is worth considering while it is priced as it is today. Based on prices and the price-earnings ratio over the past year, this is likely a reasonable time to buy if all else meets individual investor hurdles.

Value investors, on the other hand, may wnat to look for less highly-valued and highly-leveraged stocks. The company picked up the pace of its borrowing to generate new growth, a strategy that worked well but leaves little wiggle room in a recessionary environment. 

Disclosure: I do not own shares in any companies named in this article and do not expect to buy any in the next 72 hours.

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About the author:

Robert Abbott
Robert F. Abbott has been investing his family’s accounts since 1995 and in 2010 added options -- mainly covered calls and collars with long stocks.

He is a freelance writer, and his projects include a website that provides information for new and intermediate-level mutual fund investors (whatisamutualfund.com).

As a writer and publisher, Abbott also explores how the middle class has come to own big business through pension funds and mutual funds, what management guru Peter Drucker called the "unseen revolution."

Visit Robert Abbott's Website


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