Starbucks will announce the second quarter 2018 results after the close of trading on April 26. With the media rightly focusing on the incident in early April in a Philadelphia store, where one employee called the police and two African-American men were arrested, management is looking forward to making positive headlines this time around.
There will certainly be questions about the incident, especially as the company plans to shut down all its US-owned stores on May 29 to run anti-racism training for all employees. But there are also other things that investors need to be aware of, including whether or not like-for-like sales growth in the US is improving and how China is doing after it has taken over the full operation of all Starbucks stores in the country.
Let’s take a look at these topics and the details that are most important to investors.
The importance of combating racist prejudice
Starbucks’ growth has slowed in recent quarters. Growth in the US was 2% last quarter, the lowest in consolidated terms for nearly a decade. At the teleconference, management said that several factors contributed to the weak performance, including weaker customer traffic in stores, which rely on retail customers for much of their business, and weak footwear sales. The question in the minds of many investors: Can Starbucks reverse the trend?
For years, Howard Schultz of Starbucks has spoken as a “third place” – a social space outside of home and work. I can affirm that over the years I have spent many hours in various Starbucks stores to meet friends and business associates, and have spent multiple times there and never felt the pressure to spend or leave.
But of course that’s not always the case for every person and every Starbucks business, and the company simply can not let that happen. Aside from the fact that the conduct of the Philadelphia job was not in order, any damage to its reputation as a welcome third place would, from a business perspective, further impact customer traffic and revenue. Aggressive steps to combat racial prejudice in stores are important. This is where Starbucks image is at stake in the public and the ability to increase sales in its existing stores.
How Starbucks wants to increase like-for-like sales growth
Over the last few years, Starbucks has continued to take steps to increase revenue both in the morning and later in the day. For the high-traffic morning hours, the company has implemented its mobile order and pay function via the Starbucks app. In the last quarter, 11% of orders at its US stores were made through the Starbucks app, and management said it helps ensure that the best-visited stores can serve more customers faster during peak hours.
But Starbucks Rewards customers, the only customers to date to use Mobile Order and Pay, account for only 37% of sales in US stores. To further improve customer service, in March, the company began introducing Mobile Order and Pay to anyone who uses the app.
The company continues to focus on groceries as a supplement to morning orders, as well as to lure customers into its stores during lunchtime and in the evening. In the last quarter, Essen generated 21% of total revenue, and management seeks to accelerate both year-on-year and year-over-year growth. The company has had several food stumbling blocks in recent years, including the closure of La Boulange’s bakery business just a few years after its acquisition, but despite these failures, food sales have been steadily rising.
Starbucks also invests in the supply of coffee and non-coffee beverages in a larger number of stores. These include the expansion of the Teavana tea business, the expansion of the branches for nitro coffees and the expansion of the upscale coffee business. The last initiative, led by Schultz, includes the opening of Starbucks Reserve Bars at existing Starbucks stores and the opening of new, independent Reserve Roastery stores.
Starbucks is trying a lot of things to increase sales in its existing stores; some initiatives will work better than others. Pay close attention to how well the different projects are working and how management is adjusting to its successes and failures.
Can Starbucks continue to be successful in China?
Last summer, Starbucks announced that it would take full control of its operations in mainland China. With around 3,100 locations in the country, this is the largest market outside the US. But it is still a fraction of the size of the US market, having recently reached more stores than California (2,800).
China’s economy is shifting more and more from the manufacturing industry to the service sector. With a fast-growing middle class rising to 500 million in a few years, it should be easy to understand why management says that China will eventually become Starbucks’ largest single market.
The big question is whether Starbucks can continue to achieve the incredibly strong financial and operating results in China it has seen under its former joint venture partner. Many growth stories that are heavily focused on China have failed because of the inability to effectively operate in that country. The results for Starbucks have been phenomenal so far, but investors should continue to watch China closely.