Starbucks (SBUX -0.16%) grew fast. And it became a high-flying growth stock with market-beating returns. In short, it was a very profitable stock to own for a long time.
However, the company has struggled recently. That’s reflected in the stock’s performance, which has lost about 22% in the last year compared to a 25% gain in the S&P 500.
Are Starbucks’ best days behind it? Or have temporary factors hurt results?Â
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Slowing North American market
Starbucks’ North American business has a lot of locations, but it’s still growing. There were 18,065 restaurants as of the end of March, up by 134 from December.
While it’s increasing its store base, unfortunately, the business slowed in the most recent quarter. In the fiscal second quarter, which ended on March 31, same-store sales (comps) fell 3%. The recent quarter’s comp drop was driven by a large 7% drop in traffic. Higher prices and a different mix helped, but investors should keep an eye on whether traffic continues falling. After all, consumers, already stretched, may balk at paying Starbucks’ high prices.
There has been a trend toward lighter traffic in the region. Comps gained 5% in the first quarter, but traffic only contributed 1 percentage point. Recently, there have been reports that Starbucks has run promotions to get more customers into the restaurants. This will likely hurt profitability.
More importantly, there may be more going on than macroeconomic factors hurting consumer wallets. The sluggish traffic trends come as U.S. coffee consumption has been on the rise, according to the National Coffee Association. And specialty coffee has been one of the leading factors.
Slowing international business
Starbucks’ international locations also had weak results. Comps dropped by 6% in the most recent quarter, split evenly between declines in transactions and the average ticket. Expansion in China has been a key management priority. Last year, it increased the number of locations by 785 to over 6,800.
But it faces intense, lower-priced competition in the country. And these companies have been willing to take a lower profit margin to gain market share. Competitors willing to sacrifice shorter-term profitability isn’t positive for Starbucks’ business prospects given the premium prices it charges.
The decision
The share price’s drop has led to a lower valuation. During the past year, the price-to-earnings (P/E) ratio dropped from well over 30 to 22. That’s lower than the S&P 500’s 28 P/E multiple.
It’s tempting to view the share price decline as a bargain. It’s important to keep in mind that the lower P/E ratio also means that investors have lower profit growth expectations. Are they right?
Starbucks has commanded premium prices with the restaurant’s atmosphere and unique coffee blends. However, with competitors nipping at its heels and declining traffic, I’m skeptical that Starbucks can stage a rebound anytime soon. The company would have to prove it can win back customers and stave off the competition for me to jump on board.
Hence, at this point, I’d hold off buying shares.