Starbucks' turnaround enters a new phase: Investors want stronger profits served

Starbucks ' turnaround is showing some progress, but investors are still waiting for the bigger payoff: a meaningful recovery in profits. CEO Brian Niccol's "Back to Starbucks" plan — aimed at improving the cafe experience — has succeeded in improving traffic and getting comparable-store sales growing again. The problem: Niccol's remedies, such as adding baristas to speed up service, are not cheap and profitability remains below historic levels. As Niccol's two-year anniversary approaches in September, investors want tangible signs that stronger sales are beginning to translate into better margins. They get a chance to spot them Tuesday night, when the coffee chain reports fiscal 2026 second-quarter results. Analysts expect Starbucks' adjusted operating margin to come in at 8.3%, according to FactSet. That would be a modest uptick from 8.2% a year earlier. It was 10.1% in the busy holiday quarter ended in December. Both figures are a far cry from the mid-to-upper teens full-year operating margin that Starbucks routinely delivered before the pandemic. It has some on Wall Street asking a pointed question with major implications for the stock: Will Starbucks ever be as profitable as before? The performance of Starbucks shares during Niccol's tenure reflects some skepticism. The stock is up roughly 7% since Niccol took over on Sept. 9, 2024. In the same period, an equally weighted basket of consumer discretionary stocks in the S & P 500 has advanced about 16%. The stock's highest close under Niccol came more than a year ago: $115.81 a share on Feb. 28, 2025. Still, Jim Cramer has liked what he's seen so far under Niccol's leadership and has been willing to give the CEO time thanks to the magic he worked at Chipotle . "A lot of people are impatient, I'm not. I just want to be with Brian," Jim said during the April Monthly Meeting . We trimmed our Starbucks position last week, locking in some gains after the stock reached $100 per share. We thought it was prudent to take some off the table ahead of earnings, but we still like it for the long-term. Jim's recent confidence stems from Starbucks' first-quarter results reported in late January. The coffee chain saw an increase in comparable transactions in North America — the focus of Niccol's revitalization thus far — for the first time in two years. That helped reassure Jim that Starbucks is trending in the right direction from an operational point of view. To be sure, many investors view meaningful margin upside as an essential part of the turnaround. Margins contracted last quarter from a year ago, and adjusted earnings per share also fell almost 20%. Certainly, we want to see improvements in profitability too. "Margins will take time. That's what we're waiting for," Director of Portfolio Analysis Jeff Marks added at the April Monthly Meeting. SBUX YTD mountain Starbucks stock performance YTD. Between fiscal 2015 and 2019, Starbucks' full-year adjusted operating margin hovered in the range of 17% to 19%, according to FactSet data. In fiscal 2025, which ended in September, it came in at 9.9%. Margins have fallen sharply as the company has had to balance higher wages, added labor hours, inflation and investments to improve customer service. Starbucks laid out a roadmap for margins and other financial targets during its investor day earlier this year on Jan. 28, projecting companywide operating margin in a range of 13.5% to 15% in fiscal 2028. However, that profit outlook disappointed some on Wall Street, including analysts at Rothschild & Co. In a reaction note to clients dated Feb. 5, the analysts noted the forecast only takes margins back to levels seen in fiscal 2024. Even the high end of the range, they said, is still two percentage points short of fiscal 2019 margin levels. The foundation for Starbucks' long-term margin expansion plan is a financial concept called "sales leverage," CFO Catherine Smith explained at the investor day. Continued top-line growth will help Starbucks maximize its fixed costs such as rent, which stay the same regardless of how many customers are served each hour. The goal is to get more of each incremental sale to fall through to the bottom line, resulting in operating income growing faster than revenue. Smith also mentioned 90 cost-savings initiatives underway such as optimizing distribution costs, renegotiating supplier contracts, and savings from recent corporate layoffs. Factoring in all these efforts, Smith said earnings growth will start to outpace sales starting in fiscal 2027, which begins in earnest in October of this year. What happened to margins? Answering why Starbucks' margins are much thinner these days starts with a simple recognition: It's business model became far more expensive after the pandemic. The cost of wages and benefits rose from 27.4% of sales in fiscal 2019 to 31.9% in fiscal 2025, according to Rothschild & Co. Starbucks increased pay and benefits more aggressively as it dealt with a tighter labor market and rising union pressure . At the same time, store operations grew more complex as mobile ordering and drink customization increased, leading to long wait times and a generally deteriorating in-store experience. These were among problems Niccol was hired to fix — and he made that a priority by adding baristas to shifts, especially during busy stretches. He's also spent money on store remodels. Input costs became another headwind. Coffee, dairy, packaging and freight all became more expensive during the inflation surge. Add all of this up, and the result was a business that needed more labor and more spending to generate each dollar of revenue. That spending push was intentional and part of Niccol's so-called Green Apron Service model, which also included technology improvements and an emphasis on engaging with customers. Nick Setyan, analyst at Mizuho, said Niccol effectively had "carte blanche" to do what was necessary to stabilize the business, including the changes to staffing levels. "One of the ways Brian was able to get the traffic to be up was by adding more people in the store," Setyan said. The tradeoff is that what helped recover the top line also weighed on profitability. Investors rewarded stronger traffic in the early innings of the turnaround and they certainly want to see that continue. In the all-important holiday quarter, Starbucks saw a 3% increase in transactions as part of a 4% increase in comparable sales. In the three months ended in December 2024, by contrast, transactions fell 8% and comps were down 4%. That's progress. Now, though, investors also want to see those stronger sales convert to into healthier profits. 'Turn every corner' Setyan said that margin recovery is "going to be very difficult to do" because many of the old levers, like pricing power, are less effective today. Consumers have been more price sensitive after years of inflation, limiting Starbucks' ability to push through menu price hikes. Price increases are "the last lever" that Starbucks will try pulling to boost margins, finance chief Smith said at the investor day. "But we recognize we need to do a little bit of price when there's inflation." In Setyan's view, labor remains the biggest swing factor. "They have to figure out a way to really optimize labor," he said, noting the need for improved productivity through better scheduling, faster service times, and more efficient deployment of workers during peak hours. He also suggested the company may also need help from technology on operations. Automation does not necessarily mean replacing baristas, but rather improving workflow, mobile orders and in-store orders by using smarter systems to reduce bottlenecks. Starbucks is certainly working on some of these things. Chief Operating Office Mike Grams said at the investor day that it intends to use technology as "a force multiplier." That includes a modernized point-of-sale system that anticipates a customers' order, he said. He also mentioned the introduction later this year of solution to pull espresso shots for cold beverages at the busiest locations. Lower costs for essential commodities like coffee and dairy would also make the job of margin expansion easier, Mizuho's Setyan said. Of course, the commodity markets are outside Starbucks' control. But one positive sign is the Trump administration rolling back tariffs on Brazilian imports in November, which has supported a broader easing in coffee prices . Still, Setyan said there's no single fix. "They've got to literally turn every corner to try to find cost savings," he said. One area Niccol has already looked is Starbucks' corporate cost structure. Last year, the company said it would lay off 1,100 corporate employees and leave several hundred roles unfilled as part of an effort to simplify its organization, remove duplication and create leaner teams. The cuts did not impact in-store workers as Niccol believes the right level of staffing is necessary to improve the customer experience. Starbucks ended its fiscal 2025 with 14,000 employees working outside its cafes — ranging from corporate support to roasting and logistics roles. That's down from 16,000 in the prior fiscal year, according to securities filings. Morgan Stanley said the path back to stronger margins may also depend on driving enough sales to absorb investments — echoing Smith's comments at the investor day. "Earnings recapture will have to be sales led," analysts wrote. "As with any good restaurant turnaround, menu and marketing must be reinforced by a better experience in store for performance to sustain," analysts wrote in an April 13 note, pointing to Starbucks' Green Apron Service initiative as an encouraging early sign. The firm has an overweight rating and a price target of $105 on the stock. Fortunately for the bulls, Morgan Stanley likes what it's seeing on the sales front in North America. Analysts raised their second-quarter comparable sales estimate for that market to 5% from 3%. Continued service and throughput improvements "have driven a step-up in sales," they said, leading to their above-consensus view. The current Q2 comparable sales consensus is growth of 4.5% in North America, according to FactSet. Just two weeks ago, when Morgan Stanley's note was published, the consensus was 3.4%. In other words, Morgan Stanley isn't the only Wall Street firm taking up its numbers. For its part, Starbucks said at its investor day it expects consistent, reliable same-store sales growth of at least 3% globally and in the U.S. over the next few years. Starbucks' North American rewards program gives the company another tool to drive traffic, support comparable sales and, ideally, margins. In March, Starbucks reintroduced tiers to bring in more value-conscious coffee drinkers with better rewards and redemption options. The revamped loyalty program is seeing early signs of boosting sales, CNBC reported last week. Customers are actively using the program's new deals, with its new 60-star redemption option being the most popular — more than a quarter of all redemptions now opting for the $2 discount off an order. The bottom line? Tuesday's report may not settle the margin debate overnight, but it could offer the clearest signal yet on whether Starbucks is building a more durable earnings engine. (Jim Cramer's Charitable Trust is long META. 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