Better Buy: Starbucks vs. Dunkin'

Starbucks (NASDAQ:SBUX) and Dunkin' Brands (NASDAQ:DNKN) are both leading coffee purveyors. Both also rely on consumer discretionary spending, but that is where the similarities end.

Starbucks sells premium coffee, tea, and other beverages. It also offers specialty food items. In terms of its operating model, the company has roughly an equal number of company-operated and licensed stores, but the former accounts for about 80% of Starbucks' revenue.

Dunkin's business is very different. It does not own any restaurants and instead relies entirely on licensing to franchisees. The Dunkin' stores offer coffee and baked goods (e.g. donuts, bagels, and breakfast sandwiches), and its Baskin-Robbins restaurants serve ice cream. These are both a part of the quick-service restaurant segment. The price point is lower than on Starbucks' goods, and people are more likely to either sit down for a quick bite or grab Dunkin's beverages and food on the go.

Starbucks has outperformed the broader market over the last five years, while Dunkin' has lagged it. Starbucks may currently have the lead, but the race only starts now for those considering an investment.

DATA BY YCHARTS.

Comparing prospects

The coronavirus affected both companies' results in the first quarter. Starbucks' quarterly same-store sales (comps) fell 10%, driven by a 31% decline for its international segment.

The company reopened most of its Chinese stores under certain conditions. While it kept some U.S. stores open for drive-thru and pick-up, it recently reopened the majority of its previously shut down U.S. stores with restrictions.

Meanwhile, the Dunkin' U.S. segment, which historically has comprised nearly 50% of the company's total revenue, experienced a 2% decrease in first-quarter comps.

Starbucks and Dunkin' are in for a slow recovery, although it is worth noting that both companies were doing well before the coronavirus struck and disrupted store operations. The question is, which one offers better growth prospects going forward?

While a recession will likely hurt both, Dunkin's lower prices should allow it to hold up relatively better. In the last economic downturn, comps at its core brand fell 0.8% and 1.3% in fiscal years 2008 and 2009, respectively.

At Starbucks, comps fell 5% and 6% in the same fiscal years, which ended in late September. However, sales quickly recovered, and the company has posted positive annual comps since then.

Valuation

Starbucks trades at a higher valuation when looking at trailing price-to-earnings with a P/E ratio of 28, modestly above Dunkin's P/E of 23.

While Starbucks is relatively more expensive, it has shown consistent sales growth. Certainly, Dunkin' has an impressive track record but Starbucks' has been even better.

The decision

I like both companies. Starbucks has been opening stores in China, a growth area, while continuing to post annual comps growth in the mature Americas market for over a decade. Dunkin's complete franchise model should provide the company with more flexibility to adapt to local conditions. And in a weak economy, its lower price points should hold up well against Starbucks' premium menu. The core U.S. Dunkin' segment has posted annual comp gains for several years. 

It is a close call, but Dunkin's decision to halt its dividend, while certainly understandable and even prudent given the current environment, casts a shadow over management's view of its near-term prospects.

Starbucks' management recently stood by its current dividend on its fiscal second-quarter earnings call. While a recession may dent the company's top line more, its long-term growth potential (particularly in China), solid execution in its home market, and a sustained 2.1% dividend yield give the edge to Starbucks.

MyWallSt operates a full disclosure policy. MyWallSt staff currently hold long positions in stocks mentioned above. Read our full disclosure policy here.

Lawrence Rothman, CFA has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Starbucks. The Motley Fool recommends Dunkin' Brands Group. The Motley Fool has a disclosure policy.