Should You Buy Starbucks After Its Shares Rise 20.9%?
Back in September I showed you 2 Reasons to Avoid Starbucks stock to help protect your retirement portfolio…
Today, I want to give you an update on them and answer the question – Should You Buy Starbucks After Its Stock Jumps 20.9%?
You can read the past article in full by using the link above…
But if you don’t want to; here’s a quick recap of what I said back in the Summer about it…
2 Reasons To Avoid Starbucks
- It’s Overvalued
As of this writing Starbucks (SBUX) is a $100 billion market cap worldwide coffee creator and seller.
And its massively overvalued…
Its P/E is 76.8.
Its P/CF is 84.2.
And its forward P/E is 31.6.
On all these metrics I look to buy investments below 20 to consider them for investment.
Starbucks is well above these numbers on average which means its overvalued by a large amount.
And this means investing in its stock today gives you no margin of safety in investing terminology.
When you invest in stocks that have a margin of safety it makes the investment safer. And it also means you should expect to earn higher returns owning its stock in the coming years.
The inverse of this is also true…
When you invest in a stock without a margin of safety it makes the investment riskier. And it also means you should expect to earn less owning its stock going forward.
This lack of a margin of safety is the category Starbucks falls into right now.
But why is it so overvalued?
Because during this pandemic while its stores have been closed and/or seen far lower traffic its revenue fell, which caused its profits and cash flow to fall.
When profits and cash flow fall but the stock price doesn’t fall as much… It leads to far higher valuations. And this leads to increased risk, lower margin of safety, and lower returns you should expect to earn by owning its stock going forward.
Should Starbucks return to its “normal” profits and cash flow levels in time? Probably.
But I don’t recommend investments on probablys and ifs…
Especially with the extreme uncertainty we’re dealing with today.
It could be another few months or another few years we’re dealing with this “new normal.” Or we could never go back to normal as we knew it before the coronavirus ever again.
I don’t know.
What I do know is how Starbucks is performing now…
That is far below what it did in the past. And this leads it to being massively overvalued now due to its far lower profits and cash flows.
But there’s also something else that lowers the margin of safety for Starbucks that makes it riskier…
2. It’s Got A Lot Of Debt
As of the most recent quarter Starbucks balance sheet is made up of 129.6% of total liabilities.
In other words, after subtracting total liabilities from total assets there’s a negative number. This means after subtracting debt from assets that the stocks equity – the shares you buy on the market – are worth less than $0.
It’s also why I can’t tell you what its debt/equity ratio is like I normally do in these articles. Because there’s no equity left over after subtracting debt.
This is rare when you see this at an operating company. But it’s horrible.
In terms of absolute dollar numbers, it has $25.7 billion in short term and long-term debt and capital leases.
And since 2015 its debt rose 971% from $2.4 billion to the $25.7 billion it is today.
I want to invest in safe stocks that will be around for decades to come to help me build wealth over the long term. This helps insure I lose as little money as possible over time.
Typically, this means I invest in companies that have little to no debt compared to their cash and equity.
And in most cases I want to invest in stocks that have debt to equity ratios below 1.
Starbucks does produce large profits and cash flows in normal times which allows it to sustain and support this debt.
But we’re not living in normal times like mentioned above…
This explosion of debt in the last 5 years to fund its growth and expansion combined with the slow down in revenue, profits, and cash flows due to the coronavirus is unsustainable.
And its large debt load lowers the margin of safety even more with Starbucks stock.
None of this means I think Starbucks will crash and burn anytime soon…
What this does mean is that the company is in trouble over the long term if this pandemic and our past way of life doesn’t return anytime soon. And I don’t know when things will return to any kind of normal.
For the 2 reasons above I recommend avoiding Starbucks stock.
This thesis to avoid Starbucks stock continued to play out after it had its every other year Investor Day on December 9th 2020… Sort of.
- It expects full year 2021 revenues to grow 8% to 10%.
- It expects operating margins between 18% and 19% through 2024.
- And it expects to increase restaurant count 66.7% from an estimated 33,000 now to 55,000+ by the end of 2030.
With a large part of this huge growth in China.
This is all fantastic… But as I said above, I don’t invest based on expectations of what a company should do in the future… Especially when that’s years or a decade from now.
Because as we saw in 2020… Things can and do change fast in one year let alone ten.
However, these announcements – and its continued improved operations – helped increase its share price 20.9% from early September when I last wrote you about it.
So why am I saying sort of above?
Because it still has the same two issues I raised in the earlier article…
Large valuations and large debt.
It P/E is now 135.4.
Its P/CF is 79.1.
And its forward P/E is 37.
Meaning its even more overvalued now than it was back in September.
And it still has $25.3 billion in debt compared to a $123 billion market cap.
While not horrific like many other companies I’ve told you to avoid… Is still far too much debt while we’re still dealing with this pandemic and the prospect of further Starbucks locations on lockdown.
These both increase the risk of buying Starbucks stock now… And its high valuation lowers the amount you should expect to earn on its stock going forward.
For these reasons – and the ones in the previous article – I continue to recommend avoiding its stock.
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Disclosure – Jason Rivera is a 13+ year veteran value investor who now spends much of his time helping other investors earn higher than average investment returns safely. He does not have any holdings in any securities mentioned above and the article expresses his own opinions. He has no business relationship with any company mentioned above.