Tag Archives: STARBUCKS


UPDATED CORPORATE DESCRIPTIONS – Arcos Dorados, Flanigan’s, Noodles, Rocky Mountain Chocolate Factory, Red Robin Gourmet Burgers, Starbucks


The summaries we show, while not complete in detail and involve a number of approximations, provide a good starting point for our own investment banking activities and will hopefully do the same for our readers.











“Culture” is an overworked term in the restaurant/hospitality business.  Every operator strives to create an exemplary corporate culture. Hard as it is to define, Danny Meyer  and Howard Schultz have demonstrated how far a great culture can take you. It is not the coffee, good as it is, that has allowed Starbucks to build 20,000 profitable stores worldwide. My daily visit to Starbucks is my morning social life. “Hi Roger, your usual venti soy latte’, no foam?”, or ”did you get a haircut?”, or “haven’t seen you in a little while, been away?”

My wife and daughter think I’m getting a little (or a lot) eccentric. Often, after a service person responds with a “no problem” after I thank them,  I take a minute (if they seem friendly) to suggest that something like “my pleasure” is a lot more hospitable or what I might call charming.  Of course it’s not a problem, because  it’s their job, after all. I feel like I’m doing them a favor, mentoring them if you like, and it costs me nothing. I say it with a smile, tell them I am only taking the time because they seem like they care. Almost all the time they seem to appreciate it, and usually respond, on my next visit, with “my pleasure” and a smile. I tell my wife and daughter that they can call me a little crazy, if they like.

Which leads me to my visit this morning to Starbucks. The expeditor at the pickup counter, who Starbucks now has in place to sort out the digital/pickup orders from the in-store ordering, handed me my drink, and I thanked him. He said “my pleasure”. I complimented on that response, and he said that it was natural for him because he also works at Chick Fil A.

I’ve never met or spoken to the management of Chick Fil A but I have visited their stores and the experience is always a good one. Last I read they were doing $5M a copy in a six day week. That compares pretty well to McDonald’s, good as they are these days, doing 40% less than that over seven days. Maybe there really is something about a great corporate culture, taking the time to build something as simple as a warm salutation into the training process.

LET’S CHANGE THE WORLD TOGETHER !  There’s nothing obnoxious about “no problem”. However, we would be doing our employees, many of whom are just beginning their working lives, a great long term service if we suggest a variety of more personal, hospitable, even charming responses. “My Pleasure”, “Always Nice to See You”, “You’re Very Welcome”, “Any Time”, “Come See US Again”, or down south “Y’all Come See Us Again, Y’Hear?” are just a few suggestions.

There’s a reason that the customer experience at Chick Fil A and Starbucks is a cut above almost all of the competition, and the sales follow. The above does not happen by accident.

Roger Lipton




Starbucks continues to be the premier roaster, marketer and retailer of specialty coffee in the world. The company operates in 83 markets, up from 81 a year ago. Historically, the sales mix has been 74-75% beverages, 20% food, 4% ready-to-drink beverages (classified as Channel Development income and includes royalties from Nestle under the Global Coffee Alliance) and 1% packaged and single-served coffees and teas.

As of the end of last year, the company operates and licenses approximately 32,500 stores globally.  The company operates 10,109 stores and has licensed another 8,245 in the Americas segment (North and South America). Internationally, the company operates 6,461 (4,700 in China) and licenses another 7,779 (Korea leads with 1,468 stores).  Over the next 18 months, the company plans to close upwards of 800 stores, so net store growth in the coming year will be lower than prior years.

Not surprisingly, the company’s sales and operating profits continue to be dominated by the Americas segment. The spike in operating income attributed to the Channel Development segment in FY20 was due to large declines in the profitability of the other two segments and not an increase in margins. As trends normalize in FY21, the operating income contribution from this segment will revert back to its historical percentage (but is still growing).

Since our last update, Starbucks has issued FY21 guidance as well as hosted its Biennial  Investor Day, which provided long-term guidance through FY24. In this update we will look at the recent guidance and discuss changes in customer behavior in the context of this guidance.

Summary of Fiscal 2021 Guidance

  • Consolidated revenue $28-$29B
    • Global comp sales growth 18-23%
      • Americas comp sales growth 17-22%
      • International comp sales growth 25-30%
        • China comp sales growth 27-32%
      • Consolidated GAAP operating margin 14-15%
      • Non-GAAP EPS $2.70-$2.90 per share
      • Cap Ex $1.9B
      • Guidance for FY22-FY24
      • Non-GAAP EPS growth of 10-12%
      • Revenue growth
        • Company 8-10%
        • Retail Business 8-10%
        • Channel Development 5-6%
          • 2018 Global Alliance with Nestle has performed better than expected.
        • Non-GAAP Operating Income Margin 18-19%
        • Capital Allocation
          • 50% of Earnings Payout Ratio
          • 2% yield
          • 1% Share Repurchase per year
          • 3X leverage
          • Addressable Coffee Market
            • Euromonitor estimates the global coffee market at roughly $360B in 2019.
              • Expects CAGR of 5-6% through 2023.                      This means that the global addressable coffee market in 2023 would be approximately $450B.
    • This growth provides a significant tailwind for Starbucks. As a result of these estimates, the company boosted its global comp growth to 4-5% in FY23 and FY24. This compares favorably to its previous estimate of 3-4% at the 2018 Biennial Investor Day. The estimate for the US was also increased slightly to 4-5% over the same timeframe. Later we will discuss some of the factors in the US that are driving the change.
  • Store format changes
    • Starbucks is starting to shift to focus more on convenience and the store base is expected to change to reflect this.
    • Over the next three years, pickup, drive-thru and other new formats will expand to 45% of U.S portfolio, up 1000 percentage points since 2020.
    • Margin expansion 100-200bps
      • Sales rebound creates natural operating leverage.
        • Mix to more high-volume, high margin drive-thrus leverages labor costs.

    Digital memberships

    • Starbucks has 19.3M 90-day active members in its digital ecosystems.
      • These members drive 50% of total revenue
      • One in every four transactions coming from mobile order and mobile pay.
    • Addressable customer base is close to 75M.
      • Lots of growth potential if the company can add these customers to digital platform.
      • Fiscal    ’16    ’17       ’18     ’19      ’20      Q1’21    FY’21        Long Term
  • Historically, Starbucks has seen modest changes in the total average ticket, driven mostly by price increases and occasionally an increase in food attach rates. However, starting in Q3 FY20, there has been a significant shift in the size of the average ticket. The pandemic has caused a shift in customer behavior. Some of these factors may provide a boost to long-term growth and improved margins. However, we see some potential negatives that are important to consider as well.
  • Factors Driving Lower Transactions, but Higher Overall Ticket.
    • Shift from urban cafes to suburban drive-thrus.
      • Driving the shift is more customers working from home.
      • Urban locations have a higher mix of hot coffee only orders which is a lower average ticket.
      • In suburban locations, customers are purchasing multiple beverages and food items. Customers are ordering for other family members and neighbors that are either working or studying at home.
      • Customers ordering later in the morning. This has helped spread out workflow for baristas and improved operations.
    • Customers are ordering more cold drinks.
      • Cold beverages now account for over $1B in sales and growing.
      • Millennials and Gen Z-ers under 30 year old are twice as likely to drink cold coffee than the average customer.
      • Cold beverages sell at premium prices.
        • For example, customers are ordering more frappucinos and modifiers (ingredients that are added to a basic coffee).
      • Cold beverages are being bought in larger sizes than hot coffee.
    • Customers are ordering more food items.
      • 26% of customers looking for healthy options in both food and beverage.
      • Starbucks continues to innovate with healthy food choices such as the Impossible breakfast sandwich, breakfast wraps and plant-based milk substitute offerings like soy and oat products.
      • As management has often said, “trialing is the start of a routine.” Even as customers return to work in urban areas, we would expect that some customers will continue to order these higher priced items food and beverage items.

    At Biennial Day, the company included this slide to illustrate how the trend towards more pickup and to-go orders will impact the store base. While the number of stores in Midtown Manhattan is expected to remain flat, there is a significant change in the mix to smaller pickup stores. These stores will be less expensive to staff and operate and still generated significant sales, which will increase the company’s long-term return on investment.

These changing trends, if sustainable, could help support the company’s long-term guidance of 4-5% comparable sales growth. Historically, transactions have been relatively and changes in the average ticket have been mostly driven by modest price increases. If the current trends in consumer behavior continue, it should be easier for the company to drive both frequency of visits and higher ticket prices with more food being purchased per order. This will also help leverage labor and operating costs.


Starbucks long-term success is more than just the result of selling an addictive product. It created a culture where customers and baristas interacted with each other on a personal level and customers lingered in the stores for hours. These relationships and the in-store experience is one of Starbucks’ greatest competitive advantages. It is possible that the  combination of an increase in drive-thru/pickup, smaller stores and increased digital marketing could hurt brand long term by affecting the relationship between customer and employee.

On the other hand, the higher utilization of the digital app can lower marketing costs and improve the “personalization” of the products, satisfying customers more from that standpoint. A customer’s relationship with the barista may not be what it was, but “the times they are ‘a changin’ and this may be the best approach, all things considered.


What other restaurant company would you rather put away for the next five to ten years, with confidence that  earnings and dividends are likely to grow faster than the general economy. The growth as described above will be provided by a combination of (1) reopening of stores and normalization of routines (2) transformation of the asset base (3) accelerating digital momentum (4) easing competitive dynamics, notably in China   (5) franchising or licensing of company stores outside of US (6) continued progress with industry leading Rewards program (7) modest exposure to nationwide $15 minimum wage.

In spite of the pandemic SBUX raised its dividend in 2020 by almost 10%, management has stated that it will pay out 50% of earnings in dividends going forward, and all indications are that this kind of growth can be sustained. A good case can be made that Starbucks equity is a better investment, currently yielding 1.7% and likely to grow over time, than US Treasuries, where you get a fixed 1.4% over ten years but no chance to grow your principal. If SBUX can reach its long-term goal of 10-12% EPS growth, then the dividend should grow at that rate as well and provide investors with an 11-13% annual total return. By our estimate, SBUX could be paying $2.35 per share by fiscal ’23, yielding about 2.3% on today’s purchase. The 10 year US Treasury (today yielding 1.4%) wouldn’t be yielding 2.3% unless the principal was down by about 45%, and there is a good chance SBUX equity could be up in price at that point. That’s a double barreled possible win for SBUX.

For the growth stock jockeys among our readers, Starbucks equity is selling now at the high end of its historical range,  relative to EPS and EBITDA. However, we contend that many other restaurant companies, far less attractive than SBUX  in terms of predictable growth and strong balance sheets are selling even more above  their respective ranges.  We don’t provide relative ratings for restaurant names, and we would rather not single out the least attractive situations. Let’s just say that: other than a few premier companies such as Darden and McDonald’s, adding in perhaps Cheesecake Factory and Texas Roadhouse, there are very few companies that represent comparable value to Starbucks.

Roger Lipton










I really like Starbucks. It’s my social life in the morning. Everyone in the store knows my name (Roger that!) and my drink (a grande’ soy latte’, no foam, costs $6.04 in Manhattan, including tax). It therefore costs me $2200 annually of after tax money, so it costs well over $3,000 per year, pretax, for my morning coffee experience.

On the other hand………..

As you may have heard, Panera is now offering a monthly coffee program, whereby I can get unlimited coffee for the month for $8.99, any size, any flavor. (no soy for that price, admittedly)

Burger King has been offering, since last March, a monthly coffee subscription for $5.00 per month.

McDonald’s has been offering any size coffee for $0.99. You can also get two breakfast sandwiches for $4.00, so two people can have a McMuffin and cup of coffee for $6.00 plus tax.

Wendy’s is aggressively rolling out a new breakfast program, starting today. They have been promoting “two for $4” sandwich deals for some time, so we can expect the breakfast offerings to be similar. They are planning to spend $40-50M on advertising of the introduction so we can assume they will be aggressively pricing the coffee.

Dunkin’ Brands, with an extensive selection of donuts and other pastries, sells their coffee at $2.00 a cup, more or less, a little less for a “regular”, a little more for “large”.

All these companies are clearly hoping that the customer will buy something else besides the coffee, as long as they are at the store. However, without question, the pricing environment for our morning cup of coffee is getting more competitive..


Away from the publicly traded companies, perhaps Panera, with their established reputation for the quality of their breakfast offerings, combined with their “community gathering place” comfort (pioneered by Starbucks) will see the largest incremental positive effect of their new breakfast program. The publicly held companies will be fighting each other for market share, since nobody has a  “moat”.

Relative to Starbucks: This can’t be a plus. Will it cripple them? Certainly not, but we suggest that the comps will slow rather than accelerate. If only one out of twenty customers makes a switch, it will be noticeable, and there is likely to be at least one of their competitors fairly nearby. They could sell more food but that’s already been the strongest part of their comp growth the last ten years. Their competitors sell food as well, and Starbucks doesn’t have a material edge in that regard. Stocks sell, by the way, based on the “second derivative”, the change of pace of the growth rate, still growing but  how fast?

If there were a Panera or McDonald’s between “my Starbucks” and my office, I would be sorely tempted to adjust, even if I have to make new friends. I could afford to spend another day or two on the golf course 😊

Roger Lipton


CONCLUSION: Starbucks has written the book on service and hospitality in the QSR space, creating a worldwide brand (now 32,000 stores !) in the process, admirable on many levels. There is no reason we know of that the extraordinary performance will not continue to be the case. From the standpoint of investing in SBUX, the P/E of 28.8x expected earnings in the current year, and over 20x TTM EBITDA, now growing at 8-10% annually,  seems to adequately value the equity in the next year or two. Longer term, if valuations in the general market hold up, SBUX, the stock,  should do fine as it grows materially faster than the worldwide economy as a whole.

THE COMPANY: Starbucks began in 1985 and today is considered the premier roaster, marketer and retailer of specialty coffee in the world. Currently, Starbucks operates in 81 markets around the world. Besides coffee, Starbucks sells a variety of teas and other beverages as well as a variety of high-quality food items. In recent years about 20% of company operated locations has been food. Starbucks also sells their products through other channels such as licensed stores, grocery stores and other food service outlets through their global coffee alliance with Nestle’s S.A.

Starbucks has three  operating segments: (A) the Americas which is inclusive of the U.S., Canada and Latin America, (B) International which is inclusive of China, Japan, Asia Pacific, Europe, Middle East and Africa, and (C) Channel Development. Revenue as a percentage of total net revenues for fiscal 2019 were as follows: Americas 69%, International 23% and Channel Development 8%.


DEVELOPMENT COMMENTARY: Total global store count increased 1,932 locations or 6.6% over fiscal year 2018. The greatest increase in company stores came from International markets, China in particular with 602 net new stores (629 opened and 27 closed)  bringing the total there to 3,521.  The Americas increased store count between 2018 and 2019 by 2.9% to 9,974. Licensed stores increased by 10.3%, with growth most notable in Korea, which added 103 net units to a total of 1,334, U.K adding 54 to total 707, Turkey adding 41 to 494, Indonesia adding 56 to 421 total, Philippines adding 37 to 397 total, and Thailand transferring 377 from the company to 392 total licensed at year end.


UNIT LEVEL ECONOMICS COMMENTARY: While we can calculate that the AUV, worldwide, for company operated locations is slightly under $1.4M, and the stores are very profitable to be sure, it is difficult to be precise about store level economics. Unit level results vary between markets that are spread worldwide, and licensing income and expenses come into play as the company reports by geographical segment. As a guide however, and using The Americas as the best indication, we provide the table above. Note that Cost of Goods include equipment and product sales to licensees so we calculate all expense lines against total net revenues which include license fees. With that in mind, CGS decreased in fiscal 2019 over fiscal 2018 by 90 basis point. Store Operating Expenses (including Labor and Benefit costs) increased by 110 basis points primarily driven by investments in the Labor content. On this basis, Approximate Store Level EBITDA was virtually flat at 26.6% of Total Net Revenues. It’s good to sell an addictive product 😊


SAME STORE SALES COMMENTARY: 2019 global same store sales, as indicated above, increased by 5% in fiscal 2019 driven by 3% increase in average ticket and a 2% increase in comparable traffic. In ’19, SSS was 5% in the Americas (including 2% transaction growth), 3% International (1% transactions).

RECENT DEVELOPMENTS: (Per the year end earnings release and conference call) Noteworthy developments in the year ending 9/30/19, in addition to corporate growth in units and sales cited above, include: Active Starbucks’ Rewards membership in the US  up 15% to 17.6M, returning $12B to shareholders in the form of dividends and share buybacks, benefit from the licensing of their CPG and foodservice to Nestle that was closed in late Aug.’18. Operating income in the Americas was up 5% YTY, 70 bp less than the prior year, with a 9% increase in revenues.This decreased operating margin was due to the Starbucks Leadership Experience, providing higher wages, benefits and labor hours, which was partially offset by cost savings initiatives and sales leverage. Internationally, Operating Income was up 18%, up 180 bp on a 6% increase in revenues. It was driven by 11% store growth, as well as cost savings and the conversion of certain retail business to licensed markets, partially offset by higher wages and an unfavorable product mix shift.

Fiscal 2020 guidance included global comp sales growth of 3-4%, about 2,000 new stores globally (1400 international plus 600 in the Americas), consolidated GAAP revenue growth of 6-8%,  consolidated operating income growth of 8-10% (with obviously higher operating margin), an effective tax rate of 22-24%, GAAP EPS from $2.84-$.2.89 (non-GAAP from $3.00-$3.05), capex of about $1.8B. Interesting (to us, anyway) that Bloomberg, as shown in the template above, carries the non-GAAP estimate. Whatever happened to Generally Accepted Accounting Principles?

On the conference call: Management pointed out that the fourth quarter comp of 6% in the US included transaction growth of 3% and a two year comp of 10%. China, also, had a very strong Q4, with a 5% comp including transaction growth of 2% (which this year reversed previous slightly negative transaction counts) and a two year comp of 6%. Cold beverages are helping, with Nitro Cold Brew introduced in the US last summer and The Pumpkin Cream Cold Brew this past fall. The Reward Program now has over 10 million active members in China (up 45% YTY), on top of the 18M in the US, where the program is generating 42% of store revenues. Also in China, Starbucks is now delivering to over 3,000 stores, mobile orders amounted to 10% of sales with 7 points from Delivery (only 1% of sales in the US) and 3 points from pickup. In China also, perhaps driven by the competitive efforts of Luckin Coffee, a new Voice Ordering and Delivery  by a “Tmall Genie” was introduced to enhance the mobile experience. Management also made the point that the Global Coffee Alliance, with Nestle, was EPS accretive in ’19, faster than originally expected. Overall, CEO, Kevin Johnson, summarized the strength of the Starbucks brand well. “Growth at Scale has really enabled us to ..differentiate Starbucks…the focus that we’ve put on the customer experience…the beverage innovation…..the digital customer relationships..executed with a discipline that has driven our customer connection scores to an all time high.”  We have only touched on a small portion of the various operating initiatives taking place at this premier worldwide brand. Those of our readers that are interested can access the full conference call transcript at www.starbucks.com.

CONCLUSION: Provided at the beginning of this article











Conclusion: Short and Sweet: Pass

Luckin Coffee, Inc., domiciled in the Cayman Islands, operating in China, has filed a preliminary prospectus which indicates  an IPO of $100M. However, that number is supposedly just a “place holder”. The talk is about raising $700-800M, with a total market value of about $5 billion. The last capital raise, including prestigious investors such as Blackrock, reportedly valued Luckin at about $3B.

The Chinese are drinking increasing amounts of coffee, as evidenced by the rapid development of Starbucks in China, now with 3500 stores on the way to 10,000. In terms of store growth, though, that’s nothing ! The Chinese know how to do it right. Sixteen months ago, at 12/31/17 there were 9 Luckin Coffee locations. As of 3/31/19 there were 2,370. In Q1’18: 281 locations opened (that’s on a base of nine), followed by 334 new locations in Q2 followed by 575 new locations in Q3 followed by 884 in Q4. The growth has scaled back in Q1’19 to only 297 new locations. Not to worry: 2500 new stores are planned for 2019. Talk about a fire drill  😊 Who needs Starbucks when you will soon be able to participate in the growth of Luckin Coffee?

There are three types of Luckin stores: pick-up stores (91.3%), relax stores (4.6%), and delivery kitchens (4.1%). The dominant category, pick-up stores, are only 20 to 60 sq meters in size, with limited seating,  typically located in office buildings, commercial areas and university campuses. Relax stores are generally larger, more than 120 square meters in size. Delivery kitchens are often used to enter a particular market, only deliver, and are sometimes closed once other stores are opened. The 2370 stores are located in 28 cities across 16 provinces and municipalities Delivery was a big deal here at first, 61.7% of sales in Q1’18 and 62.2% in Q2, decreasing to 51.4% in Q3, 40.8% in Q4, and 27.7% in Q1’19.

There is a 200 page preliminary prospectus, plus exhibits, and we haven’t had time to read much of it yet, but the following summary financials provide a “flavor”. The good news is that, as you might expect, costs are being leveraged as Luckin grows out of its infancy. Financials are provided for calendar 2018 and the first quarter of 2019. Comparing the first quarter of 2019 to the full year of 2018, cost of goods is lower, store rental and “other” costs are lower, sales and marketing is a lot lower, G&A is lower, pre-opening expenses is lower, the (to be expected) loss as a percentage of sales is not much more than half of what it was for all of ’18.

Before reading the following paragraph: For those of our readers that are not familiar with line by line economics of restaurants, be aware that (generally) Cost of Goods runs about 30% of revenues, Labor (30%) and Other Operating  Expenses including Rent (20%), which would total to 80% of Revenues. Marketing might be as much as 5%, G&A might be 12-15% when a chain is growing rapidly, Pre-Opening expense could be 3-5% depending on how fast the growth is.  Pretax Income could be slightly positive, depending on G&A, Marketing and Pre-Opening, even at an early growth stage. Modest profitability for a young promising chain can become more meaningful as marketing & G&A are leveraged by the larger Revenue base. With this broad template, you can now see how far the operations of Luckin to date vary from the rough parameters of a successful restaurant chain.

Pay attention now: in Q1’19: Cost of goods was 57.6% of revenues, down from 63.3% for all of calendar ’18. (our template calls for 30%) Store Rental and Other costs (no cashiers but someone has to open and close and keep supplies in the right places) were 59.0%, down from 68.5% (template calls for Labor and Other to be 50%). Sales & Marketing was only 35.1%, down from 88.7% (template calls for under 5%). G&A was 36.1%, down from 45.2% (template calls for 12-15%). Pre-opening (with only 297 locations opened in Q1’19) was 4.7%, down from 11.6% (template calls for 3-5%, closest on this one). The loss of 110.2% of Revenues was emphatically lower than the 190.1% loss for all of ’18 (template calls for roughly breakeven). You read that right: The loss before taxes in ’18 was $238M against Revenues of $125M. In Q1’19 the loss before taxes was only $78M on revenues of $71M. (Maybe Luckin Coffee could merge with Uber.)  Talk about a “leap of faith”.

What’s going on here? These are almost entirely cashless pickup locations. Dividing $71M of sales in Q1’19 by an average of 2225 stores gives quarterly revenues of $32k or $128k annualized. I couldn’t find (yet) the average investment per store but $180M has been spent in capex between inception and 3/31/19 to build 2370 stores which is about $75,000 per store. This is a long way from Starbucks. This is more like a vending operation than a retail facility. It’s already being speculated that the rapid growth of Luckin will impact Starbucks comps in China. I like to travel, but it’s a long haul to Beijing, so I’ll speculate for now that the Luckin cashless pickup or delivery “experience” is a lot different than at Starbucks.

There are lots of details provided in 200 pages of a prospectus, including details about the growth in coffee consumption in China and management makes the point that the apparent cost of customer acquisition is coming down over the last fifteen months. The 54% retention rate of customers who try the product is encouraging as well. On the other hand, I divided the $125M of sales for all of ’18 by the average number of stores for the year, which I calculated at 785 (almost 900 opened in Q4) and that calculates to average annualized sales of $159k, versus an average annualized rate of $128k in Q1. There is a chart in the prospectus that seems to confirm that the customer retention rate is somewhat lower now than at first.  My estimates could be off, especially with unknown dates of opening and Q1 could be seasonally slow, but it doesn’t look like sales per existing store are accelerating. Granted: this is so early in the process that it is impossible to know what the long term model looks like. It is a sign of the times that this uncertainty hasn’t discouraged the private equity investors (at $3 billion) or the IPO underwriters with an apparent $5 billion valuation..

Getting back to unit level economics, aside from the investment per store, it doesn’t matter how small the capex/store, or even what your sales/store are, if your CGS is anything close to 57%, if your lease and other costs are anything close to 59%, if your sales and marketing are anything close to 35%, and obviously if your G&A is close to 36% (all of which will no doubt leverage to a degree with the inevitable growth).

Suffice to say: the jury is out on this one. I can’t know what the likelihood of success of this “concept” is. The Chinese like to construct residential towers, shopping malls, and cities that have almost 100% vacancy rates, planning to fill them out over time. Perhaps customers will fill out these vending facilities or retail stores (whatever you choose to call them) over time.

In terms of the valuation: Look at it this way. If the IPO valuation is about $5 billion, and we think about an aggressive valuation of 50x earnings, it would require $100M of after tax earnings to justify the IPO price. Considering that Luckin lost $78M pretax in Q1’19 and that rate of loss is no doubt going to accelerate as 2500 stores are going to be opened in calendar 2019, safe to say that it will be quite a few years before hundreds of millions of dollars of losses turn into $100M of after tax profits. Would you say: at least five years?  So the IPO valuation will be at least five years ahead of the fundamentals and that is assuming that the whole process is successful, and of that there is at least a little doubt. Of course, markets sometimes go to extremes, and momentum driven growth stock investors could take Luckin higher after the IPO and there could be some quick money made by nimble traders. But: be careful out there.  Case in point: Shake Shack, well managed with a far more predictable model than Luckin Coffee, came public in early 2015, at $21, a ridiculous valuation at the time, and ran to almost $100/share before it retraced to $30 where it sat for almost three years before the fundamentals caught up with the valuation, and those fundamentals have generally come through as planned.

One additional caveat and further sign of the times: There will be two classes of stock here. You wouldn’t expect that the Chinese would allow US shareholders to have equal voting rights, for their $700-800M capital contribution, as the Chinese founders, would you?

Conclusion: As you might suspect, we’ll follow with interest, but pass on the investment opportunity.  Harvard Business School should do a case study on this one 🙂



We wrote an article on October 11th, discussing the three major positions in Bill Ackman’s Pershing Square Capital portfolio, within our knowledge base, that comprise a massive 41% of his $8.3 billion portfolio.

At the close of business, October 11th, Restaurant Brands (QSR) was $56.26, Chipotle (CMG) was $434.06, and Starbucks (SBUX) was $54.87. Our conclusion on October 11th was that he should switch his QSR immediately into McDonald’s (then at $163.98), sell his CMG to take advantage of the huge move since new management has been installed, and hold his SBUX (which has moved up nicely).

We have no reason to think that he has made any moves in the last several weeks, but Restaurant Brands, McDonald’s and Chipotle have all reported third quarter results. Starbucks reports tonight.

From the close of business October 11th to last night’s closing price, Restaurant Brands, at 53.06 was down 5.7%, or $85M on the $1.5B position. McDonald’s, at $178.42 was up 8.8%, so would have made Ackman’s Pershing Square Capital a profit of $132M. Chipotle closed at $465 so Ackman would have foregone a profit of 7.1% or $63M on his $900M investment.

Our advice, less than three weeks ago, to Ackman can definitely be considered “theoretical” in terms of the practical ability to switch $1.5B positions instantly, or sell $900M worth of Chipotle on the spur of the moment, and Ackman’s positions are established on the basis of long term prospects. Acknowledging that three weeks doesn’t “make a season” or prove a thesis, Ackman’s portfolio would be ($132M+85M-$63M) a cool $154M better off, or 4.5% of the $3.4B in these three positions, especially costly when all hedge fund managers are fighting for every basis point in a difficult market environment.

Our points here are (1) too many multi-billion hedge funds, and other institutions are playing hunches rather than making well informed long term judgements. This is a function of not enough really attractive reward/risk investment propositions when trillions of dollars of capital are competing to generate “alpha” after nine years of a bull market (2) there is too much emphasis on short term performance, trying to “game” the monthly comps for example,  rather than evaluate long term strategic positioning (3) in too many cases, the self confidence of multi-billion dollar money managers is unjustified. They are very smart, hard working, in many cases have become very rich (which breeds inflated egos), and can’t be expected to know as much they should about every industry. Rather than make Bill Ackman an undeserved particular example: Eddie Lampert, still a billionaire, had no chance whatsoever to turn around Sears based on his strategies, and there were lots of highly experienced retailers that could have told him so. It has taken ten years to play out, but it was clear to many of us years ago that the brilliant and successful Lampert was wasting enormous time and money on Sears.

If we were speaking with Ackman today, we would suggest that it’s not too late to adjust the portfolio. The last three weeks are history.  Let’s see what happens over the longer term.

Roger Lipton



We recently (10/5) published our updated writeup on Domino’s, a fully copy of which is provided below. Our conclusion, with the most pertinent bullet points BOLDED, was as follows:

“We have no quarrel with the consensus that Domino’s is writing the book in the pizza delivery business, and there is no apparent reason that they will lose market share to Pizza Hut or Papa John’s. We can’t help but point out, however, that the recent rate of increase in Operating Earnings (rather than the more dramatic recent EPS growth), at roughly a “mid-teen” rate, should probably be the expectation. This still admirable growth rate would be driven by a 6-8% (more likely to be closer to 6 than 8 in the near term) rate of net new stores, a mid-single-digit comp (against very tough comparisons), a bit of SG&A leverage and/or fewer shares outstanding. This year’s tax impact won’t be duplicated. Relative to the share repurchases, if we were on the Board we would not be enthusiastic about (according to Bloomberg) share repurchases at 34x ’18 earnings, 24x trailing EBITDA, 33x trailing Cash Flow and 45.3x trailing Fee Cash Flow. Even when borrowing at still low interest rates, the EPS accretion at this valuation is modest. The regular dividend, yielding 0.7% currently, has been increased each year, but perhaps shareholders would better appreciate another special dividend (last paid in 2012 at $3.00 per share), or a substantial increase in the regular dividend, rather than spending hundreds of millions to buy back stock.

We wouldn’t want to be short this fine company’s stock, and DPZ has been a fantastic holding over the last decade, but we have a feeling that “the easy money has been made”.

With that background, recent developments by way of the third quarter results were as follows:

The Q3 earnings “beat” of $1.95 vs. Street expectations of $1.75 was driven by fewer shares outstanding (43.0M vs. 47.7M) and a low tax rate. The company continued its aggressive repurchase program by spending $109.1M in Q3 at an average of $274/share and an additional $10.0M in just the first 11 days of October at $273/share. The tax rate in Q3 was only 15.3% vs. 33.3% in ’17. Income from operations was up 13.1% in Q3, up 13.3% for the nine months, so the gain has been narrowing.

Same store sales were up 6.3% domestically, barely below the expectation of 6.5%. International comps were up a more modest 3.3%. Net new units were up 232 globally, 173 internationally and 59 in the US. This was just above the 217 net new units in Q3’17, 164 internationally and 53 domestic, so the trailing twelve month continues to be right at the 6% level versus the base, at the low end of the 6-8% range over 3-5 years to which the company has guided. It is a strong commentary on the health of the system that only 21 stores (out of over 15,000) have closed in the last twelve months, 19 internationally and 2 domestically.

It was interesting to us that the comp increases, both domestically and internationally were driven by transaction growth, as well as ticket growth in the US. The Piece of the Pie loyalty program was called out as a meaningful contributor to the traffic gains. It may be an important insight, provided by management in the course of the conference call that “it is transaction count growth over time that correlates not only with sales growth, but with profit growth……our Piece of the Pie rewards program….the foundation was built on driving frequency…points are earned based on the number of purchases as opposed to the amount of dollars spent”. While there are lots of contributing factors to transaction growth, or lack thereof, we can’t help but contrast the consistent growth in comps at DPZ with the now acknowledged traffic slowdown at Starbucks since they changed their loyalty program a couple of years ago to reward dollars spent rather than transactions. Seems worth thinking about.

Otherwise, there were few surprises. Higher labor expenses continue to be a burden, and the commodity basket has been up 3-4% year to date. No guidance relative to future commodity cost was given.  There is continuing capital spending to support supply chain distribution. The Hotspot initiative is promising, with more than 200,000 locations in the US, but no operating details were given. The bulk of the conference call was dedicated to a reiteration of the long term goals, described in our full writeup from 10/5 provided below.

Conclusion: Post Q3’18 Report

Very much the same as provided a couple of weeks ago, and reprinted above. The company is doing well, and there is no reason that they can’t continue their leadership position for the foreseeable future. However, in terms of the DPZ, the stock, there is no particular material positive catalyst on the horizon that would cause a “re-rating” on the upside. We think there could be at least modest risk from this price level, in the short run, from industry -wide concerns, a general market downturn, or a modest slowdown within the operating results at DPZ.

DOMINO’S PIZZA – Updated Write-Up And Conclusion

October 5, 2018


We have no quarrel with the consensus that Domino’s is writing the book in the pizza delivery business, and there is no apparent reason that they will lose market share to Pizza Hut or Papa John’s. We can’t help but point out, however, that the recent rate of increase in Operating Earnings (rather than the more dramatic recent EPS growth), at roughly a “mid-teen” rate, should probably be the expectation. This still admirable growth rate would be driven by a 6-8% (more likely to be closer to 6 than 8 in the near term) rate of net new stores, a mid-single-digit comp (against very tough comparisons), a bit of SG&A leverage and/or fewer shares outstanding. This year’s tax impact won’t be duplicated. Relative to the share repurchases, if we were on the Board we would not be enthusiastic about (according to Bloomberg) share repurchases at 34x ’18 earnings, 24x trailing EBITDA, 33x trailing Cash Flow and 45.3x trailing Fee Cash Flow. Even when borrowing at still low interest rates, the EPS accretion at this valuation is modest. The regular dividend, yielding 0.7% currently, has been increased each year, but perhaps shareholders would better appreciate another special dividend (last paid in 2012 at $3.00 per share), or a substantial increase in the regular dividend, rather than spending hundreds of millions to buy back stock.

We wouldn’t want to be short this fine company’s stock, and DPZ has been a fantastic holding over the last decade, but we have a feeling that “the easy money has been made”.

COMPANY OVERVIEW (2018 10-K; Analyst Day Slides January 2018)

Domino’s, with more than 14,856 locations in over 85 countries around the world, is the largest pizza company in the world based on global retail sales. Founded in 1960, Domino’s roots are in pizza delivery; however, in recent years a significant amount of sales have come from carryout. On average, Domino’s sells more than 2.5 million pizzas each day.

Domino’s business model is simple – they handcraft and serve quality food at a competitive price with easy ordering access and efficient service enhanced by their technological innovations.

Domino’s generates revenue and earnings by charging royalties and fees to their franchisees. The Company also generates revenue by selling food equipment and supplies to franchisees, primarily in the U.S. and Canada, and by operating a number of Company owned stores. In Domino’s international markets, they generally grant master franchises for a geographic area. These master franchises are charged with developing their geographical area and they may profit by sub-franchising and selling food and equipment to these sub-franchisees as well as by running their own stores.

Domino’s business model yields strong returns for their franchise owners and Company owned stores. Historically, Domino’s has returned cash to their shareholders through dividend payments and share repurchases.

Domino’s pioneered the pizza delivery business and has become one of the most widely recognized consumer brands in the world. Since 1998 the Company has been structured with a leveraged balance sheet and has completed a number of recapitalization events. The Company’s most recent recapitalization transaction (in 2017) primarily consisted of the issuance of $1.9 billion of fixed and floating rate notes and the repurchase and retirement of $910.2 million of previously outstanding fixed rate notes. Following this recapitalization, the Company has $3.15 billion in total debt. Excess proceeds were primarily used to repurchase shares of common stock.


Begun in 2009, Domino’s first priority was to reinvent their core pizza, and they relaunched the brand by introducing a new recipe for their signature product. Next, they improved existing products and/or introduced new items that complimented changes to the core pizza.

Secondly, in 2013 they launched the program to reimage the stores to be more attractive for carryout customers – creating the “Pizza Theater” design which allowed customers to see the process of pizza making. Market studies and current sales trends (from NPD/Crest) had revealed the take-out business was much bigger than delivery. In 2017, delivery business equaled slightly over 1 billion occasions whereas carryout was over 2.5 billion occasions. Since Domino’s carryout focus was launched in QTR-1 2011, Domino’s share of carryout has risen from 7.5% to 14.4%. Carryout necessitates Domino’s to be closer to the customers, therefore, the Pizza Theater helped address this but what was also needed was more locations to make carryout more convenient. In their 2018 Investor Day Presentation, Domino’s management discussed this plan in some detail. It is called Fortressed Markets and is based on realigning the franchise system with programs that encourage strong franchisees that wanted to grow multiple opportunities, both to open new locations and to buy out weaker franchisees in their market areas. Since 2016, Domino’s U.S. franchise base count has moved from 1,300 to 800. This new alignment continues to drive growth with those franchisees who share the Corporate vision. Another component of the Fortressed Market program has franchisees investing heavily by splitting their markets into smaller delivery/carryout areas. According to Domino’s Internal Data (Analyst Day slides) the majority of a location’s carryout business is within 6 minutes of the store. Seattle, WA was one of the first markets to engage in Fortressed Marketing and saw AWGS increase from $20.7K to $26.3K over a 3-quarter period in 2017.

Thirdly, priority was an aggressive investment in technology (which began in 2010) to be the leader in making connections with consumers through technology that exceeded their expectations. This became an aggressive investment in building digital platforms and eventually data analytics in-house. In 2016 Domino’s developed its own digital platform to manage internal operations and customer-facing actions all with the goal to simplify ordering and payment processing and enable order tracking on virtually any communication device. The system is called GOLO (Global Online Ordering). Together with a sophisticated loyalty program (launched in 2016), the platform provides a rich source of data for its robust marketing initiatives.

While Domino’s continues to innovate around the brand’s interactive experience with consumers, nothing has been, or presumably will be, embraced or created that can disrupt operations. Domino’s has preserved the integrity of their brand with an emphasis on continuity relative to their heritage.


As of its 2018 10-K Report, Domino’s operated and franchised 14,856 units globally generating more than $10,638 billion, making them the second largest pizza chain (after Pizza Hut) in sales and the number one pizza delivery company. Approximately one-half of the global sales are generated by 5,587 domestic stores (5,195 franchise and 392 Company). The remainder is produced by 9,269 franchised stores in over 80 markets around the world. Additionally, $1.7 billion is generated from Domino’s supply chain.

Domino’s revenue is generated from multiple sources: domestic franchise fees (5.5% of franchisee sales), international master franchise fees (3.0%), domestic and GOLO digital fees, and supply chain and Company-owned store segment.

UNIT LEVEL ECONOMICS (2018 10-K; 2018 Analyst Day Slides)

From the FDD and the above sources, we estimate AUV’s of Company units are slightly over $1.2M (or about $837/sq. ft. assuming the average store size of 1,500 sq. ft.) and domestic franchised units AUV’s are about $1.0M. Disclosed average store level EBIDTA of domestic franchisees is about $136K – up from $61K in 2009 or a store level margin of 13.6%. (These figures are presumably net of royalty fees and advertising fund contributions.) The cash investment for leasehold improvements, furniture, fixtures, equipment, signage for a new store (provided from Domino’s FDD) is about $410K. Accordingly, the $136K store level EBITDA would represent a store level cash on cash return of 33.1% for a domestic franchised unit.

The supply chain provides pricing and distribution scale and consistent uniform quality ingredients to participants. It operates 18 regional dough manufacturing and food supply chain centers in the U.S. It also operates centers in Canada and leases a fleet of more than 500 tractors & trailers.


Domino’s 1, 3 and 5-year stock performance has been 24.4%, 147.3% (35.2% CAGR) and 440.9% (40.1% CAGR) respectively. Including reinvestment of dividends, total return for the same periods have been 25.3%, 153.0% (36.2% CAGR) and 457.4% (41.0% CAGR).


Domino’s continued its outstanding performance in Q2, with domestic same store sales up 6.9%, international up 4.0%. It was the 98th consecutive quarter of int’l SSS growth, only the 29th domestically. Diluted EPS was up 34.8% on a GAAP basis and 39.4% “adjusted”. Impressive as the performance is, it should be noted that Income from operations (pretax) was up a more modest (and sustainable) 11.5%, with the higher percentage increases driven by 12.5% fewer shares outstanding and a tax rate of 15.1% versus 25.7% a year earlier. There were 156 net new stores added to the system, 113 internationally and 43 domestically.

The second quarter was highlighted by the innovate launch, late in Q2, of over 200,000 Domino’s Hotspots in the US. Financially speaking, the April recapitalization included $825 million borrowed, of which $490 million paid off previously issued notes. Also in Q2, 905,556 shares were repurchased for $219M and $0.55 per share was paid in dividends.  Remaining share purchase authorization amounted to $429.9M at the end of Q2. The operating numbers above are fairly consistent with the previous quarter, though lower, and the six month increase in operating income was 13.4%.

The Conference Call provided some additional operating details.

US franchisees’ SSS were up 7%, with company stores up 5.1%. The company continues to spend a substantial sum in technology related capital spending, now expected to be $115-120M in ’18, up from a previous estimate of $90-100M.  Supply chain investment is being accelerated, including additional distribution centers in the US, to support the double digit gross sales growth. Carryout business is viewed as a separate occasion from delivery, largely incremental, and advertising is targeted accordingly. Points of distribution, including Hotspots are also being designed with that in mind. The impact of Hotspots was not clear as of the end of Q2, including the incremental effect, but should be more apparent by the end of Q3. Management is guiding to 3-6% long term SSS growth internationally, slowing a bit from the more rapid growth recently.

On a trailing twelve month basis, 905 total net new stores were added, most of them internationally, as has been the case in recent years.  There was a modest slowdown in the rate of international openings in the first half of ‘18, but that is expected to be temporary, a consolidation of sorts after opening over 1,900 net new int’l stores in 2016-2017. The estimate continues to be 6-8% annual net new units on a global basis. The 905 net new stores opened (almost exactly 6% of the 15,122 base), of which 651 were international, including only 113 in Q2, so the Q2 pace is clearly below that.

CONCLUSION: Provided at the beginning of this article.