Starbucks’ stock gain plan includes more than discounts and benefit combinations
July 7, 2024
Starbucks’ new breakfast offerings may be a hit with customers. But the coffee giant needs to make bigger changes to its operations to get back into Wall Street’s good graces. Offering food and drink combos could boost Starbucks’ customer traffic in the short term, analysts said, but given the company’s reputation as a premium coffee brand, it’s probably not a sustainable path in the long term. The bigger issues hurting sales, like customer wait times, need to be resolved before the company is declared over the hill after reporting a terrible quarter two months ago. “It’s about execution. He’s got to execute better,” Jim Cramer stressed during the Investing Club’s monthly meeting in June, referring to Starbucks CEO Laxman Narasimhan. “I think he can,” Jim said, adding that he’s waiting for the company’s next earnings report before making any moves on the stock. The company is expected to report its latest quarterly results later this month. Starbucks ran several promotions in May, such as 50% off an afternoon beverage every Friday and personalized offers for members of its rewards program. Then in mid-June, Starbucks introduced its limited-time “Pairings Menu,” which includes a $5 coffee-croissant combo and a $6 coffee-breakfast sandwich deal. Last Monday, the Starbucks app became available to non-rewards members, an initiative that executives expect will generate $1 billion in revenue over the next three years. The effort is part of Starbucks’ push to win back casual customers while maintaining demand from its loyal members after the company saw a sharp drop in customers last quarter, leading to a huge profit miss and a cut to its full-year guidance on April 30 after the market closed. This shook the confidence of many investors, including us, with Jim criticizing management for seemingly failing to recognize the depth of the problems facing his company. The stock plunged nearly 16% the day after the report was released — its fourth-worst session ever. Starbucks shares were only about $1 above their post-results closing price of $74.44 and are still more than 14.5% below their pre-release level. Starbucks attributes its second-quarter woes to a variety of factors, including poor weather in North America, lingering misunderstandings about its stance on the Israel-Gaza conflict, and sluggish economic activity and competition in China. More cautious consumers have also weighed on business. SBUX YTD Berg – Starbucks’ year-to-date stock performance At an investor conference in early June, Starbucks CFO Rachel Ruggeri said the company’s marketing efforts and targeted offers are bearing fruit and contributing to sequential sales growth. These remarks came before the Pairings Menu hit stores. Starbucks is far from the only food and beverage chain to introduce discount meals in recent months to appeal to inflation-averse customers whose budgets have been squeezed by years of price pressures. Fast-food giants McDonald’s, Burger King and Taco Bell have all done so. Wendy’s has sweetened its existing $5 meal deal. “Our customers come to Starbucks to enjoy our high-quality, personalized products and to engage with our baristas. As some customers face a challenging economic environment, we are working to ensure they can continue to enjoy the Starbucks experience they love,” a Starbucks spokesperson said. ‘Sustained success’ Wall Street analysts said Starbucks’ rollout of promotions must be accompanied by major changes in operations to get the company back on track. Combo meals and drink discounts are a short-term fix rather than a fundamental change that would significantly improve customer traffic, Jefferies analyst Andy Barish said. In Starbucks’ fiscal second quarter, which ended March 31, North American transactions fell 7% – a clear sign that fewer people were stopping by the cafes. In-store sales fell 3%. “We wouldn’t expect much change from the fiscal second quarter. Trends are likely to be similar in the near term,” Barish said in an interview with CNBC. The analyst has issued a hold-equivalent rating on Starbucks shares, as he expects the U.S. business to take some time to turn around. In a recent research note, TD Cowen expressed skepticism that Starbucks’ new $5 and $6 all-day pairings menu would “lead to lasting success” for a company that has long presented itself as a premium brand. The offering “launched from a position of weakness and carries the risk of weighing on gross margins,” TD Cowen analysts said. “Rather, we prefer that Starbucks put more emphasis on operations to improve short-term throughput,” an industry term for the number of customers served in a given period. Redburn Atlantic analyst Edward Lewis echoed TD Cowen’s call for more broad-based improvements. “Believing value is the answer could be dangerous when there are other factors that have weighed on comparables,” Lewis said in an interview with CNBC. “By all means do some promotions, but innovate better (and) speed up the process of doing deals,” added Lewis, who holds a neutral rating on stocks. Jefferies’ Barish also questioned Starbucks’ innovations, arguing that the updated beverage options are not boosting sales as much as hoped. Offerings like the limited-time Spicy Lemonade Refreshers, bubble teas and fruity energy drinks that launched in late June “all have one thing in common: They have nothing to do with coffee and don’t really strike a chord with Starbucks’ core customers,” Barish said. At the April 30 earnings call, Narasimhan said “not all” of Starbucks’ new products have met expectations, but he was optimistic about the line of lavender drinks, including an iced tea. “It’s on par with some of the most successful launches we’ve ever had. But to win out, we’re working to launch even more head-turning products and strengthen the line of products that become popular,” he said. Ruggeri said at the June conference that the Summer-Berry Refresher was resonating with customers. She said that while coffee remains “the core of who we are,” some of the new drinks are designed to drive afternoon demand. Barish said some of the new menu items could exacerbate a major operational challenge for Starbucks: getting customers their drinks in a timely manner. “One of the unintended consequences of all these menu innovations that don’t necessarily increase revenue is that they add complexity to the baristas’ jobs” and potentially reduce productivity, he said. Long wait times — along with product availability — contributed to a double-digit rate of incomplete orders on mobile orders in the second quarter. Of course, management has acknowledged problems with throughput and has developed detailed plans to improve it. Starbucks is also aware of how new menu items increase the complexity of baristas’ jobs, Ruggeri said at the conference in June. Starbucks is rolling out a process called the “Siren Craft System” that is designed to streamline the drink preparation process and reduce wait times. It will be rolled out across North America by the end of this month, CNBC reported. The company is also trying to provide more accurate estimates of when orders will be ready. Bottom line: Providing customers with value is a step in the right direction, but the company needs to make progress on issues like wait times and desirable menu items to get the ship back on track in a sustainable way. We were willing to hold on to the stock because the Starbucks brand is strong and we believe Narasimhan can improve execution. At the same time, it may take some time to see improvement after one quarter. The company’s next quarterly report — due in a few weeks — will help us refine our forecast. We currently rate Starbucks shares at 2 — meaning we’d wait for a pullback before buying, and have a $90 price target on the stock. (Jim Cramer’s Charitable Trust is long SBUX. You can find a full list of stocks here.) As a subscriber to CNBC Investing Club with Jim Cramer, you’ll receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable foundation’s portfolio. When Jim has discussed a stock on CNBC, he waits 72 hours after the trade alert is issued before executing the trade. 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On January 30, 2024, a Starbucks store is located in Manhattan in New York City.
Spencer Platt |
StarbucksThe new breakfast offerings may be just right for customers. But to get back in Wall Street’s good graces, the coffee giant needs to make major changes to its operations.
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