Starbucks: Half Empty or Half Full?

Not that the Starbucks story is perfect. Investors still pay a high price -- just under 40 times forward earnings.

And there are signs that the steady upward trajectory might not be so steady.

Let's look at the points and counterpoints of the company.

Points:

• Brand leverage.

  It's kind of obvious, but Starbucks is perennially rated one of the most valuable brands in the country. The brand creates exceptional price control: Starbucks can set the price for the industry and raise it (as they've done twice in three years) with almost no adverse effect.

  Moreover, the brand is a ticket to vital international expansion. The company plans to open 700 new stores overseas in 2007, ultimately reaching a goal of 20,000 international stores equaling the 20,000 planned for the U.S.

• Asset utilization.

  It used to be that a Starbucks store was crowded early in the morning, at lunchtime, after work and maybe into the evening on Friday or Saturday. Now it's packed all day with midmorning meetings, stay-at-home moms congregating with children and retirees getting together in the afternoon. Such round-the-clock utilization is almost unheard of in the restaurant industry.

• Management track record.

  Led by visionary founder Howard Schultz, this trustworthy management team has delivered almost without fail. It's also willing to invest in its employees, unusual in the industry and a healthy sign that management believes customer contact and service really count.

Counterpoints:

• Saturation.

  There's no getting around it: There are a lot of stores. Sustaining a 6% same-store sales growth rate with so many in some areas is a huge accomplishment.

  But it has to slow someday. We're seeing signs: Same-store sales growth peaked at 10% in 2004 and dropped to 6% recently. Margins are compressing as labor and lease costs rise. Worse, Starbucks may be driven to increase food service or take other questionable moves to keep the party train rolling. It should stick to what it's best at. That's been the key so far.

  That said, saturation could be a positive. Starbucks shareholders would love to not have to plow so much cash back into store openings.

• Reduced communications.

  Late last year, Starbucks did away with its longstanding monthly update, citing "added volatility" to the stock price. That didn't seem to concern the company much when the news was good. So why the reversal? Could it be avoiding a regular monthly dose of lukewarm news?

• Expensive.

  Any value investor would recoil at a P/E apporaching 40. While this company has the track record, you have to ask yourself: Would I pay $2 million to own a Starbucks store, which generates, on average, $531,000 in revenue and about $47,000 in net earnings? Not an easy call.

Bottom line: I'm still drawn to the lure of the story. Starbucks is a community meeting point for millions. A gradual drop in P/E and same-store sales over time may create some headwind for the stock, but expansion costs should slow, and international sales will become a bigger part of the story.

I'd pick up shares when there's room for cream under $35.