LMIJ #3: Starbucks (SBUX): Investing in Lifestyle Brands

Posted on 09. Dec, 2011 by TheFreeInvestor in General, Investing Philosophy

This is my third post in the Lessons from My Investing Journey (LMIJ) series. Here is the link to the previous posts in the series. This is a story of one of my favorite long-term investments in lifestyle brands category.

Premium Lifestyle Brand with an Addictive Product

I have been an avid drinker of Starbucks (SBUX) coffee for almost a decade now. When I reviewed Starbucks as a potential investment in early 2006, I was very impressed with the strength of the brand. Three things about the business really struck a chord with me –

No credible competitors in the premium coffee segment
An addictive product (coffee)
Well recognized and respected brand

With all the above listed points comes pricing power and competitive advantage. Once I was convinced that the business has a lot more growth potential, competitive advantage and a well-fortified brand, I decide to own the shares in this company and hold it for many years. Over years, learning from Warren Buffett’s comment about missing out on investing in Wal-Mart in its early days, I have come to conclusion that when you are buying a strong business with a well protected turf, it is better not to haggle over price too much. Again, in Starbucks history as a public company, it looked pricey most of the time before that. So, in Feb’06, I purchased few shares of Starbucks a starter position.

(* click on the chart for larger view)

At first glance, the chart above looks like a nice cozy mountain… but, it is actually the stock price chart of Starbucks for the last decade. As you can see from the chart above, my purchase was right at the top of the peak ! Nice timing. Within a year was down about 10%-15%. So, in early 2007, I bought another large chunk of shares despite caution from some of my friends. At that point, Starbucks was one of the top five positions in my portfolio.

A Painful Test of Conviction

Once I had a large part of my portfolio invested in Starbucks, the stock price promptly plummeted all the way down to less than $8 a share by Nov’08. That’s was a paper loss of about 75% on my original investment. The reason for the price drop were a result of many factors — uncontrolled stores expansion by the management, lofty valuation, loss of pricing power due to economic slowdown, growing competition and brand dilution etc. However, over all those years, I held on to my stocks even with those massive paper losses because one of the key test of a hold-decision for me is to ask myself the question — “If I didn’t own this stock, will I be a buyer today”. Even with the falling stock price and all the operational problems the company was having at that time, I couldn’t find a credible threat to Starbucks brand in long-term. And with a strong brand comes pricing power. I was confident to some extent that it is more likely that the company will operationally right the ship sooner or later. Of course, at the same time, in those dark days of recession and downturn of 2008, it was difficult to be highly convinced about any investment.

Once Howard Schultz returned to the CEO role and global economic outlook improved a bit, things started to turn around and in last couple of years, the stock has recovered to its earlier glory days. Looking forward, I am hoping that this time Starbucks will manage its growth better than last time.

Final Thoughts

The lesson I learned from my investment in Starbucks and the painful roller coaster ride is that when you are confident about the business model of a company, the best investment strategy may be “intense inactivity” after you build a full position. As long as, the business model and original thesis of investment isn’t broken, there is no need to do anything. I believe, this holds true for many of the lifestyle brands, e.g., Starbucks and Whole Foods (WFM) etc.

Do I know if Starbucks will continue to do well and holding the stock from now will generate great returns? No, I don’t know that for sure. But, the thesis of investment hasn’t changed much from years ago when I bought my first position. So, I don’t see any reason to sell at this point and hoping that it will be one of those stocks that I will hold for years more and potentially decades more.

LMIJ #2: First Marblehead (FMD): Blinded by Macro

(Disclosure: As of the publication of this post, I hold long position in SBUX, WFM, and NFLX. Please read the full disclaimer on this website.)

Tags: LMIJ, SBUX, WFM

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