note: published on Seeking Alpha: Dec. 15, 2017 11:49 AM ET
We view Starbucks (SBUX) as one of the strongest businesses that remains undervalued by the market today. Through top-line growth and margin expansion with smaller-store formats, drive-throughs, kiosks, greater throughput with technological advancements such as Mobile Order & Pay – Starbucks is a compelling long. On top of well entrenched US channel, international growth in China remains very much in tact. Starbucks is also well diversified from a channel perspective with K-Cups and Nespresso lines.
Starbucks is much more than a retailer – in fact – they have already created massive channels through national retailers such as Amazon, Costco, Kroger, Whole Foods, Walmart, Trader Joe’s, etc… Beyond this – they have expanded to non-traditional outlets including hotels, airlines, universities, restaurant chains, and offices. This really underscores the power of their brand as they are able to massively distribute their product and replicate their business model globally.
Starbucks also has a sizable lead in distribution points over Dunking’ Donuts and Caribou Coffee and enjoys pricing power advantages that we expect to continue based on the intangibles around their brand. This is augmented by their social media presence with nearly 16 million Instagram followers and a strong resonance with teens according to Piper Jeffrey’s survey of teen preferences. Starbucks is often granted exclusive leases to highly lucrative locations with strong foot traffic. They can also leverage the use of various store formats including small-format stores, kiosks, and even beverage trucks on college campuses.
Currently Starbucks has 13,400 units outside the US of which ~3,000 are in China. Long-term management believes they will exceed 10,000 locations in China alone. We are bullish on the Starbucks growth story not only in retail but in the potential to be a global consumer goods company.
From a valuation perspective, we believe the market has mis-priced Starbucks even in our conservative forecast. At the time of writing, Starbucks trades at 58.65 and our conservative target is $72 per share implying a 21% upside.
Here is how we arrived at our $72 price target. First, we took low analyst estimates for 2018, 2019, and 2020 EPS. Then we applied our medium term P/E multiple at 27 which we believe is a mid-level multiple based on their historical average and business strengths. These estimates assume a 12% EPS growth between 2018 – 2019 and then only 4% EPS growth through 2022.
In a more aggressive valuation, we applied the same P/E level of 27 with the high end of EPS estimates through 2022.
Either way, we feel very comfortable owning Starbucks today and have strong expectations for what they will deliver in the future.
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