Contrasting Starbucks’s Valuation Multiple with Peers
Due to the high visibility of Starbucks’s (SBUX) earnings, we consider the forward PE (price-to-earnings) multiple for our analysis. The forward PE multiple is calculated by dividing the company’s stock price from analysts’ earnings estimates for the next four quarters.
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SBUX’s PE multiple
The lower-than-expected fiscal 2Q17 same-store sales growth (SSSG), the downgrading of the stock by Wedbush Securities, and skepticism over the company’s aggressive expansion plans in China have made investors skeptical about Starbucks’s future earnings, leading to a fall in its stock price and its forward PE multiple. As of July 14, 2017, Starbucks was trading at 25x, compared to 26.5x before the announcement of fiscal 2Q17 earnings.
Due to an aggressive expansion strategy, Starbucks is trading above its peers’ median. On the same day, Starbucks’s peers’ Dunkin’ Brands (DNKN), McDonald’s (MCD), and Domino’s Pizza (DPZ) were trading at forward PE multiples of 21.1x, 23.4x, and 34.9x, respectively.
Starbucks is focusing on implementing digital advancements and menu innovations to drive same-store sales growth. The company has implemented a new DOM (digital order manager) that allows better tracking and enables real-time order production management to enhance customers’ experience. All these initiatives are expected to increase Starbucks’s expenses. If these initiatives fail to generate expected sales, the increased expenditure could pressure the company’s margins, lowering its earnings. For the next four quarters, analysts are expecting Starbucks to post EPS growth of 11.4%, which could have been factored into the company’s stock price. If the company posts earnings lower than analysts’ estimates, the selling pressure could lower company’s stock price and its forward PE multiple.
You can mitigate these company-specific risks by investing in the SPDR Dow Jones Industrial Average ETF (DIA), which has invested 4.9% of its holdings in restaurant and travel companies.
Next, we’ll look at analysts’ recommendations and their target prices.