I Love The Jolt, But This Stock Needs Decaf
Richard is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
With gains of almost 20%, shares of Starbucks (NASDAQ: SBUX) have been on a tear over the past couple of months. While the coffee is indeed delightful, the valuation is not. As evident by a P/E of 30, the stock has gotten expensive. And the fact that analysts have raised estimates ahead of the company’s Q1 report means the Street is looking for justification for their optimism. While investors are anticipating a jolt, there’s also reason to expect a letdown.
Expectations for the Quarter
The coffee giant will report first quarter results on Thursday. Analysts are expecting earnings of 57 cents per share on revenue of $3.84 billion. As noted, the Street has been more optimistic of late, raising EPS estimates by 1 penny over the past two months. While not a significant increase, it beats going in the other direction. Besides, Starbucks consistently has great holiday quarters.
Meanwhile, this would represent 14% year-over-year increase in profits, with revenue expected to grow that just under 12%. For the fiscal year, analysts are expecting earnings of $2.15 per share, with revenue expected to come in at $14.98 billion.
These are pretty aggressive targets considering the company didn’t have a particularly strong Q4 and end of year. Although revenue arrived 11% higher year-over-year, earnings were flat. As I pointed out recently, this was the same issue that impacted other restaurant stocks such as McDonald’s (NYSE: MCD), which missed EPS estimates in the same quarter.
McDonald’s posted net income of $1.46 billion, or $1.43 per share on revenues of $7.15 billion. But analysts projected $1.47 per share. Likewise, the 3% decline in net income scared investors. However, revenues were impressive, exceeding estimates of $6.94 billion with sales reaching $7.15 billion. But it still represented a year-over-year decline of 20 basis points.
Likewise Chipotle (NYSE: CMG) also suffered from a poor macro climate. But the competition also had a hand in its struggles. For instance, in its recent quarter, Chipotle reported net income of $72.3 million, or $2.27 per share on revenues of $700.5 million. Not only did Chipotle miss EPS estimates of $2.33 but revenue also fell $6.6 million short of projections.
Then again, despite the top and bottom line miss, earnings and revenue grew by 20% and 18%, respectively. In this case, Chipotle is outpacing both Starbucks and McDonald’s in terms of growth. Then again, the Street had had already priced the stock higher and expected more.
What Are You Getting for Your Money?
This is interesting because that’s the exact situation that Starbucks is in as evident by its P/E of 30 versus McDonald’s P/E of 17. But then again, Starbucks is producing a higher rate of growth. The question investors are grappling with though, is the valuation justified?
Working in Starbucks’s favor is that the company has grown revenues by double digits over the past four quarters, including 14% average rate of growth. Likewise, profitability has increased over the past three quarters. McDonald’s looks like an excellent value here. But even Mickey-D’s can’t claim these numbers.
Likewise, take Yum! Brands (NYSE: YUM) as another example. With its P/E of 19, the stock is trading at a huge discount to Starbucks. And the company is coming off a stellar third quarter. Had it not been for a disappointing guidance, shares would be trading much higher.
However, the company, which operates the popular Taco Bell chain, has been credited for taking a bite out of Chipotle’s dominance. Since Yum! launched Taco Bell’s Cantina Bell unit, Chipotle has lost 33% of its value. It also helps that Yum! has the backing of famous short seller genius David Einhorn. I think Yum! is undervalued at this point by at least 10%.
Then again, the growth potential and consistent performance of Starbucks makes this story too appealing to ignore – despite its premium. The company is currently planning to include more international operations as part of its growth strategy. The concern however would be the potential adverse impact on its margins.
Bottom Line
Starbucks remains an impressive story. Despite its massive size, the company has remained a model of innovation. The recent acquisition of Teavana serves as a perfect example of it outside the box thinking. Having said that, though the coffee is made perfect, the stock it just too expensive for my taste – not when McDonald’s and Yum! are trading at such discounts.
rsaintvilus has no position in any stocks mentioned. The Motley Fool recommends Chipotle Mexican Grill, McDonald's, and Starbucks. The Motley Fool owns shares of Chipotle Mexican Grill, McDonald's, and Starbucks. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!
