Starbucks kept brew hot during lockdown

By Frants Preis Time of article published Jun 17, 2020

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JOHANNESBURG - Starbucks purchases and roasts high-quality whole coffee beans, which it sells with cold beverages and complementary food.

The company was founded in 1971 by two teachers and a writer. It is the largest coffee chain in the world by far and the second-most valuable convenience food brand, surpassed only by McDonald’s.

The company has 30000 stores in 77 countries, with the average customer going to a Starbucks six times a month. Their well-known logo is a siren, which is a mythological mermaid seductress. It is supposed to symbolise the seductive power of coffee.

Starbucks’ shares were among the first to be hit by the coronavirus pandemic. The company was forced to close most of its stores in China, then across the world.

Yet it faced the challenges head-on, implementing tight measures to control costs to protect its bottom line. It suspended share repurchases, cut discretionary spending and deferred capital expenditures.

The locations that remained open became hubs for takeaway and delivery orders. As a result, the company's second-quarter results were better than many investors feared. They were able to generate a profit, even in the face of a significant global disruption. Having faced the brunt of the Covid-19 closures, the third quarter results will likely be worse than the second.

Starbucks is among the faster-growing companies in the consumer segment. It invests relentlessly in digital development, social media, mobile payment and loyalty programmes. Seventy percent of sales are derived from the US, where it commands a 40percent market share. Starbucks’ global growth prospects recently improved after its biggest rival in China, Luckin Coffee was embroiled in vast-scale accounting fraud. Legal implications and funding concerns will likely render Luckin Coffee unable to compete with Starbucks in China. This leaves the door wide open for Starbucks to gain more market share in an increasingly affluent country where growth in coffee demand is underpinned by the brew being regarded as an exhibition of social status and cosmopolitanism.

In times of economic uncertainty, going with industry leaders can help mitigate downside investment risk. Significant scale advantage offers Starbucks unmatched flexibility in supply negotiations and product pricing, which leads to durability. Simply put, they can afford to make less money per cup than individual coffee shops that have lower sales volume. Although the cost to switch product is minimal, Starbucks has a strong brand name and loyal customer base. As lockdown restrictions are eased, people will return to their daily routine, which will include a stop at their nearest Starbucks outlet. However, this recovery seems to be priced into the current valuation, with the share price up 35percent from its low in March.

Frants Preis (CFA) is a portfolio manager at Vega Asset Management.

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