New Starbucks CEO Has Many Levers To Push
Contributor since 2014 / 371 Followers
Summary:
- Starbucks faces tough competition in the U.S. and China, and its current stock valuation is not attractive.
- New CEO Brian Niccol has a strong track record of turning around Taco Bell and Chipotle, and is likely to improve Starbucks’ performance.
- I recommend holding Starbucks stock due to the current challenges and valuation, but may upgrade to a buy if Niccol’s strategies show significant results.
- Starbucks could enhance its menu by offering healthier, low-calorie, and high-protein options to attract health-conscious consumers.
JohnFScott
Starbucks (SBUX) stock is facing multiple, negative challenges at this point. Specifically, the company has to cope with tough, intensifying competition in both the U.S. and China, while the economies of both countries are currently far from stellar. And the valuation of Starbucks stock is not especially attractive.
But the company’s new CEO, Brian Niccol, has successfully managed to turn around both Taco Bell and Chipotle (CMG). Moreover, there’s evidence that he can push multiple levers in order to greatly improve Starbucks’ performance in the medium-to-long term.
Given Niccol’s strong track record, I am confident he can significantly improve Starbucks’ operations and performance over the medium-to-long-term. But given the multiple, negative catalysts the firm is facing, uncertainty about the extent to which Niccol will push the (in my view) necessary levers, and the unenticing valuation of Starbucks’ shares, I consider the stock as a hold at this point. If evidence arises that Niccol’s moves are meaningfully improving the firm’s financial result, if the stock’s valuation drops meaningfully and/or if its challenges ease, I would likely upgrade SBUX stock to a buy.
First, I will describe the steps that the CEO can take to significantly improve Starbucks’ financial results, and then I will provide more detail about the coffee giant’s problems.
Becoming Healthier
One of the keys to Chipotle’s success has been the belief of many consumers that its food is healthy. Providing evidence for the latter assertion, The New York Post in April 2024 reported that “Chipotle’s die-hard base of health-conscious Gen Z and millennials have continued to scoop up burrito bowls and other menu items despite the company raising prices six times since 2021,” and Chipotle itself reported that “More than half of our customers are millennial or Gen Z.”
Research indicates that millennials and Gen Z do tend to be quite health conscious. Indeed, a 2022 study found that health and wellness was identified as an important value by 53% of millennials. Only family was identified as important by a higher percentage of the millennials who were surveyed.
Also noteworthy is that energy-drink maker Celsius (CELH) has had tremendous success by marketing its beverages, which contain very few calories no sugar, a great deal of vitamins, as healthy. Specifically, its top line soared from $130.7 million in 2020 to $1.3 billion in 2023.
In my opinion, Starbucks can make both its beverages and food significantly healthier. While the company does offer some low-calorie drinks now, I believe that it can improve significantly in this area. For example, this article lists 10 Starbucks cold beverages with 100 calories or fewer. But only four of them –Vanilla Sweet Cream Nitro Cold Brew, Iced Brown Sugar Oatmilk Shaken Espresso, Iced Chocolate Almondmilk Shaken Espresso, and the Iced Toasted Vanilla Oatmilk Shaken Espresso — appear to offer the combination of coffee and sweetness that most Americans expect from their coffee in general and Starbucks in particular. Similarly, by my count, this list of “The Absolute Best Low-Calorie Starbucks Drinks, Ranked” includes only six beverages that combine coffee and sweetness. Going forward, I believe that the firm should and will offer more low-calorie, sweet, coffee choices.
The company could even follow Celsius’ lead and offer coffee beverages that have large amounts of many vitamins in them. And if Niccol wants to get very creative, he can try to capitalize on many young Americans’ desire for protein, a trend that has boosted Chipotle, by offering high-protein beverages at Starbucks.
On the food front, Starbucks can also enhance its health credentials. For example, its lunch menu currently consists of four sandwiches, six Protein Boxes, and Avocado Spread. The inclusion of protein boxes is positive. However, aside from the Avocado Spread, there are no purely plant-based or vegan offerings, and two of Americans’ most popular sources of protein –chicken and tuna — are absent from the menu.
More Innovative, Favorite Ingredients and Cheaper Offerings
Under Niccol, Chipotle did introduce some new dishes, such as Chicken al Pastor and the Anthony Edwards Bowl. As a result, I believe that, under Niccol’s leadership, Starbucks could launch multiple, well-received, new offerings as well.
In this area, Starbucks could learn from Luckin Coffee (OTCPK:LKNCY), which has become the most popular coffee-shop operator in China, surpassing Starbucks. One of the secrets to Luckin’s success has been its innovative drinks that exploit many of the favorite ingredients of Chinese consumers. For example, in September 2023, Luckin launched coffee infused with Moutai, one of the Asian nation’s favorite alcoholic beverages. In order to capitalize on trends in the country, the company has also launched a milk tea drink, many coconut-based beverages, including its popular coconut Milk Latte, and Lemon Americano.
Starbucks does seem to offer some beverages that are targeted towards Chinese consumers, including Lemon Tea, Peach Oolong Tea, Blackcurrant Raspberry Tea, Iced Coconut Espresso, and Rum Chocolate Flavored Espresso. But only a few of the company’s coffee offerings seem to be geared towards Chinese tastes.
And even in America, where Starbucks does offer more drinks that feature Americans’ favorite ingredients, I think that the company could furnish more such choices. For example, Starbucks does not have many drinks that feature chocolate (the Rum Chocolate Espresso offering could be very popular in America), strawberries or milk tea.
If Starbucks wants to get really innovative, it can incorporate yogurt, ice cream, and even alcoholic offerings. I’m sure others can think of many additional alternatives that would be quite popular.
Meanwhile, I believe that Starbucks can benefit from price cuts in China. As of April, the average price of the American company’s coffee was 25-30 Chinese yuan per cup versus about 12-18 Chinese yuan for three of its largest China-based competitors in the country, including Luckin. It’s true that, if Starbucks reduces its prices in China, its profit margins will likely decline.
But the firm’s same-store sales tumbled 14% in China last quarter. In light of that huge drop, I believe that investors may very well be relieved by a stabilization of the company’s China business, even if its margins drop a bit.
I think that Starbucks could even experiment with price cuts and new, lower-priced offerings in America, where SSS fell 2% YOY in Q2. Despite the resulting drop in profit margins, these moves would likely boost Starbucks stock in the long term if they meaningfully lift the company’s top and bottom lines.
As I’ve noted in past columns, the stocks of many companies with low profit margins, such as General Motors (GM) and Exxon Mobil (XOM), have risen a great deal over the long term.
Changes May Result in Revenue Gains
By making its products healthier and including more appealing ingredients in them, Starbucks could, I believe, meaningfully increase the demand for its offerings. As a result, I think that the firm’s sales may rise significantly if it implements these changes.
As I mentioned earlier, Celsius was able to greatly boost its sales, I believe, largely thanks to the healthiness of its products, while Luckin tremendously raised its revenue partly because it used many appealing ingredients in its offerings. Moreover, once in a while, a business’s price cuts increase the demand for its products to such a great extent that its revenue rises despite the price declines. That was the case, for example, for Target (TGT) last quarter and in Tesla’s (TSLA) fourth quarter of last year. While I actually don’t expect any price increases by Starbucks in China to result in year-over-year revenue increases in the country anytime soon, given the nation’s economic struggles at this point, I do believe that such a strategy would likely cause Starbucks’ revenue declines within the country to greatly decelerate.
That’s because, in an unusual situation, the company’s prices are so tremendously above those of its competitors at this point that the discrepancy seems to be causing the demand for its products to tumble amid the tough economy.
Starbucks’ Challenges and Its Valuation
As I noted, Starbucks’ SSS sank 14% last quarter in China amid a great deal of competition from brands that charge much less for their coffee. And as I also pointed out earlier, in the U.S., the brand’s SSS fell 2% YOY. The company is also facing tough competition in its home market, as Dutch Bros (BROS) is expanding rapidly and many other mid-size chains have entered the space.
Meanwhile, the Chinese economy is showing some meaningful cracks, featuring “deflationary pressures” and a “property crash.” And in the latest indication that U.S. consumer spending is growth is slowing, Citi CFO Mark Mason on Sept. 9 said that consumer discretionary spending is dropping.
On the valuation front, Starbucks has a forward price-to-earnings ratio of 25.5, well above the median level of its sector, which is 17.8.
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Analyst’s Disclosure: I/we have a beneficial long position in the shares of LKNCY, CELH either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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