Which Companies Will Make It Through

The short answer would be the ones with cash, a lower cost of capital, and pricing power.

Cash is king.

“He who holds the gold makes the rules.”

Those who have it are the ones who will come out the other side of this. Ones who don’t won’t survive.

Companies with cash to weather the economic storm will become bigger. Stronger. They’ll continue to gain economies of scale.

Take Starbucks, for example.

Many look at Starbucks as serving an overpriced cup of coffee.

Why buy a $5 latte when you can go to your local coffee shop across the street and get one for $3?

That was true before coffee started breaking out to 10-year highs.

Starbucks has $4 billion in cash on its balance sheet. It’s the rainy day fund should input (coffee, plastic, etc…) prices continue to rise… allowing it to insulate customers from higher prices should they so choose.

The local coffee shop doesn’t have that kind of money. They’re operating on thin profit margins already.

Small businesses can’t buy coffee in bulk. Nor paper or plastic. They don’t have scaled supply chains.

They can’t afford to raise wages commensurate with the market.

That’s why inflation is a small business killer. Their thin profit margins are getting thinner.

Starbucks has pricing power. Small business owners rarely do.

You know who can pay up for anything? Starbucks.

It’s why you’re seeing your local coffee shops raise prices faster than Starbucks. The five local coffee shops in our town now charge similar or higher prices than Starbucks.

Most people make choices based on cost, all things being equal. Outside of supporting your local businesses, Starbucks isn’t some overpriced coffee maker anymore.

Meanwhile, Starbucks has the global supply chain established. They have that $4 billion in cash on the balance sheet. Another $23 billion in property, plant, and equipment (PPE). And $1.8 billion in customer deposits on their mobile app.

(Customers who deposit money onto the Starbucks app go onto the liabilities side of the balance sheet. This is effectively free money as customers give Starbucks money upfront… which gives them the ability to spend it on anything in exchange for a cup of coffee, food item, merchandise, etc. at a later date.)

This allows them to borrow money much cheaper — should they need to.

So if you were a bank, who would you rather lend your money to?

Starbucks with $4 billion in cash. Another $23 billion in PPE. One of the most recognizable global brands. And $1.8 billion in customer deposits…

Or your local coffee shop down the street?

The answer is obvious.

So when times get tough, Starbucks has the lower cost of capital, too.

Therefore, if inflation remains high… Or if we are entering a recession… Starbucks is the survivor.

Apply this theory to any industry where the small business owner has to go up against the global behemoth.

Local grocery stores vs. Walmart.

Retail vs. Amazon.

Local auto part shops vs. AutoZone.

Local pizza shops vs. Domino’s.

Cheap stuff vs. Dollar General.

Consumers look for the cheapest prices — all things being equal.

Who has them?

Walmart. Amazon. AutoZone. Domino’s. Dollar General. Etc…

The behemoths have tons of cash on their balance sheet. They have a lower cost of capital. And they have pricing power.

So if times get tough… they’re the ones that can withstand the pain.

They’re the ones who will gobble up the market share when their smaller competitors go out of business due to inflation or recession.

Dog eat dog. The big get bigger.

Look through your own portfolio. Which companies are the ones fighting for their lives? And which are the behemoths?

Those are the ones that’ll manage to make it through this economic cycle.

Good investing,

Lance

P.S. Next week, I’ll write about why we aren’t adding Starbucks to our Flagship Portfolio despite them being a Trophy Asset candidate.