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Store Optimization Could Be Key for Starbucks Recovery

Despite stores closures, we remain comfortable with our fair value estimate and five-year outlook for the wide-moat company.

Much of the focus coming out of wide-moat Starbucks' SBUX June 10 update has been on the pace of the company's coronavirus recovery in key markets and the associated incremental costs. It's clear that Starbucks' recovery will have a different trajectory than the industry, given its dependency on the morning daypart (affected by work-from-home employees and reduction in morning commuters) and its experience-focused formats (disproportionately affected by mandated restaurant closures and changes in consumer behavior). However, we believe the key takeaway for investors is Starbucks' emphasis on convenience-focused locations (including Starbucks Pickup and drive-thru locations) and other store optimization efforts, which we think will drive market share as the specialty coffee category consolidates in the years to come.

Management's updated Americas segment outlook (40%-45% and 10%-20% comparable sales declines in the third and fourth quarters) is aligned with our model, although its international segment (also 40%-45% and 10%-20% comp declines in the third and fourth quarters) was moderately worse than anticipated due to extended store closures in Japan. We continue to forecast negative comps in early fiscal 2021. From a cost perspective, store closures and employee investments are expected to weigh on third-quarter profitability more than we had expected (guidance calls for an adjusted EPS loss of $0.55-$0.79), though the fourth-quarter outlook (adjusted EPS of $0.15-$0.40) is aligned with our outlook. Management's updated full-year adjusted EPS outlook of $0.55-$0.95 appears reasonable.

We're planning to maintain our $86 fair value estimate as near-term sales and margin pressures should be offset by incremental market share gained from competitors exiting the market. We view the shares as undervalued and remain comfortable with our five-year outlook for 8% (5%-6% unit, 4% comps) average annual revenue growth and restaurant margins around 18%.

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About the Author

RJ Hottovy

Sector Strategist
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R.J. Hottovy, CFA, is a consumer strategist for Morningstar Research Services LLC, a wholly owned subsidiary of Morningstar, Inc. He is responsible for consumer discretionary and staples research. He has covered the consumer sector as an analyst and director of global consumer equity research for Morningstar since joining the company in 2008, and specializes in a broad range of consumer categories including restaurants, footwear and apparel retailers, consumer electronics retailers, fitness clubs, home improvement and furnishing retailers, and consumer product manufacturers.

Before joining Morningstar, Hottovy was a director and senior stock analyst for Next Generation Equity and an analyst for William Blair & Co., specializing in a wide range of retail and consumer product companies. He also spent two years at Deutsche Bank, covering waste management, water utilities, and equipment rental stocks.

Hottovy holds a bachelor’s degree in finance and a second degree in computer applications from the University of Notre Dame, where he graduated magna cum laude. He also holds the Chartered Financial Analyst® designation and is a member of the CFA Institute and the CFA Society of Chicago.

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