Famed coffee chain Starbucks Corporation (SBUX -1.59%) recently laid out some ambitious plans at its 2022 Investor Day, detailing a path to grow its bottom line from 15% to 20% annually over the next several years. That should perk up shareholders about its price, which is down 32% from the stock's peak.
But hitting this level of growth could prove harder than it looks; investors should know some notable risks before owning Starbucks stock. Here's what to look for over the next several years and how to determine whether the stock reflects those potential hurdles in its valuation.
Can Starbucks grow revenue fast enough?
Management targets 10% to 12% annual revenue growth over the next several years. This would mean growth accelerated from recent history; the company averaged 9.5% yearly growth over the past decade and just 7.4% over the past five years. In the chart below, you can see this steady slowdown followed by a massive rebound in growth after sales dropped during COVID-19.
SBUX Revenue (Annual YoY Growth) data by YCharts
Starbucks grew comparable-store sales by 5% in 2019, which is arguably the last typical year before the company faced the complexities introduced by the COVID-19 pandemic. Global comparable-store sales that year were driven by just a 1% increase in order volume, meaning that it relied heavily on price increases. Fast-forward to the company's 2022 third-quarter earnings, where global comparables grew 3%, led by 6% growth via price increases, offset a 3% decline in order volume.
Inflation is rampant, and consumer sentiment is near decade lows. This economic environment has many investors questioning whether Starbucks can keep getting away with its price increases. Investors shouldn't blindly assume that Starbucks can accelerate growth, especially when it is facing a potentially weak economy. I'm not saying it can't happen, but investors should probably look for the company to walk the walk first. Starbucks plans to open new stores and use technology to squeeze more out of existing stores, but growth still seems like a tall ask to many until shareholders actually see it happen.
Unions and inflation could pressure margins
Increasing profit margins is another significant part of producing 15% to 20% annual earnings-per-share (EPS) growth. Starbucks is targeting "progressive expansion" over the next several years, leaning on technology improvements like automation, supply chain improvements, new store formats like pick-up stores, and increasing drive-thrus.
Again, you can see below that in order to hit this goal, the company will have to reverse a recent trend in its financials. Specifically, the company's operating margin seemingly peaked in 2017 and has been in a long-term decline over most of the past five years. (Again, investors should exclude the drop from COVID-19).
SBUX Operating Margin (TTM) data by YCharts
Starbucks' third-quarter earnings saw non-GAAP operating margins decline 400 basis points year over year due to inflated costs and increased wages. The company is currently dealing with the growing threat of unionization across its stores. The issue arose when one of its New York stores became the first to unionize. Since then, the possibility of widespread unionization across its stores has become more tangible. More than 300 Starbucks stores have held unionization votes, and roughly 245 stores voted in favor of them. Unions can dramatically increase labor costs in a business, and even if unionization eventually fails, it would likely be due to Starbucks appeasing its workers with higher wages and benefits. Again, I'm not saying it won't happen, but Starbucks is essentially swimming against the current to expand profit margins, and investors should look for results over the coming quarters.
Is Starbucks too hot to own right now?
Investors should know Starbucks can be a worthwhile investment, even if it misses its 2022 Investor Day goals. After all, aiming high doesn't need to be a pass/fail proposition. The stock is down more than 30% from its peak, valuing shares at a price-to-earnings ratio (P/E) of almost 30 based on consensus analyst EPS estimates of $2.87 for 2022. Starbucks stock has traded at a median P/E of 30 over the past decade, so it's on par with its norms.
If management hits its Investor Day goals, today's share price could look like an opportunity in hindsight. Accelerating revenue and EPS growth from decade averages would arguably support the current valuation at least, and perhaps even earn Starbucks an even higher valuation from the market. But investors shouldn't rush to give Starbucks credit yet. The threats to the company's growth and its recent operating results signal that hitting a new gear might be harder for the business than it looks.
There's no shame in being patient; investors should consider holding off on buying shares until the valuation drops further or Starbucks shows firm results pointing to success.
