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Starbucks' High Should Keep You Awake at Night

Stocks in this article: SBUX

Updated from 12:43 p.m. EDT: Starbucks closed Friday at $64.69, off 53 cents, or down 0.81%.

NEW YORK ( F.A.S.T. Graphs) -- This article will evaluate Starbucks (SBUX) the company and Starbucks the stock, based on its price to fundamentals relationships.

Before analyzing a company for investment, it's important to have a perspective on how well the business has performed. At the end of the day, if you are a true investor you are buying the business. Moreover, when you are buying the business as a passive investor, you are really buying the company's earnings power. Few companies on the planet can match the earnings record of Starbucks Corp.

The following F.A.S.T. Graphs plots Starbucks' earnings per share since 1999. The orange line on the graph represents a P/E ratio of 21.7, which is equal to Starbucks' operating earnings growth rate of 21.7% per annum.

As I will reveal later, this represents the intrinsic value of Starbucks based on the PE equals growth rate formula popularized by the iconic Peter Lynch. The only blemish on Starbucks' impeccable record of earnings growth was a 21% drop in earnings in fiscal year 2008, the Great Recession. However, this simply led to an acceleration of earnings growth in fiscal years 2009 and 2010, reestablishing Starbucks' earnings record back to its trend line norms.

Earnings Determine Market Price: The following earnings and price correlated F.A.S.T. Graphs clearly illustrates the importance of earnings. The Earnings Growth Rate Line or True Worth Line (orange line with white triangles) is correlated with the historical stock price line. On graph after graph the lines will move in tandem. If the stock price strays away from the earnings line (over or under), inevitably price will come back to its earnings justified fair value. By adding price to our plotting of earnings on Starbucks, we see this relationship between earnings and price vividly revealed.

Starbucks' stock price rose dramatically above fair value coming out of the recession of 2001 before peaking in 2006, and then rapidly returned to fair value (price touching the orange line) over the next two years as we entered the recession of 2008. This clearly validates the danger of holding or investing in a stock when it's overvalued based on fundamentals.

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