Updated from 7:02 a.m. EST
A quickened pulse has slowed at
, and now the chairman has turned on Wall Street. That gives owners of this richly priced stock two things to worry about.
Starbucks' Howard Shultz was indignant last week over investors' reaction to the company's same-store sales gain for January, which hit the high end of its official guidance, at 7%. Wall Street wanted more, and the stock tanked 8% on Feb. 3.
"It really bugged me that the stock would go down on 7% comps," Schultz lamented Wednesday. "When we overachieve so often, many people don't listen. Then when we have a number that is based on our guidance, people believe that perhaps we have disappointed them."
To be sure, Starbucks is a growth machine, posting double-digit comps in 11 of the last 15 months and quadrupling earnings over five years. But the stock doubled last year on the strength of those numbers, and has nearly quintipled since late 1999. At $50.19, it now fetches 43 times estimated 2005 earnings -- a nosebleed multiple that is going to create volatility. That's something the chairman should be able to accept.
"Schultz never complained when the stock was rallying last year, and that rally was driven on the performance above their guidance level," said Barry Sine, an analyst with H.D. Brous & Co. (Sine doesn't own shares, and his company has no banking relationship with Starbucks.)
In a written statement, a Starbucks spokeswoman echoed Schultz's dissatisfaction.
"A year ago, we said that double-digit growth would not be sustainableand so we are disappointed in the reaction to our outstanding Januaryresults that were at the high end of our target," the statement said.
"We continue to believe that approximately 20% total net revenuegrowth and 3% to 7% comparable-store sales growth, with monthly anomalies, are the right levels for longer-term expectations," it said.
The Seattle-based coffee chain has been handsomely rewarded for consistently performing better than expected, particularly with respect to its own forecasts. During the last 21 months, its monthly comps have only been within the above 3% to 7% range twice; every other month they've been higher.
At some point, however, an inability to forecast performance becomes a negative, and outperformance starts to look built in.
"Clearly, he's pretty clever when it comes to guidance management," Sine said. "Could they have been a little more honest with people and then actually hit the numbers? Perhaps, but then you lose a little bit of the sizzle in the stock and the premium valuation."
Starbucks seemed aware of the peril in October, when it instituted its first price hike in four years after producing only single-digit comps gains in August and September. But while the increase solved a shorter-term problem, it also illustrated a greater danger to the stock.
"The big worry behind Starbucks is about when these big comparable-store sales gains will plateau out," said Morningstar analyst Carl Sibilski. "The company has really shown us that they've been able to pull sales out of a hat. At some point they won't be able to do that anymore, and we're already seeing that with the price increases. That's the first sign that sales are getting harder to come by."
Hyperbole was easier to come by last Wednesday for Schultz, the company's biggest stockholder, who has 7.5 million shares.
"There isn't anything I could say that would closely resemble the fact that Starbucks' valuation is not justified," Schultz said. "It certainly is."
Such statements are rare in corporate America and shunned completely by a large swath of leaders. Many follow Warren Buffett, who won't comment on
share price unless he thinks it's too high and has stated publicly that he would prefer the stock to trade at fair value.
"We always disapprove of senior managers talking up their stock price, because it means they're not focusing on their business," Sibilski said. "If they focus on their business, the stock price will follow, regardless of what it does in the short term."
(Sibilski doesn't own the stock, and Morningstar has no relationship with Starbucks.)
Using a discounted cash-flow model, Sibilski puts the fair value of Starbucks' stock at $43, giving it a $7 premium at its current levels, even after its losses from the beginning of this year. On the basis of price-to-earnings ratios, the stock trades at more than twice the average level of other national restaurant chains.
Considering its growth, Starbucks certainly deserves a premium to its peers. Its earnings have increased at an average of more than 40% over the last four years, while its sales have grown at a 25% clip. Analysts foresee earnings growth slowing to a still-gaudy 23% over the next three years, and sales growth is expected to average 18%. Meanwhile, the company is expected to double its 8,900-store base over the next five years.
All that is reflected in a 43 multiple, and sound arguments can be made that risks are being discounted. Comparable-store sales are bound to slow as new Starbucks inundate the country and mature. One store will be cannibalized by another. With the company facing huge comparisons this year, the slowdown could be close at hand.
The company has talked up its overseas business as a future growth engine, but investors have little assurance that foreign cultures will embrace the brand the way Americans have. Furthermore, coffee prices have surged along with other commodities, and there is already talk of another price hike at Starbucks after the latest string of single-digit-growth months.
With these factors in mind, Sibilski fears that Starbucks shares will soon swing below the company's fair value as momentum on Wall Street shifts.
"What's going on right now is you have a lot of momentum investors who have been buying Starbucks shares because they saw the momentum was riding up," Sibilski said. "Same-store sales kept going up and beating estimates. The stock price has been going up, so traders say, 'I'll just hold on until the momentum is over.' Now those momentum investors are probably getting out right now, and momentum cuts both ways. The market has a tendency of not just easing up when it gets to fair value."
Despite Schultz's belief in Starbucks' valuation, regulatory filings reveal that when the stock was climbing through the mid-$50 range in December, he sold around 450,000 shares for proceeds of roughly $27 million.
"He's been a major seller himself throughout this period, so it's a little bit like the pot calling the kettle black when he complains about the stock decline," Sine said.
Mohnish Pabrai, managing partner with Pabrai Investment Funds, said Schultz' defense of his company's lofty shares is reminiscent of excesses of the past.
"Most CEOs literally view the stock price of their company as a reflection of how they're doing," Pabrai said. "That can be true over the long-term, but it's not true instantaneously. When CEOs try to maximize the stock price, thinking that they're building real value, they are setting themselves up for a fall."