Cup Half-Full: Starbucks Selloff is a Buy Opportunity

As we learned with Starbucks’ (NASDAQ:SBUX) recent quarterly report, sometimes even record sales aren’t enough. The popular coffee shop operator delivered its best fourth-quarter result ever last week, but the news failed to energize the market.

In fact, the opposite occurred. The update caused a high-volume selloff that sent Starbucks shares sliding further away from their July 23^rd all-time high of $126.32. It was the largest one-day drop the stock has seen since last summer. In retrospect, that June 2020 slump turned out to be a great buying opportunity—and the current downturn is no different.

After McDonald’s, Starbucks is the world’s most valuable restaurant industry brand according to Forbes. Although it faces its share of near-term pandemic-related challenges, brand power and resiliency make Starbucks stock as potent as an expresso shot.

Why Did Starbucks Stock Go Down?

On Friday, Starbucks stock fell 6% in nearly five times its average trading volume. This came in the wake of the company’s fourth quarter report in which sales grew 31% to a record $8.1 billion and EPS nearly doubled to $1.00. The earnings result met expectations but the sales figure fell short of the Street’s $8.3 billion forecast.

The selloff was less about the sales shortfall and more about what lies ahead. Management said it expects same-store sales to increase by a high single-digit percentage in the current fiscal year which would mark a meaningful slowdown from the 20% achieved in the year that just wrapped up.

In addition to the weak outlook, investors were also spooked by slowing sales at Starbucks 5,000-plus stores in China, a key growth market. Fourth-quarter sales declined 7% in the region, the main culprit for the sales miss. But with a new CEO appointed at Starbucks China during the quarter, the leadership now has a clean slate heading into the new fiscal year.

Starbucks also announced a plan to boost its average employee wage to $17 per hour by the summer of 2022. The move is not only designed to keep up with competitors’ wages but to attract workers in a labor market that is struggling to fill jobs.

Regardless of the potential impact on profitability, it is a good move for the company’s reputation especially as it faces mounting talk of unionization at its Buffalo-area locations. Moreover, well-paid baristas will be incentivized to work harder, which means customers could be getting their orders faster, ordering more, ultimately driving stronger sales. 

Will Starbucks Stock Recover?

The market overlooked a stellar period of record sales which was especially impressive given the unusual operating environment. Rising delta variant cases and renewed concerns about in-store visits weren’t enough to deter loyal Starbucks customers last quarter. This speaks to the strength of the brand and the resilience of its customers.

Also lost in the shuffle was management’s commitment to $20 billion of stock buybacks and dividends over the next three years. Starbucks has raised its dividend for 11 years straight and brought the stock’s dividend yield on par with the consumer discretionary sector average. Repurchases should also provide support to the share price allowing management to buy on weakness.

Starbucks will ultimately recover from this setback. Its business model remains as robust as its coffee beans and an ability to churn out innovative, premium coffee drinks and foods will lead to better than anticipated financial results. If anything, management’s cautious 2022 outlook has set the stock up for some sizeable beat and raise quarters.

In addition to continued store expansion globally, better than expected results can be driven by Starbucks new product launches and collaborations. Earlier this year it announced a partnership with Nestle to bring Starbucks ready-to-drink (RTD) beverages to consumers in three overseas markets by 2022.

Is Starbucks Stock a Buy?

From a valuation perspective, Starbucks’ P/E ratio is the lowest it has been since 2019 at 34x forward earnings. It is still a premium valuation relative to peers, but one that is warranted given a historical growth record that includes a bevy of positive earnings surprises.

In terms of the technicals, the stock slipped well below the lower Bollinger band on the daily chart on Friday. This was the first time this has happened since the March 2020 market-wide plunge. That was followed by a doubling of the share price. Monday’s rebound in above average volume also bodes well for a turnaround.

Despite all the negative headlines around Starbucks lately, sell-side firms have had the company’s back. Although price targets have been cut, most have been modest. Most analysts still call the stock a ‘buy’ including the analyst at Stephens who upgraded to ‘overweight’ over the weekend.

So, while it’s hard to ignore the wage pressures and China headwinds that Starbucks is facing, it’s also hard to ignore its tremendous brand power, loyal customer following, and international expansion opportunities. Stir in an aggressive buyback program and the beaten-up stock is well worth sipping on here.