Starbucks (SBUX 3.87%) traded down modestly in pre-market trading on Wednesday morning, despite a strong earnings report Tuesday afternoon.
Investors weren't disappointed with the quarter's results but were rather acting on fears about the coronavirus in China. The recent outbreak has forced the coffee chain to temporarily close more than half of its stores in its fastest-growing market, causing what the company said would be a material impact to its results for the current quarter on the full year.
While news about the coronavirus may grab headlines this time around, Starbucks' results nonetheless deserve a closer look as the quarter overall was one of the best the company has posted in recent years.
1. Customer traffic is back
One of the market's biggest concerns about Starbucks recently has been a lack of growth in customer traffic. Though the company has lifted comparable sales by raising prices, growing customer traffic is a much better way to drive sustainable growth, and Starbucks delivered on that metric.
Globally, comparable sales jumped 5% on a 2% increase in customer transactions, a proxy for traffic, and in the U.S., where traffic growth has lagged, comparable transactions rose 3%, driving comp sales up 6%, its fastest growth in that market in several quarters. In China, Starbucks' other key market, comparable sales rose 3% on a 1% increase in comparable transactions.
Expanded delivery seems to be helping lift comparable sales, as Chief Operating Officer Roz Brewer said 75% of Starbucks locations in the U.S. now offer delivery, and that in China, delivery had risen to 9% of sales. In addition, data from Edison Trends shows that spending on Starbucks delivery in the U.S. tripled in the quarter, a promising sign, as delivery orders tend to have higher average transaction values than in-store orders.
2. Margin is expanding
Overall revenue rose 7% to $7.1 billion, which was affected modestly by the sale of assets in its channel development segment. But the bottom-line performance was the star of the quarter, as adjusted earnings per share increased 16%, factoring a tax benefit in the quarter a year ago, to $0.79, beating estimates at $0.76.
That profit growth was driven by an increase in adjusted operating margin from 17.4% to 18.2% because of sales leverage and supply chain efficiencies. Operating margin rose in all three of its operating segments -- Americas, international, and channel development -- and in its stores, improving margin was a direct effect of rising comparable sales and bringing in more customers. That growth can be attributed to delivery and digital orders as well as seasonal menu items such as Irish Cream Cold Brew and Pumpkin Cream ColdBbrew.
Starbucks management has found a number of levers to pull and is adjusting its menu to changing customer tastes by adding items such as more alternative milks, and it has plans to introduce a breakfast sandwich with a plant-based patty later this year.
3. Guidance would have been raised, if not for coronavirus
The impact of coronoavirus remains to be seen, as it's been only weeks since the disease was first reported. However, investors should be encouraged that Starbucks would have lifted its guidance in operating margin and earnings per share had it not been for the outbreak. While the severity of the coronavirus' impact isn't known, the company is making progress that will hit the bottom line eventually once its Chinese stores are fully open and operating and the virus scare passes, so the recent improvements will pay off for long-term investors.
Outside China, Starbucks is seeing strong momentum in the U.S. with digital, delivery, and new menu items, and its new partnership with Nestle, the Global Coffee Alliance, is also paying off -- that partnership is now operating in 40 markets, with five new ones added in the first quarter.
While the coronavirus is a temporary challenge for Starbucks and the restaurant stocks with exposure to China, it's worth remembering that only 10% of its revenue comes from China and that the company is much better positioned than local rivals such as Luckin Coffee, which aren't profitable and have 100% exposure to China, if the outbreak turns out to last longer and be deadlier than expected.
Though Starbucks isn't getting credit from the market right now because of fears about coronavirus, investors should still feel confident in the stock, since the company just turned in all-around excellent quarter.