Starbucks Shares Perk Up on Brighter Prospects
Shares of coffeehouse chain Starbucks (SBUX) climbed more than 15% in midday trading Wednesday after the company posted better-than-expected profits for its fiscal third quarter.
After the market closed Tuesday, Starbucks reported third-quarter net earnings of $151.5 million or 20 cents per share, beating analysts' estimates of 19 cents per share, according to Thomson Reuters, and compared to a loss of one cent per share a year earlier.
The company credited cost-cuts – mainly in the form of store closures — for the upside surprise. In a statement it said that cost savings reached $175 million, exceeding its third-quarter target of $150 million. The company plans to cut another $180 million in costs during the fourth quarter.
Cost cuts weren't the only thing boosting Starbucks' profits, however.
"We expect that sales may have been positively impacted by the recent advertising campaign and the value initiatives in place," wrote McAdams Wright Ragen analyst Dan Geiman in a July 22 report. "The results also suggest that the competitive pressures some had feared, specifically McDonald's introduction of espresso beverages and the swirl of advertising surrounding it, have had little if any negative impact on SBUX's results."
Geiman expects sales trends to continue their rebound in the coming quarters.
"SBUX can't rely on cost-cutting alone, and over the mid- to long-term must generate continued improvement on the top-line. But we think the company is making significant progress on that front and with the advertising campaign continuing, new products in its arsenal…we expect further progress in coming quarters," Geiman wrote.
The stock is already up 55% this year.
Bottom line: Buy
The future appears bright for Starbucks, which so far has proven itself equipped to handle competitors and budget-strapped consumers
Loan Losses Overshadow Wells Fargo's Big Upside Surprise
Despite beating analysts' second-quarter estimates, shares of Wells Fargo (WFC) fell more than 6% in trading Wednesday amid concerns about the bank's loan portfolio.
Earlier, Wells Fargo reported earnings per share of 57 cents for the second quarter, slightly higher than the 56 cents it reported in the previous quarter and the 53 cents it earned in the year-ago period. Analysts on average expected the company to report second-quarter earnings of 34 cents per share, according to Thomson Reuters.
Revenue hit a record $22.5 billion, up 28% from the first quarter due in part to an increase in average checking and savings deposits (up 20% from first quarter). "This inflow of new customers…has the potential to continue to add to earnings well beyond the turn in the credit cycle," said Wells Fargo CFO Howard Atkins in today's conference call.
Weighing on the strong report, are the deep credit losses the bank has incurred in part due to bad loan write-offs. Total net loan charge-offs came to $4.39 billion for the quarter (the figure includes the loan portfolio of Wachovia.) As a percentage of all of the bank's loans, these charge-offs represented 2.1%, up from 1.5% during the quarter that ended on March 31.
"While the loss amounts are directly correlated to these property values, other events affecting the consumer, such as unemployment, drive the loss frequency," said Wells Fargo chief credit officer Mike Loughlin in a statement. "Many of our home equity losses involve customers who are having problems with their first mortgage due to unemployment or over-indebtedness," said Loughlin.
While credit card charge-offs increased by $82 million to $664 million in the second quarter, the business remains profitable, according to Atkins. "Card fees grew 33% annualized in the first quarter on higher volumes, not by raising the fees we charge our customer," he said.
"The real problem is that their credit continues to deteriorate across all portfolios," says Frederick Cannon, chief equity strategist at Keefe, Bruyette & Woods. He expects that the bank will continue to make money but not at this level. The bank's mortgage banking income (from mortgages they originated and sold in the first half of the year) doesn't appear to be sustainable now that interest rates are rising again and homeowners who could refinance already did, he says. Cannon also expects the bank's loan losses to get worse before they get better.
"There's a pretty rocky road ahead for Wells Fargo…over the next year or so," says Cannon. "That said though Wells Fargo will be here for the long term and investors who have staying power should hold on."
Bottom line: Sell
Wells Fargo stock will experience more declines due to borrowers' inability to repay loans and an uncertain lending market in the near term.
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