Ring in the new year with more stocks for 2008.
Given the current economic situation, what 2008 holds for many companies is a scary thought. But that also makes this a great time to buck up and look for bargains. When it comes to retail stocks that have been soundly beaten up, one that has recently caught my attention for 2008 is one that many investors soured on in 2007: Starbucks (NASDAQ:SBUX).
Got this one pegged?
Starbucks' price-to-earnings ratio is 23, and its forward P/E is a rather shocking 17. That's a far cry from the old days, when Starbucks often traded at 40, 50, or 60 times earnings. However, there's another metric that jumped out at me in the last couple of weeks: Its PEG ratio has dropped below 1.0. That often signifies a stock that's undervalued and poised to run.
Granted, there's good reason why investors are nervous. Starbucks is facing stepped-up competition from McDonald's (NYSE:MCD) and Dunkin' Donuts -- not to mention existing competition from companies like Peet's (NASDAQ:PEET) and Caribou (NASDAQ:CBOU). You could even argue that more people will enjoy their single-cup servings of coffee at home from Green Mountain Coffee Roasters (NASDAQ:GMCR), which also distributes through channels like gas stations and even some McDonald's outlets (through the Newman's Own brand).
I certainly do see some risks for Starbucks -- I can't deny that last quarter's tidings weren't exactly thrilling. After all, since when does Starbucks reduce guidance? And it's utterly unheard-of for Starbucks to resort to something so commonplace and pedestrian as a televised ad campaign.
Is it that risky?
Of course, Starbucks didn't suddenly transform itself into a stinker overnight, even though all the negativity implies it has. (It hasn't turned off consumers along the lines of Pier 1 (NYSE:PIR) or Circuit City (NYSE:CC), for example.) It's still a well-run company with a great brand. It's still got its socially responsible elements, including one many consumers hold dear: treating its employees well. It's still got very healthy growth rates that many retailers would envy, even if they've subsided a bit from headier times.
Costs have hit Starbucks hard this past year, which is not unheard-of for restaurant retail; high dairy costs are a high-profile example. However, Starbucks has contended that the situation should be rectified in late 2008.
Also, margins have taken a short-term hit for long-term strategy in several cases. For example, Starbucks gave baristas a raise early in 2007. Also, the company is in serious expansion mode overseas, which has pressured its margins. When it comes to many of these elements, long-term investors would rather see the long-term strategy intact as opposed to sacrificing for short-term gain.
In addition to the great opportunity in overseas expansion, the company is opening more franchised stores, such as the ones you find in hotels, airports, and highway rest-stop hubs. And while those can be risky for the brand if they're run in a way that doesn't fit with Starbucks' mission, they are highly profitable channels.
The comfort zone
As is often the case, if there weren't some risks, there wouldn't be a bargain situation at hand. At some point, though, the potential rewards outweigh the risks, and it seems to me that Starbucks is one of the companies you should buy right now. This is the premiere brand in coffee, after all.
While a consumer-driven recession is also a good reason for worry, I personally wonder if that risk is overblown as well. Starbucks fared well in the last recession. Furthermore, I wouldn't be surprised if many consumers who feel pinched for money may often decide to meet up with friends at Starbucks instead of more expensive activities. After all, the atmosphere Starbucks fosters feels like an indulgence, but it doesn't break the bank like a pricey dinner out (and many rivals' fluorescent-lit venues don't fit that bill).
Do you agree that Starbucks is going to turn things around to be the Best Stock for 2008? Weigh in and make your opinion known by going to Motley Fool CAPS and marking Starbucks as an "outperform." We'll reveal the Best Stock for 2008 next week. Until then, kick back and enjoy a cup of joe.