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Why Starbucks Might Need to Pull Back Its Growth Plans

By Demitri Kalogeropoulos – Jun 5, 2017 at 9:22AM

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The coffee titan needs to show dramatic operating improvements over the next few months if it wants to hit its 2017 targets.

It's halfway through its fiscal year, and Starbucks (SBUX -0.57%) is already playing catch-up. The coffee titan's revenue is up just 6% over the past six months as earnings have improved by 14%. These figures both trail management's long-term plan that calls for double-digit revenue gains and earnings growth of between 15% and 20% each year through 2021. 

Despite stellar operational execution (last quarter's earnings set a new record), Starbucks is showing signs of vulnerability to the same retailing trends that are hurting peers inside and outside the restaurant industry. Comparable-store sales rose by just 3% last quarter in the U.S. market as a 4% boost in average spending was offset by a 2% drop in customer traffic. Yes, the switch to a new ordering method on its loyalty card made traffic trends look worse than they really are. Still, transaction numbers were flat last quarter even after accounting for the shift.

Coffee beans on a table.

Image source: Getty Images.

Rising traffic numbers have been important to Starbucks' growth wins lately, but they've been decelerating for years. In fact, comps improved by between 5% and 7% in each of the last five fiscal years while the contribution from traffic growth has fallen over that time from 7% in 2012 to 1% last year. So far in 2017, that figure has turned slightly negative. 

Chart showing declining traffic growth trends.

Annual traffic gains. 2017 is for first half of the fiscal year. Chart by author.

The good news is that Starbucks has so far made up for the slower traffic numbers through increased average spending. It has bulked up its food offerings, for example, and has increased sales during the traditionally slower lunch and early evening hours.

The coffee titan has several good opportunities to push for accelerated growth. Its digital ordering program is one of the brightest. Mobile payments grew to 29% of all transactions last quarter, and a full 8% of its orders were made through the Starbucks app. The company's army of over 13 million rewards members represents an incredibly valuable base that the company can market toward while increasing the throughput of stores through direct ordering.

Starbucks is also planning to aggressively attack the lunch segment to build on the success it has already achieved in breakfast. Ultimately, executives see room for a bulked-up afternoon menu to increase comps in the U.S. market by between 1 and 2 percentage points once it is rolled out nationally.

New CEO Kevin Johnson and his team believe the second half of fiscal 2017 will be much stronger than the first half. They told investors in late April that they saw growth speed up toward the end of the second quarter in their two biggest markets, the U.S. and China. In a conference call, Johnson went so far as to predict that this will be "the year of two halves." He continued, "We're confident that we've turned the corner on U.S. comps ... and that we will deliver on our comp target for the full year despite the soft start." 

In the same chat, though, Johnson explained that the industry is going through "profound disruption" as customers scale back on their visits to brick-and-mortar retailers. Starbucks believes it has the right tools and strategies in place to thrive through that shift in consumer behavior. Yet there's a high bar in place now for the company to show dramatically improved operating trends to protect its aggressive long-term growth outlook.

Demitrios Kalogeropoulos owns shares of Starbucks. The Motley Fool owns shares of and recommends Starbucks. The Motley Fool has a disclosure policy.

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