Starbucks: Top-notch turnaround

by Geoffrey Seiler, editor Bullmarket.com

Starbucks (SBUX) dominates the coffeehouse genre worldwide; it is also home to one of the world's most recognizable brands.

Since Howard Schultz returned in 2008 to the helm of the company he founded, Starbucks has become a steady performer, especially over the last couple of years.

The stock has responded as well, rising from around $32 per share at the end of 2010 to its current level near $46. In between the shares soared to a high of $62 per share in mid April before weakening in the second half of 2012.

Long term, Starbucks hopes to perk up its domestic business by expanding the number of food offerings in its stores. In early June, the company announced that it would acquire San Francisco-based Bay Bread and its La Boulange Bakery brand.

The strategy brings Starbucks into closer competition with the likes of Panera Bread in the bakery-cafe category, not to mention all of the other quick-service restaurant operators out there, including McDonald's.

Food already accounts for about $1.5 billion of Starbuck's revenue from its company-operated stores in the U.S.

Starbucks has gotten into the fruit juice and smoothie category through the acquisition earlier this year of Evolution Fresh. The goal is to build a national health and wellness brand for Starbucks.

Europe was challenging for the company during the last quarter, which has been the case for some time. Meanwhile, Asia-Pacific is the fastest growing region for Starbucks, which is now in 12 markets with more than 3,000 stores.

Starbucks opened 231 net new stores around the world in Q3, including its 600th store in Mainland China and its first stores in Costa Rica and Finland. Earlier this month, it opened a store in Mumbai, India, with plans to open five more.

Starbucks said it was well on the way to opening the 1,000 net new stores it planned for fiscal 2012. It expects to open another 1,200 net new stores in fiscal 2013, primarily in the U.S., China, and the Asia-Pacific region.

There is still coffeehouse growth potential in the U.S., management believes, which we think will be aided by the La Boulange deal.    

Baked goods and coffee are a natural fit. The expanded food offering, along with the addition of fruit juices and other non-coffee drinks, could bring customers into the store during times when they otherwise might not have visited a coffee shop.

The company's move into the consumer channel (K-Cups, Via, etc.) is also a strategy we favor, especially given the strength of the Starbucks brand. K-Cups alone should add some nice growth.

Once new offerings like Evolution Fresh gain traction in Starbucks' stores, you can expect management to push those into the CPG channel as well.

Its new Verismo single serve system, which will make Starbucks-quality espresso beverages and brewed coffee, could also turn into a nice winner.

Competition has increased with more companies like McDonald's entering the premium coffee business, but overall we think the Starbucks turnaround story still has some legs.

The stock also is well off of its highs and it has become a bit more attractive of late, trading around 20x the fiscal 2013 EPS consensus, ex its $2.57 per share in net cash.

It carries a premium to smaller competitors, but it should given the strength of the brand and the numerous levers it can pull to drive long-term growth.

The valuation is still a little rich for us, but this is a top-notch company that can be bought on dips.

Learn more about this financial newsletter at Geoffrey Seiler's BullMarket.com.

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