Starbucks Hopes a Price Hike Perks Up Profit
Troy Wolverton
09/29/04 - 07:07 AM EDT
Starbucks (SBUX Quote) is raising its prices in a move that may help keep its shares piping hot.
The coffee shop chain quietly announced on Monday that it will be increasing beverage prices at all company-owned stores next month, marking the first time the company has raised prices in more than four years.
Analysts expect the move to help boost sales. "I think they'll be able get away with the price increase without upsetting too many customers," said Carl Sibilski, who covers the company for Morningstar. "This is more of an efficiency issue for them. It's a way to squeeze more out of their existing stores." (Sibilski does not own shares of Starbucks and Morningstar does not do investment banking.)
Starbucks' stock is trading at about 50 times the company's earnings over the past 12 months, a fairly pricey multiple. The only way for investors to justify that valuation is if the company is able to maintain its rapid growth rates -- and its bottom line.
To date, much of Starbucks' revenue growth has come from opening new stores. Through the end of June, the company had opened some 1,378 company-owned and licensed shops over the previous year. That represented about a 20% increase in the company's store count from the previous year.
But there's some debate about how long the company can continue to augment its store base at that rate, particularly when cities like New York and San Francisco seem to have a Starbucks on every corner.
"They want to be able to point to the Street and say they've got 20% revenue growth," said Dennis Milton, who covers the company as an equity analyst for Standard & Poor's. That's fairly easy for a company to do if it is expanding its store count by 20% or more each year, Milton noted. "But their store base is getting so large that they're no longer getting 20% [store count] growth any more." (Milton has no position in Starbucks shares and Standard & Poor's does not do investment banking.)
That's what makes their same-store sales important. If it's not going to be able to boost its overall revenue simply by opening new outlets, it's going to need to get more sales out of its existing stores. (The company said that the price hike would not affect its guidance for its upcoming fiscal year).
To be sure, existing-store sales haven't been much of a problem to date. Through the end of August, Starbucks' same-store sales this year had
grown 11% from the same period last year. Same-store sales compare results of like outlets open 13 months or more.
But Starbucks Chairman Howard Schultz has cautioned investors that the company expects its same-store sales to grow from just 3% to 7% a year over the long term. And the company's sales do seem to be cooling down a bit. In August, for instance, Starbucks' comparable-stores sales grew by 8%, the smallest gain in more than a year.
After the company posted such strong growth over the last year, those month-over-month and year-over-year comparisons are only going to get tougher, Milton noted. "It's going to be more difficult for them to put up the 20% [overall revenue growth] that they've been promising," he said.
The price hike, which affects only company-owned stores, might help the company do that. The question is whether customers will swallow the increase.
Most analysts seem to think the customers will. The company hasn't increased prices since August 2000. And the price hike is relatively modest; the company estimated that on average, its drink prices would increase about 11 cents.
The company didn't respond to a request for comment on average drink costs or the magnitude of the increase on a percentage basis. But Andrew Barish of Banc of America Securities estimated the average price hike was about 3%. (BofA has done investment banking with Starbucks in the last 12 months).
"I think people feel as if Starbucks is a treat for themselves," said Chris Bonavico, a portfolio manager at Transamerica Investment Management. "They're spending a few dollars to treat themselves during the day. An extra few percent is not going be an inhibitor." (Bonavico's fund does not have a position in Starbucks).
Assuming that customers continue to drink up despite the price increase, the hike could help Starbucks' bottom line as well. The company has seen costs increase as milk and coffee prices jumped, and it could now pass on those costs -- and more -- to customers.
"I think it's important for them to offset some of the costs, but they're trying to protect their [profit] margin, Milton said.
Of course, some analysts believe the price increase is only a small ingredient in Starbucks' future growth and earnings prospects. Bonavico, for instance, believes the company still can double the number of stores it has in the U.S. Meanwhile, Starbucks could boost revenue by increasing the sales of food or music in its stores, he said. New drinks and the company's recently launched drive-in locations also could juice sales, he said.
"The model is terrific," Bonavico said. "It's far from mature."
"That said," he added, "The stock's got a reasonably healthy valuation."
