There is a common perception among investors that Starbucks (NASDAQ:SBUX)stock is trading at a very high premium. While I agree that argument can be made, Starbucks stock is a good choice in today’s volatile markets. As you can see below, Starbucks has significantly outperformed the S&P over the last year, and for good reason.
Starbucks stock price chart by amigobulls.com
Starbucks has built an empire in the restaurant industry and still has significant growth on the horizon. For the fiscal year 2015, revenue was up 16.5%, which was higher than the 10.5% they saw in 2014. Their 3 year annualized growth rate is 13%, compared to the industry average of 8.3%. With the company planning to open 500 stores in China every year until 2021, they have an aggressive strategy to extend their growth rate in the years to come.
Below I’ve outlined a DCF which shows the growth rate of FCF over the next 5 years, scaling down eventually. For the terminal growth rate, I’ve used 3%. I’ve used a WACC of 9%, with a market return rate of 11%, a risk-free rate of 3%, and a beta of 0.78. The increases in FCF are due to a combination of continued topline growth as well as small consistent improvements in Starbucks’ operating margins.
As you can see, I have arrived at a value of equity of $73.7 billion. This is 14.5% below the company’s current market capitalization of $86.2 billion. I’ll revisit that thought later. That apart, as you can see, Starbucks has a negative net debt, which is another positive for investors as the company doesn’t face the burden of being heavily leveraged. This is one reason Starbucks has a strong net margin of 12.5%, and doesn’t have to worry about financing its growth. McDonalds (NYSE:MCD) operates at an impressive margin, but has a debt/equity ratio of 3.4. Starbucks’ balance sheet stands out from the competition having smaller debt and strong financial liquidity. Nevertheless, from this DCF Starbucks looks as if it might be trading at a pricey valuation.
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