Why Is Starbucks Launching An “Upscale” Chain Of Stores?
Recently, CNN reported that Starbucks Corporation‘s (NASDAQ:SBUX) is creating a new brand of stores called “Starbucks Reserve-only” which will offer premium, small lot reserve coffee and will be twice as large as the size of the current Starbucks stores. These stores are targeted towards customers preferring more personalized and premium coffee. Starbucks plans to open hundreds of such stores starting next year. These stores will feature manual espresso machines and four brewing methods, allowing customers to personalize their beverages. Demand for gourmet coffee in the U.S. is growing at a fast pace, driven primarily by older millennials who drink gourmet coffee at least once in a week. We believe this upscale chain can enable Starbucks to expand its footprint without losing its “premium” status and tap into the trend of rising gourmet coffee drinkers, thus boosting revenues.
Premium Coffee: Increasing Demand, Better Margins
According to the National Coffee Association in the U.S., between 2008 and 2016 consumption of gourmet coffee increased from 13% to 36% among 18-24 year olds and from 19% to 41% for those aged between 25 and 39. Consumers are now looking to know their coffee, the different origins and the way it is roasted. And they are willing to pay more for premium gourmet coffee. Starbucks Reserve only stores are well poised to capture this trend and create a consumer base of gourmet coffee lovers who do not mind paying a premium for a personalized beverage. The company’s brand should attract consumers to the new upscale chain which can potentially become a high margin segment for Starbucks.
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We expect Starbucks’ company operated stores to increase from around 13,000 in 2016 to nearly 16,000 by the end of our forecast period and the EBITDA (earnings before interest, tax , depreciation and amortization) margin on these stores to remain around 22% over our forecast period.
There can be a 5% upside to our price estimate, if through premium stores, the average margin increases to 24% by the end of our forecast period.
Starbucks is increasing focus on its food and beverage offerings to enhance customer experience and capture the growing demand for gourmet products. The company recently invested in an Italian bakery “Princi” which sells pastries, pizza and pasta in Europe. Princi’s products will be sold in Starbucks’ new Roastery locations and Reserve stores. This is another attempt by the company to upgrade its food product to attract consumers with finer tastes and grow revenues. These efforts should drive revenues for Starbucks in the long term.