Q2 a Mixed Bag but Starbucks' U.S. Recovery Encouraging

Investors continue to sift through mixed results from wide-moat Starbucks' SBUX fiscal second-quarter earnings, with $0.63 non-GAAP EPS exceeding FactSet consensus of $0.53 but the top line missing estimates.

Strength in the U.S. market was encouraging, with 9% same-store sales growth clocking in at the upper range of guidance, but a protracted recovery abroad drove softness in the international segment, with a sequential revenue decline of 2.6% and an 8.5% drop in operating income. After digesting results, we are raising our fair value estimate to $107 per share from $106 and view the shares as modestly overvalued at current prices.

While international results and operating margin pressure caught the eye, they obfuscated an otherwise positive quarter, with Starbucks' U.S. segment seeing operating margins expand 2.1% from a quarter ago (to 19.4%), as impairment costs clocked in better than expected (a 1% impact, against 1.6% forecast) and product and distribution costs were lower than modeled. The firm is 70% of the way through its trade area transformation initiative, closing underperforming stores, retooling urban stores to increase the mix of smaller, more cost-efficient units, and indexing new unit openings to more profitable suburban drive-thru concepts. We appreciate management's opportunism amid the pandemic, with the strategy better positioning Starbucks to compete in a world where off-premises consumption and proximity to the customer are only likely to grow in importance.

Finally, we're encouraged by traffic normalization in the morning daypart, with management reporting positive two-year comparable sales as consumer mobility increased. While global recovery will continue to depend on local regulations and vaccine penetration, a return to growth in the U.S. (we project average store-level sales growing at a 4.6% CAGR between 2019 and 2021) is encouraging, with the end of the pandemic in sight for beleaguered restaurant operators.

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