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Here's Why Investors Should Hold on to Starbucks (SBUX) Stock

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Starbucks Corporation SBUX is poised well on solid global footprint, successful innovations and digital offerings. The company has also strengthened its relationship with Alibaba. However, soft comparable store sales, margin decline and high debt remain a concern. Year to date, the company’s shares have fallen 10.3%, compared with the industry’s decline of 1.6%.

Factors Driving Growth

Management has been focused on increasing global market share by judiciously opening stores in new and existing markets, remodeling existing stores, deploying technology, controlling costs and aggressive product innovation and brand building. In fiscal 2019, Starbucks added 1,900 net new stores. In 2018 and 2017, the company had added 2,300 and 2,250 net new locations. Although the ongoing coronavirus pandemic is hurting the company’s original store opening program, it still expects to open at least 500 new stores in China in fiscal 2020. Despite the pandemic, the company opened 130 net new stores in third-quarter fiscal 2020.

In an effort to drive business in China, the company announced a historic partnership with Alibaba for providing seamless Starbucks Experience to drive growth in China. Starbucks began delivery services in Beijing and Shanghai via Alibaba's Ele.me platform. Recently, the company has also strengthened its relationship with Alibaba. Starbucks lovers in China can now place orders via multiple Alibaba Group apps. Starbucks has introduced its mobile order and pay feature — Starbucks Now — to multiple platforms in the Alibaba Digital Economy, which includes Taobao, Amap, Koubei and Alipay. Starbucks customers can also use Starbucks Now feature to pre-order and pay for their favorite Starbucks beverage and food online before in-person pick-up at local stores. This will help Starbucks in expanding presence in China as Alibaba Digital Economy has user base of nearly 1 billion.

During the fiscal third-quarter conference call, the company stated that of the 3,100 U.S. stores that remained opened throughout the third quarter, it witnessed comps decline of 14% and 1% in May and June, respectively. For July month-to-date, comps improved 2%. The company continues to benefit from robust drive-thru and deliver options. Mobile ordering in the third quarter increased 6 percentage points from a year ago to make up 22% of total transactions. The company also announced that the coronavirus impact will ease in the fourth quarter in Japan.

Concerns

The company’s results in the fourth-quarter fiscal 2020 are likely to be impacted by the social distancing protocols. The company anticipates international’s comparable store sales to decline in the range of 10% and 15% in the fiscal fourth quarter, including a 3% favorable VAT impact. The company expects comparable store sales in China in the range of flat to -5%. The company expected global comparable sales to decline 12% and 17% in the fourth quarter and fiscal 2020, respectively.

Moreover, the company anticipates Americas and U.S. comparable store sales decline of 12% to 17% in the fourth quarter and 2020. For fiscal 2020, comps are expected to be down 15% to 20% compared with prior estimate of a decline of 10% to 20%. Starbucks expects fiscal fourth-quarter consolidated revenues to decrease in the range of 10-15%. Non-GAAP earnings for the fiscal fourth quarter are anticipated in the band of 18-33 cents, while the same for full year is expected in the range of 83-93 cents.

Margin contraction remains a major concern. Although margin expanded improved in first-quarter fiscal 2020, it declined in second and third-quarter 2020. On a non-GAAP basis, operating margin contracted 660 basis points and 570 basis points in second and third-quarter 2020, respectively. The downtrend can primarily be attributed to sales deleverage and rise in costs due to the coronavirus pandemic, mostly catastrophe wages, and heightened pay programs and additional benefits in support of retail store partners, inventory write-offs and store safety items.

Moreover, high debt is a concern. The company’s long-term debt (including Operating lease liability) increased to $22.3 billion (as of Jun 28, 2020) from $19.3 billion at Mar 29, 2020. Moreover, the company’s debt-to-capitalization increased to 150.4% from 149% in second-quarter fiscal 2020.

Zacks Rank & Key Picks

Starbucks currently carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Some better-ranked stocks in the same space include Jack in the Box Inc. JACK, Papa John's International, Inc. PZZA and El Pollo Loco Holdings, Inc. LOCO. Jack in the Box sports a Zacks Rank #1, while Papa John's and El Pollo Loco carry a Zacks Rank #2 (Buy).

Jack in the Box has a three-five year earnings per share growth rate of 10.6%.

Earnings in 2021 for Papa John's are expected to surge 64.8%.

El Pollo Loco has a trailing four-quarter earnings surprise of 94.1%, on average.

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