I Was Wrong About Starbucks

Ah, remember 2008...?

George W. Bush was still in the White House; the New England Patriots blew a perfect season; the global economy went into a tailspin; and the Starbucks (Nasdaq: SBUX  ) empire was crumbling.

From a high of $40.01 in November 2006, the stock had tumbled to single-digit range by the end of 2008. I thought for sure this was its comeuppance and it wouldn't recover. Little did I know.

Spoiled milk
Up until that peak, Starbucks had been not only an amazing success story as a retailer, but also as a stock, giving investors who bought in at the 1992 IPO more than a 50-bagger. By 2006, though, Starbucks had become the butt of jokes in pop culture for its ubiquity and commoditization. The satirical newspaper The Onion, for example, once joked that a new Starbucks had opened in the restroom of an existing Starbucks.

It seemed the coffee purveyor's moment in the sun had finally faded. Brand fatigue and saturation had set in across the country. In a February 2007 memo, founder Howard Schultz expressed how the company had lost it way, diluting the brand in the process. He claimed decisions to move to automatic espresso machines and flavor-locked packaging had taken away from the customer experience, removing the "theater" of watching your drink being made and the coffee aroma from its stores.

In January 2008, Howard Schultz replaced Jim Donald as CEO, which I interpreted as a sign of desperation, and later in the year the company would close 600 stores. Finally, I thought, Starbucks' rapacious expansion had done it in.

Just the bathroom key, thanks
Personally, I was never a big fan of Starbucks. I disliked its ubiquity, and saw it as emblematic of a national landscape that's losing its small businesses and looks more and more like a strip mall every day. Did we really need 171 Starbucks in Manhattan?

�I had worked at an independent coffee shop earlier, and felt part of a culture that saw Starbucks as a corporate bogeyman that insisted on obnoxious vagaries like inventing its own words for cup sizes.

My feelings as a consumer colored my perspective as an investor as well. When the stock started to tank in 2007, I thought for sure shares would stay mired at its June 2008 price of $15 or lower. And once the financial crisis hit, I felt certain Starbucks had lost its luster. The glory days of the company seemed behind it, and the stock was destined to hum along with the economy, no longer the growth story it had been in its early years.

My wake-up call
These days, Starbucks is percolating once again. Its share price reached an all-time high on Nov. 7 this year, and the company beat estimates in its last quarterly report, posting 28.5% growth in earnings.

So where did I go wrong?

There are a number of lessons I can take from my misjudgment of Starbucks.

The importance of leadership
�I interpreted the return of Schultz as a sign of weakness and desperation. However, he was the founder; it was his vision that brought the company such success to begin with. If anyone could put Starbucks on the right track again, it was Schultz. Closing down stores and refocusing on the customer experience was the right thing to do, and it brought shareholders value in the long term.

Don't discount brand equity
Starbucks is one of the most visible and well-known brands in the country, not to mention other parts of the world. Though it may have run out of room to expand domestically, Starbucks has found an incredible opportunity in foreign markets. Starbucks has 300 store openings planned next year in the Asia-Pacific region, and expects to have 1,500 locations in China by 2015. Although domestic revenue grew 9.38% from 2007 to 2011, international store sales have surged, increasing by 54.83% over the same period.

Be wary of personal bias
While it's helpful to observe and make judgments on potential investments, you can't let your personal experience cloud investment judgment. Though I wasn't a frequent customer of Starbucks, thousands of other people obviously were. I should've realized the importance of that. It's hard to walk down a city street in the morning without seeing a Starbucks cup in a few hands.

One more cup
Another reason I'm feeling bullish on Starbucks these days: I can't even think of who would be second place in that space.

My first guess is Dunkin' Brands (Nasdaq: DNKN  ) , parent of Dunkin' Donuts. Dunkies might be known for its coffee, but its revenue and market cap aren't even a tenth of Starbucks', and it's clearly targeting a less upscale customer.

Then there's McDonald's (NYSE: MCD  ) , which followed Starbucks into the coffee market with its McCafe rollout. Though McDonald's might now be a place where you'd go for a sugary fix like a mocha, I can't see anybody behind the counter making a dry cappuccino or telling me about the daily roast.

Finally, there are Caribou Coffee (Nasdaq: CBOU  ) and Peet's Coffee & Tea (Nasdaq: PEET  ) , probably the closest you'll find to a Starbucks clone. But they're even smaller than Dunkin' Donuts, and Caribou recently closed stores.

I've decided to take my final act of penance by making a CAPScall on Starbucks. I'll be giving a green thumb to the green siren. I like their international growth opportunities, and it is clearly the preeminent coffee chain in the world. If you like the Starbucks story, and you're interested in another company with serious growth potential overseas, check out this free report on a stock our newsletters are calling the hottest IPO of 2011. You can access it by clicking here.