Why Did Starbucks’ Strong Q3 Prompt Downgrades?

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Why Did Starbucks’ Strong Q3 Prompt Downgrades?Sometimes, you just can’t win. Starbucks Corporation (SBUX) beat the estimates on its fiscal Q3 earnings report late last month, but still faced downgrades from Wall Street’s analysts. That’s hardly the expected reaction to a profitable company with a moderately priced stock – we’ll look at the quarterly results and check in with the analyst comments to find out what warning signals Starbuck was sending.After the earnings report, SBUX shares hold a Moderate Buy rating from the analyst consensus. This is based on 18 reviews in the past three months, including 7 buys and 11 holds. Shares are currently priced at $95.12 and have an average price target of $94.88, giving the stock a minimal downside of 0.09%.Starbuck’s jump up after the earnings report pushed the share price right up to the average target; the company’s performance as fiscal Q4 unfolds will determine whether the Street’s analysts set a new, higher target. We’ll look at the background, to understand the possible futures that may lie in store for SBUX. Earnings Clobbered the EstimatesThis is the good news for Starbucks. The coffee chain reported a 2.2% top line revenue beat, with quarterly sales at $6.82 billion compared to the expected $6.67 billion. The EPS beat, 78 cents versus the forecast 72, was an impressive 8.3%. Even better, in a forward-looking perspective, was the global increase in same-store growth from 4% to 6%. In line with the strong quarterly results, the company also increased its full-year guidance. Management now predicts full-year EPS between $2.80 and $2.82 on 7% revenue growth.The high earnings were driven by 3% traffic growth in US stores, along with 400,000 new members in the US loyalty program. The loyalty program growth is especially important, as it collects data on customers’ preferences. COO Roz Brewer pointed out the importance of this for future growth, saying, “We know a lot more about our customers now, and it’s really fueling what we have in the pipeline for beverage innovation.”Investors were clearly pleased by the quarterly earnings, and SBUX shares jumped 9% that day. They have since stabilized at a 5% gain from pre-report levels. The Bearish ViewStarbucks’ success has drawn attention from some of Wall Street’s top analysts – that is to be expected. What is unusual is how the analysts are split in their reactions to the good news.On the negative side of the ledger, SBUX has received two downgrades since the earnings report. JPMorgan’s John Ivankoe lowered his rating to a hold, saying, “Price performance has exceeded our expectations and further upside from here is limited.” He adds that the sudden jump in share price takes SBUX “to levels well above even our $91 December 2020 price target.”Also downgrading SBUX was David Tarantino of Baird. He wrote, “We have increased confidence in the fundamental outlook, but we simply see less room for near-term upside in the shares with valuation metrics now at a 10-year high and with potential for investor sentiment to become less positive if comps slow.” Tarantino lowered his rating to a hold, but kept his $98 price target. At current valuations, this suggests a modest 2.9% upside for SBUX. The Bulls' Case for StarbucksThere is a case to be made that Starbucks has reached an upper limit for now, there is also a bullish case based on the company’s strong earnings performance and 47% year-to-date gains. Goldman Sachs analyst Katherine Fogertey sees growth potential in the same store sales growth, and adds, “Digital innovation, including an updated loyalty program and expanded delivery through Uber Technologies’ (UBER) Uber Eats, due nationally next year, as well as signs of demand for its cold drinks could sustain growth.”Fogertey is joined in her optimism by Jefferies analyst Andy Barish, who says, “While the company's valuation is certainly outsized versus its historical metrics, it is reasonable for Starbucks to trade in line with global, asset-lite peers and other fast casual peers delivering sustained same-store-sales momentum.” In setting his buy rating, Barish said that the increase in same-store sales reflects a combination of strong execution and innovation in menu and digital initiatives.Both Barish and Fogertey give SBUX a $110 price target, suggesting confidence in a 15% upside to the stock. Discover which stocks are hot with TipRanks Trending Stocks tool. This tool highlights the stocks that are making waves in the market, and getting analyst attention now.

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