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Starbucks: A double-espresso play on emerging markets Add to ...

You might not immediately think of Starbucks Corp. as the world’s best play on emerging markets. But with the coffee retailer now setting its sights on Vietnam, it might just be the best way to gain access to the fast-growing but notoriously volatile region.

On Thursday, Starbucks announced that it is set to open its first store in Ho Chi Minh City in early February, after partnering with Hong Kong Maxim’s Group. But Starbucks has been growing its operations throughout Asia – including areas that lean heavily toward tea consumption – for some time now.

That initial foray has given it a proven track record. But what’s most interesting from an investor’s perspective is how much potential growth there still is.

Yum Brands Inc. is one of the top plays on emerging markets, given its aggressive expansion into China. There, revenues now surpass those derived in the United States, making the fast-food company a perfect way to bet on a growing consumer class.

Starbucks has nowhere near that kind of exposure right now, but the potential is strong. According to company figures, it has a total of 11,128 stores in the United States, driving sales of $8.8-billion (U.S.) in fiscal 2012. By comparison, its operations in China are small, with just 700 stores and sales of $721-million.

In other words, while Yum’s Chinese revenues are 47 per cent larger than U.S. revenues, Starbucks’ U.S. revenues are 12-times larger than Chinese revenues.

Agreed, Yum sells fried chicken and pizzas through its KFC and Pizza Hut outlets, which might find a broader customer base in China than high-priced coffee. This helps to explain why Yum’s share price has risen 376 per cent over the past decade.

Yet, so far, Starbucks seems to have been met with strong demand for its products – even with many coffees costing more than they do in the United States.

It plans to ramp up the number of stores in China, to 1,000 by the end of this year, and to 1,500 by 2015, making the country its largest market outside of the United States. It has also targeted India for expansion, opening three stores in Mumbai with one in Delhi opening soon.

While Yum has grown its earnings by an average of 12.5 per cent over the past five years, on a per share basis, Starbucks has grown its earnings by an average of 19.3 per cent, according to Bloomberg. And according to a recent investor presentation, it sees revenue growth of 10 to 13 per cent in 2013, and earnings-per-share growth of 15 to 20 per cent – no doubt, with emerging markets leading the growth.

Starbucks does have at least one factor weighing against it: a hefty valuation. The stock trades at more than 31 times trailing earnings, which is steep even with earnings growing at a double-digit clip. The valuation has followed the share price, which has risen for four straight years, including 16.6 per cent in 2012 and 43.2 per cent in 2011, when the S&P 500 ended the year unchanged.

Clearly, the market sees good things ahead for Starbucks – but as a play on emerging markets, it is only just getting started.

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