Episode 47 | Brewing Trouble? A Look into Starbucks' Slowing Growth

In Episode 47 of “Market News with Rodney Lake,” Professor Lake, Director of the GW Investment Institute, focuses on Starbucks’ business model, financial health, and prospects. While the brand remains strong and globally recognized, especially in North America and China, key financial indicators suggest weaker performance: revenue growth has slowed from 23% in 2021 to negative in 2025, gross margins have declined from 29% to 25%, and net margins have declined from 13% to 9%. Professor Lake explains that modest free cash flow and net debt of $23 billion limit Starbucks’ flexibility. The company also offers a growing dividend, but high valuation and a weakening balance sheet minimize optimism. One upside is new CEO Brian Niccol, who successfully led a turnaround at Chipotle and may revitalize Starbucks’ customer experience and brand.

Transcript

Thank you for joining “Market News with Rodney Lake.” This is a regular program for the GW Investment Institute where we talk about timely market topics. I'm Rodney Lake, the Director of the GW Investment Institute. Let's get started. Welcome back to “Market News with Rodney Lake.” I'm your host, Rodney Lake. Today's episode coming to you from the Duquès Hall studio and the George Washington University School of Business.
The episode is on Starbucks. And so we've owned Starbucks from time to time as part of the GW Investment Institute student investment funds. And so, again, not investment advice, entertainment purposes and educational purposes only. However, let's talk about Starbucks. I think everyone probably knows this company. And possibly, you know, you've had your own experience with this company. You go in, you buy a coffee despite, you know, depending on what you want.
But, you know, many people love Starbucks. So many people don't like Starbucks. But let's cruise through it using the GW Investment Institute investment framework, business, management, price valuation and balance sheet. Now it's had some tough times recently. And it's it has new management. And we're going to talk a little bit about that. But let's dive in and talk about some of the basic stats.
I think everyone if we talk about what's the business and how the Starbucks, you know, we always encourage our students to say, well, how does this company make money? Well, it has stores principally that makes most of its money on the retail side, over 80%, where people walk in, buy a coffee, buy a sandwich, buy a combination of those things, buy a water, whatever it happens to be.
But it's really centered around this coffee culture. And that's, that's super important to its ethos and their baristas. And people want that experience also when they go into the stores. They certainly do sell things, in the, in, retail stores, like grocery chains. However, the vast majority, over 80% of the money is made in their retail outlets where people, again, walk in.
So, okay, what's the business model? You know, people have this everyday luxuries that they want a coffee or they want a fancy coffee or whatever it happens to be, or they want a breakfast muffin, of some variety that Starbucks has. And they go in and they get it. And that's their daily routine or or that's what they do once a week.
And these type of rituals are built into their habits. And that's quite good as a business model. If you can deliver that. Now the challenge has been that, you know, prices have gone up. You know, certainly that people talked about Starbucks is that third place. So the business model was, you know, you have homework, you have you have home and you have work.
And Starbucks was that third place where you can go and have your coffee, possibly work, set up your laptop and get to work there with their wifi. And it's a fantastic place. Now they've had hard times and certainly, you know, it's gone up and down with regard to popularity and sort of the criticism and certainly the market price as well.
Now Starbucks has proliferated, really. It's all around the world now. It's not just the North American phenomenon, but we're going to stay mostly, excuse me, focused on North America for today's episode. But it is important. It is a global business. You know, China is a is, you know, an important part of that enterprise. And, you know, people thought, okay, they couldn't tackle, that tea culture there, and they certainly did.
But again, we're going to mainly focus on the North American business when we talk about the business because that does dominate on the revenue side. So but let's get some stats out there. So we talked about what's the business model. How does this company make money? Well, again, people walk in buy coffee, buy a treat along with that.
Again, they make it part of their daily routine. This everyday treat for themselves. These everyday luxuries are important. And certainly they're capitalizing on that. So what's the market cap? $97 billion. This is mid-May. 2025. And so, not, you know, a tech giant, but certainly not a small company, $100, $100 billion market cap. So now let let's think about okay, well, some other stats for the business.
Again, about $97 billion as of recording this episode in mid-May market cap. But let's talk about the revenue. So $36 billion in revenue, and that's through March 30th, 2025. And something that's interesting that you should be paying attention to is that is a modest -0.05 drop in revenue. Over that period. And so that's not great.
And they weren't doing gangbusters before that. So for the full year, for the full year, through September, their fiscal year, you had, you know, a modest 0.6 growth. And before that 11 and 11, before that in 23 and 2021. And so you had good growth, but that that growth slowed down considerably in 24.
And it's slowing down even further now going to negative for 25. And so that's not great. And so the so you know that's something that should be alarming. And, and I think for the people at Starbucks in the board, you know that that's something that obviously they were paying attention to. And, and we'll talk about they brought in a new CEO, Howard Schultz was the old CEO.
And then he left and came back. And then they installed, Brian Niccol, who we're going to talk about here in a moment once we get to management. But if you're looking at those revenue growth numbers, you know, they slowed down, you know, 11% not great. But for a large company, that's not terrible. But now you're talking that they slowed down to the point where they're barely positive and now they're negative.
Not great. The projected revenue for the full year, for their fiscal year through September 30th of 2025 is 2%. And you're only talking 6% when you look at the 2026, even with the new CEO, you're talking a little over 6%. Is the consensus estimate there. Now let's get into again, we talk about the business and the metrics around that business.
So let's talk gross profit margin and let's talk net profit margin. So the gross margins on this business, 25. So that's okay. That's not a fantastic business. We've talked about other companies like Visa obviously and Nvidia and you're in the 70% right. That is unbelievable obviously. And not every company is going to be able to do that. But 25 is in the okay territory.
These are not high margin, SaaS business. And if you think about it, you walk into a Starbucks, you think, well, to produce this cup of coffee, even though this unit economics for this particular cup might be very good, as far as you know, when you just talk about the ingredients. But once you start putting in all the overhead and everything that goes into making that cup of coffee, including all the space that you have to rent, well, those unit economics start to drop.
And so when you talk about the gross profit being 25 and then excuse me, when you get down to the net margins and you think about the fully sort of loaded number here, it makes more sense when you think about all that, because that's 9.2%. That's probably an average, you know, for an S&P 500 company, you're looking at much more of an average profit margin at 9.2%.
That again, that's not great, but that's not terrible. That's not a terrible business. And it's been slightly higher in the past. So one of the things that we talk about on the show is, well, let's not just look at this as a snapshot. You know, what's been revenue been doing and what's the growth rate for that. In this case, it's slowing down from a high of 23% growth in 2021 to negative, through March 30th this year, with the expectation for just another modest 2% for the full year.
Not great. And so again, from 23 down to 2%. Not fantastic. The gross profit margins that's been declining, but not dramatically from 29 ish to 25. That's not great. And if you, over that same period from 21 to 25, through now, and if you look at the net profit margins, you know, 13 down to 9.
So that's not great either. So again, when you look at the metrics for the business, this is not painting a great story for Starbucks. You have revenue flat, let's say at best to declining. You have gross profit margins decreasing. And you have net profit margins decreasing considerably from 13 to 9%. That's not great. Obviously, when you have declining gross margins, you should likely expect that you're going to have a corresponding high correlation with a drop in net profit margins, unless you're able to make that up somehow.
So then you talk about, okay, what's free cash flow. Free cash flow, 2.7 billion, for this period through March, and for the full year last year, 3.3 and that's a modest decline. It's been a little bit all over the place. You got 4.2 in 2021, 2.5 in 2022, 3.6 and then 3.3 for 23 and 24.
So again, these are not, you know, unbelievable numbers. These are not free cash flow numbers that would come out of Apple, for example. But this is obviously a different type of business. But those are not bad. So when you think about okay well what's the business here when you grade this business. You know, you would probably think right away that this would be a high.
Great. Right? You walk in, people love Starbucks. They're going to continue to be loyal. It does have a very good brand. People respect that brand. Obviously not everyone, but the business is not for everyone. But people recognize it. They recognize the cup. It has a good brand. It has loyalty. This is an everyday luxury for people that they walk in, they want their very fancy drink for, you know, $8, whatever it happens to be.
Obviously that's good. But then you start looking at, okay, well, what's it cost to run this operation? And you don't get to the high profit margins that you might expect that, if you didn't really, you know, dive in and do the work on this company. Well, it gets down to basically an average business as far as the net profit margin goes.
And obviously you're not that's not, you know, only isolating one aspect of the business doesn't say that's an average business only. Right. If you only look at one metric, you can make determinations about the company. That could be sometimes misleading. You have to look at all of these things in a mosaic. You have to look at these things all together.
You have to think about this in a holistic manner to talk about, okay, this is a company. So you want to be careful. When I mention when I say average, it doesn't necessarily mean it's only an average business. It means it has average, you know, net income margins. So let's talk about overall. Overall you'd probably still give the business a 7, right?
You know, you got the great brand. You got the everyday luxuries that people like and continue to pay for. And so can it be higher. Well with some love possibly can be higher and new management and which they did just get some. We'll talk about it's a 7. Maybe it can be slightly better. It's hard to make it, you know really a 9 or a 10.
Like a Visa. Like an Nvidia, like a Microsoft. Like an Apple. It just doesn't have the same characteristics and underlying business model to achieve those really high gross and really high net margins. And it's really, you know, not as defensible as some of these other things. Obviously, you can build loyalty around a brand, but it's very difficult to say, okay, well it's not can you replicate this?
Yes. You can go to Pete's right. You can go into Dunkin Donuts. There's there's a lot of competitors where you can get a cup of coffee. And so you really have to define that experience. You have to really define that setup. And I'd say that's less defensible when you talk about durable competitive advantage than an Nvidia. Now it's also very difficult for Nvidia to build those barriers to entry to build that moat.
But once it has that built, at least for some time period, you know, they can extract that, you know, margin that's associated with having that barrier. With Starbucks, obviously, the barrier that you're trying to build is the brand is the fact that you want people to, you know, show up at your destination and they buy into this whole setup again.
The third place, as it once was called before. So let's move on again. Let's say 7, again, business, management, price valuation, and balance sheet. Let's talk about the business as a 7. So just recently, at the end of last year, Brian Nicol came in September, October/September of last year in 2024. So he has not even been in the job a full year yet.
So Brian Niccol came from Chipotle. And he did a fantastic job with Chipotle and really turned that company around. People might remember they had this scare and the food security piece of that. And people were concerned a lot of free burritos went out. And you know, this just in, people still love burritos, even if they're concerned that, you know, they might get sick.
They're still buying them. So under the leadership from Brian Nicole at Chipotle, they did fantastic. They really turned that business around. They did a fantastic job. And then they recruited him to come to Starbucks after Howard Schultz left for the second time. Now time will tell. And we say that on the episode, too. But it's still pretty early.
You're less than a year in. Obviously has a good track record from another, I would say, you know, similar type of business. It's not the same, obviously. Chipotle and Starbucks are not the same business, but obviously they have a lot of similarities. And so you can expect that there is some overlap there on the ability to execute and run this business.
And, you know, Starbucks is running ads right now. If you listen again, as an analyst, as a business person, as an investor, pay attention. Go into Starbucks. If you're interested in investing in the company. They're talking free refills for the brewed coffees, trying to get people to stay there longer. And obviously that might drive them to buy other things in the store and certainly continue to build that brand.
That's the business. How do you build, how do you continue to build that brand? Well, you got to get people in the door. You got to get them to stay. You got to think of again, if they, you know, consider this the third, third place, whatever they might want to do. So that's super important. And Brian Niccol I think has been excuse me.
Excellent. At executing at Chipotle right now. Can he do the same thing at Starbucks? I think it is a bit early. So when we talk about capital allocation, some of the things obviously that he's inheriting, like the dividend, right. The dividend right now, when you talk about what's happening, for the capital allocation and if you, if you follow us, you have the capital piece of that.
But there are four things that you could do with that, right? You can pay dividends. You can buy shares back. You can grow or you can, pay down debt. So when we talk about the dividend right now, 2.84%, that's not a bad dividend. Right. And it's been growing at 8% per year for the last five years.
So that's really an excellent territory overall. And so many people might think okay, well I hadn't really thought of Starbucks as a dividend company, but the dividends are quite good right now and have been growing at a pretty good clip 8% over the last five years and so on. That capital allocation piece. Now again, you can't give the current CEO, Brian Niccol, credit for that, but certainly that's what he inherited.
So that is a a fairly good position to be in from that capital allocation. Now, the growth piece, we're going to have to figure out what's the story, what's Niccol going to do there? Acquisitions? is he going to grow, you know, organically? What is it going to be? Is it new market? What we'll see right. Time will tell there.
It's a little bit early days, but it is important to pay attention to what his track record is going to be. I think one of the main things though, is the CEO is really turning around the experience, turning around this destination, turning around this experience when you go in and you feel connected with the baristas, you feel connected with Starbucks, the brand.
You feel connected with that coffee that's important for them to bring back. If they're going to bring back sort of the mojo they're associated with people loving that brand. And so again, Niccol turned it around, that Starbucks, turned it around, maybe that's, foreshadow turned around at Chipotle. And time will tell if he can do the same thing there.
Now again, he's only been in the seat for less than a year. Again, this is mid-May of 2025. So it is important for us to watch him, and see what he does. His incentive comp looks reasonable. I don't think there's anything in there that would stands out as okay, I would, you know, most of it looks like it's it's based on performance.
So I think that that's important, to pay attention to. And I think, you know, again, time will tell. Pay close attention on the management. So I think the verdict is out on the management score here. Obviously we're not deep diving the management, but we're certainly talking about the new CEO. I think you're at a 6, 6.5.
So now let's move on to the balance sheet. So when you talk about the balance sheet this is where obviously the maybe that's obvious. Obviously for the people that know this company that this score is going to take a little bit of a dink. So cash and cash equivalents through March 30th 3 billion, 26 billion in debt. So 23 billion of net debt on the balance sheet.
That doesn't make us comfortable and does not help us sleep at night. Okay. Well, one of the metrics and generating $2.7 billion of free cash flow, as we talked about those numbers for the full year, 2.6. And so this doesn't help us sleep at night. This level of debt is a little bit of a concern. This is a cash flow business.
So it's not a huge concern. But this does, again, as opposed to a net cash position for the company and giving the company options to do different things to move things around. This doesn't provide lots of latitude. Now, one of the things that we talk about in prior shows, too, and just like we talked about it on the revenue, what has been this situation, over the past, you know, five years.
And so if we look back from 21 cash at six, debt at, 23 billion, 6 billion at 23 billion, so still fairly significant net debt position and essentially the same as we move forward. And so it's it's been fairly steady to where it is now. The cash is actually a little bit lower than it has been in the debt is basically a little bit higher than it has been.
So that has deteriorated slightly. So you go from 6.6 billion in cash in 23.6 billion in 21. And it's kind of deteriorated slowly over the years. Over that time period through now and March of 25, you're talking 3 billion in cash and 26 billion in debt. So that doesn't make us feel better. The numbers started out not great and deteriorated further.
The interest coverage ratio is just under ten. So when we talk about okay well this doesn't help us sleep but maybe the interest coverage ratio. So the Ebit over interest expense. So earnings before interest and taxes over interest expense. What's that number about ten 9.6 right now. You know that's not a bad number when you get to ten.
And it's a cash flow business and it's generating free cash flow. That's okay. Again we would like those metrics to be better. And certainly on the balance sheet side that's not a 0 but that's not a 10. So you're looking at something more like a 5 or 6 here on the balance sheet. Maybe you could say it's a six, but maybe Brian Niccol will do a better job of managing the balance sheet again.
He's only one year in. And management has obviously a huge influence and really is the the group that drives that along with the board of what the capital allocation looks like within the company and how much debt they should be using to finance the business as equity holders. For the GW Investment Institute, we're always telling our students, look, if something happens, everyone, you know, the creditors are ahead of us.
And so we're the equity holders. And so we have to pay attention to that. And maybe sometimes it's time to move on, whatever it happens to be. And we sell our shares. But certainly when you talk about the balance sheet, you got to you got to pay close attention, to those metrics and especially the interest coverage ratio, if the company has net debt on the balance sheet.
We skipped over the valuation. So let's go back to that. So when we talk about the valuation for this company, this is an expensive company. And so relative to the market. So if the market's gotten more expensive, let's say 23 times right now, it's trading at almost 35 times. Now relative to the market. That's expensive.
So obviously people have perception for this brand. And so now but let's look at over time. And so if you look at the PE over time, the last ten years, the high is, you know, very high, over 100 and the low is 21. And that's in 2018 the average is 36 and the median is about 30.
And so we're pretty close to the average and just over the median. And so, you know, median, let's say is 30 times and we're at 35. And so that feels a little expensive or it doesn't feel that's the number. And it's important for us to pay attention to that. So you're also paying up for this. And so I would give the valuation, you know a fairly moderate score also a 6.
So when you put all these scores together and we could spend more time on that for now, but we won't. So you talk about the business, you know, you give them a 7, you talk about Brian Niccol and the management. You give them a 6. Let's see. Time will tell. Maybe you can upgrade them over time. You talk about the price valuation 5 or 6 there.
And then you talk about the balance sheet 5 or 6 there. That's really not, you know, something to write home about, something to get super excited about. And so overall, maybe you give them a 6.5 depending on how you weight those things, or how you tweak those with the 25% each. And so a 6.5, you know, that's an okay score.
That's not a terrible company. That's not a great company. That's an okay company, something to watch. And I think what to watch here is what Brian Niccol can do with this historic business. Right. What Brian, what can Brian Niccol do for this brand? What can he do for Starbucks? So I think as analysts, as business people, as an investors, I think that's what to pay attention to.
So the takeaway from the episode, I would pay attention to what Brian Niccol is doing and what's the outcome from his capital allocation plan, his growth plan and what it looks like to shape Starbucks moving forward. You've heard some of the commercials, so they're getting started. But that's a wrap for this episode on Starbucks. Thanks for watching “Market News with Rodney Lake.”
We'll see you back on the next episode.
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