Introduction
The economy in trouble, the stock market tanking it is important to start your day with a good cup of coffee to take on these challenges. Can Starbuck’s sustain it business model and place in the market? The paper examines Starbucks business and it respective practices.
In 1971, the original Starbucks opened in Pike Place Market in Seattle, Washington by three partners named Jerry Baldwin, Zev Siegal, and Gordon Bowker. Their focus was to sell coffee beans and equipment. They purchased green coffee beans from Peet’s, a specialty coffee roaster and retailer, during their first year of operation. Later, they began buying coffee beans directly from the growers. In 1983, an entrepreneur by the name of Howard Schultz joined the company; Schultz felt that the company should sell coffee and espresso drinks as well as coffee beans. The partners felt that selling coffee and espresso drinks would take away from their primary focus of selling coffee beans. Since the idea did not work, Schultz started his own company called II Giornale coffee bar chain in 1985. In 1987, the original owners of Starbucks sold their chain to Schultz’s II Giornale. Schultz changed II Giornale outlets to Starbucks chains and quickly began to expand.
Starbucks coffee has grown into the largest coffeehouse company in the world with 16,120 stores in 94 countries such as in Australia, Canada, China, Puerto Rico, etc. Starbucks has thirty blends and single origin coffee. Starbucks brand coffee can also be purchased in local stores to brew at home. Starbucks employs over 140,000 employees worldwide with over five million customers a week. At one point they had typical customers coming in on an average of six times a month while loyal customers come in on an average of eighteen times a month spending averaging $50. Starbucks is one of Fortune magazine’s 100 Best Companies to work for in 2008 and is Business Ethics 100 Best Corporate Citizens for the fourth year.
Case study on Starbucks Coffee
Product Analysis
Product Overview
Starbucks product line has grown to include fresh brewed coffee, hot and iced espresso beverages, coffee and non coffee blended beverages, Tazo tea, baked pastries, sandwiches, and salads. Starbucks paraphernalia includes coffee grinders, espresso machines, coffee brewers, music CD’s, books, movies and gift cards. The global consumer products include bottled Frappuccino, iced coffee, and espresso drinks, whole bean coffee, tea, coffee liqueurs and premium ice cream.
Starbucks understands concepts of brand identity and product differentiation. They have tapped in on what the consumer perceives and had managed to identifiable differentiate themselves between other companies’ products or services. Starbucks realizes this success depends significantly on the value of the Starbucks brand while relying on its excellent reputation for their product quality, superior, and consistent customer service.
The management believes it must safeguard and develop the value and importance of the Starbucks brand in order to bring continued success in the future. The perception of brand value by the consumer is based on an array of personal qualities. Starbucks has been able to establish an ambiance of sophistication and intellect. Loyal customers enter the retail chain as an escape from their mundane lives into a serene, regal atmosphere where they proudly sip from their branded mugs. Starbucks profits from the way they make their customers feel, allowing them to portray a prominent image and feel like the upper crusted elite in society. Therefore, Starbucks brand equity and quality is synonymous with high prices and a classy image. The Company already owns and has also applied to register many service marks and trademarks both in the United States and in many countries around the world. Some of the Company’s trademarks, including Starbucks, the Starbucks logo, Frappuccino, Seattle’s Best Coffee and Tazo are all of great value to the Company. Starbucks owns numerous copyrights for items such as product packaging, promotional materials, in-store graphics, and training materials. In addition, the company also holds patents on certain products, systems, and designs and has registered and maintains numerous Internet domain names, including “Starbucks.com” and “Starbucks.net.
Market Structure
Starbucks, despite their inflated prices have been able to create a sense of brand loyalty with and array of loyal followers. Coffee is a fairly homogeneous item which Starbucks has been able to market their standards of portraying a luxurious lifestyle. Starbucks operates in a monopolistically competitive market structure in which they have been able to maintain a control over their inflated prices. They have been able to create a standard for their coffee and in which they require their customer base to be exaggerated prices for a cup of their various brews. With usage of the Starbucks logo, quality, and various trademarks, they differentiate their coffees from their competitors. Starbucks prides itself on being completely different from any other coffee house and its competitors, which is a reason why Starbucks has become so successful. The company’s strategy to focus on their core competencies to differentiate themselves has made Starbucks into a coffee powerhouse. Starbucks has mastered knowing how to benefit their customer; leverage the company widely to many products and markets, and create ideas that are hard for competitors to imitate.
Starbucks is not the only coffee shop on the market, others like Dunkin’ Donuts, McDonald’s, and Panera Bread have an identical item with similar tastes and effect as the Starbucks brew, yet they have been able to charge a premium for their blends by luring in customers with the aroma of an inflated lifestyle. There are other homogenous coffee shops in the market, but their loyal customers believe that the superior quality, taste, and aroma cannot be found from any other coffee brewing entity. At one point, their customers were more interested in the pretense that holding a Starbucks cup represented, but due to the current economic conditions, their customers have began second thinking how they are affected by the extravagant price of the black gold they have been sipping.
Operating in a monopolistic competitive society has caused the Starbucks effect to crumble. The organization has been able to maintain customers in the short run that were more interested in their details rather than price. When a business is making a profit in the short run, they will eventually reach equilibrium in the long run because their demand will eventually decrease, as we have seen in the recent times. Due to this, in the long run, this monopolistically competitive firm will result in a zero economic profit. Because Starbucks has profited on their brand loyalty, they know that some loyal customers will never depart despite the towering prices.
With the recent news of Starbucks closing six hundred store, it is evident that they have been running in a marginally inefficient business model. Most monopolistically competitive firms are marginally inefficient because production average total cost is not at the lowest point. In this event, in the long run, the marginal cost is simply less than the price of the good. This translates to the price of the Starbucks beverage to me marked up over the cost of production. The cost of producing for Starbucks may not be the most cost-effective, but it is less than the price charged for their gourmet brews. This could also explain why the price of Starbucks coffee is so high; their production costs are high and must that cost onto the customers to increase their revenue and decrease expenses.
Monopolistically competitive firms, like Starbucks are driven by mass advertising and the establishment of brand names and logos. Starbucks ambiance and products are marketed by the elevated, intellectual connotations. There are many coffee shops on the market that also offer tasty aromatic coffees, but the advertising and atmosphere of the Starbucks shops draws customers in. People are spending more on Starbucks brews because of the logo and status attached to them. Because coffee many times is virtually identical, advertisers and producers narrow in on what the consumer wants and allow their products to portray those ideals. To differentiate between like coffees, consumers must sample all types and determine what suits their tastes and lifestyles. Yet, there are too many coffee options on the market and consumers do not have the time or the funds to sample various brands. Advertisers are aware of this and therefore embark on targeted ad campaigns to attract more consumers. Starbucks attracts their customers over their competitors by their ad campaigns and serene atmosphere of success.
Competition
Starbucks main competitors are quick-service restaurants and specialty coffee shops. There are an abundant amount of competitors in the specialty coffee beverage industry. The company believes that its customers choose among retailers primarily on the basis of product service, service, price, and convenience. Starbucks, in recent times, has experienced drastic direct competition from large US competitors from quick-service restaurants. These restaurants have significantly greater marketing and operating resources than they do. Starbucks is also faced with well-established competitors in the International markets with increased competition in the U.S. ready-to-drink coffee beverage market.
Starbucks whole bean coffees compete directly against specialty coffees sold through supermarkets, specialty retailers and a growing number of specialty coffee stores. Both their whole bean coffees and coffee beverages compete indirectly against all other coffees on the market. Starbucks Specialty Operations face significant competition from established wholesale and mail order suppliers, some of whom have greater financial and marketing resources than the Company. Starbucks faces intense competition from both restaurants and other specialty retailers for prime retail locations and qualified personnel to operate both new and existing stores.
The intensity of rivalry increases as businesses try to improve their position in the industry. In order to gain new customers, competitors may reduce prices, introduce new products or substitutes, and increase marketing efforts.
For example, on February 26, 2008, Starbucks closed its operations for several hours across the board to conduct employee training. Dunkin Donuts took advantage of this opportunity to gain new customers. Dunkin Donuts offered a small latte, cappuccino or espresso drink for 99 cents from 1 p.m. to 10 p.m. during Starbucks’ shutdown.
The types of food choices, pricing and restaurant ambiance create the diversity among competitors. Customers may choose among competitors based on preference. Some competitors offer a full menu while others offer a bakery-café menu. Pricing varies among competitors as well. Starbucks pricing is considered to be higher than average. The ambiance among the competitors varies from a fast-food chain where the objective is to get fast service, while the coffeehouses ambiance is slow-paced and relaxed.
New entrants can increase the fight for market share, lowering prices, and the profitability of an industry. Some existing competitors can retaliate against new entrants to deter them from entering the industry in the first place. There are seven major barriers/obstacles to entry that make it difficult for new entrants.
Economies of scale refer to the decline in unit costs as absolute production volume increases. Starbucks can take advantage of reduced unit costs due to its specialization and expertise through volume purchase discounts from their supplies.
Starbucks retail stores can generally be found in extremely busy, accessible locations including being located directly off exit ramps to serve a wider range of customers and promote brand awareness. The stores can also be found in downtown and suburban retail settings, shopping malls, within office buildings and can even be found on university campuses. Drive Thru stores continue to develop to reach non-pedestrian customers.
Starbucks relies a great deal on information technology systems in the operations of its supply chain, point-of-sale processing, and many other business transactions. The management of these transactions greatly affects the production, distribution, and sale of its products. Any technical failure within these systems can cause delays in sales and decrease efficiency.
Starbucks utilized its Human Resources to its full capacity. Employees are required to follow Starbucks comprehensive store operating procedures and attend training classes. Starbucks realizes that its growth depends considerably on the knowledge, skills, and abilities of key executives and other employees and its ability to recruit and retain those employees.
Government policy exists to manage entry into an industry with licensing requirements regulations. Opening a coffee shop or restaurant will require obtaining certain licenses, i.e., business licenses, and tax id’s, among other possible licenses.
Despite all the barriers or obstacles associated with entry, the most significant barrier to entry is catching a niche market. Name brand franchises have ultimately captured most of the market share because of their own personal niche.
Looking for atmosphere, for a place to hang out, for velvet sofas. “We’ve known for a long time now that Starbucks is more than just a wonderful cup of coffee. It’s the experience,” says Howard Schultz. His genius understanding is that: modern brand-building is at least as much about the customer experience as it is about the actual product. (Shultz)
The threat of substitute products or services that are produced in another industry that satisfy similar needs. Starbucks experiences a high threat of substitution because any new product could be the start of the next consumer trend or craze, creating an initial high demand for that product. The highly caffeinated drinks such as Monster and Red Bull have certainly proven to be big sellers among consumers. Some former coffee drinkers now prefer to get their caffeine from the energy drinks rather than through coffee products. Soda also contains caffeine and can serve as a substitute for coffee. Water can also be a substitute product as adverse public or medical opinions about the health effects of consuming caffeine continue. While Starbucks has a variety of beverage and food items that are low in caffeine and calories, some of the other products contain high fat and calorie count have been the focus of adverse health effects. This has caused a significant reduction in the demand for Starbucks products and an increase in the demand for healthier products.
The bargaining power of buyers lowers the profitability of an industry by bargaining for more services and perhaps higher quality.
More than 77 percent of all adults over 18 — or 161 million people — drink coffee on a daily or occasional basis, the study reported. According to the 2007 National Coffee Drinking Trends Report, 18- to-24-year olds have contributed to the increases in coffee consumption in the past year (daily, weekly, and annual consumption). They are also the only age group that showed an increase in daily gourmet coffee beverage consumption. People aged 40 and up showed the largest growth in consumption of gourmet coffee beverages over the past year.
The buyers hold enough power to influence company pricing. The industry depends upon consumer spending on specialty eatery products; a lack of demand will ultimately force a firm to change its product line and to lower prices. Starbucks has recently introduced a 99 cent cup of coffee; this move will help them to compete with the lower priced competitors and the sagging economy.
Bargaining power is the capability to control the setting of prices. The more concentrated and controlled the supply, the more power it leverages against the market.
While there are many competitors in the specialty eateries industry, Dunkin Donuts, McDonalds, and Panera Bread are the main players in the industry.
Dunkin Donuts
The first Dunkin Donuts was opened in 1950 in Quincy, Massachusetts by William Rosenberg. Today, there are over 13,000 Dunkin Donuts located in 50 countries worldwide with sales of $6.4 billion in 2006. Dunkin’s headquarters is located in Canton, Massachusetts.
Dunkin Donuts is known for their doughnuts and coffee. Over the years, Dunkin has introduced new products such as bagels, muffins, breakfast sandwiches. In order to compete with the lunch crowd, Dunkin expanded their product menu to include pizzas and sandwiches. In order to compete with the specialty coffeehouses, Dunkin expanded their coffee offerings to include flavored coffees, lattes, coolattas, flavored hot chocolate and teas.
McDonalds
The first McDonald’s restaurant was opened in 1940 in San Bernardino, California by two brothers named Dick and Mac McDonald. As of December 31, 2007, there were 31,377 McDonald’s restaurants in 118 countries serving 54 million people each day. McDonald’s is the world’s largest fast-food chain restaurant.
While Starbucks is the leader in the specialty coffeehouse market, McDonalds is becoming an emerging competitor when it first upgraded its coffee in 2006. McDonald’s coffee sales increased 15% in 2006, and plans to grow coffee sales with the plan to install coffee bars in all 14,000 U.S. locations. The McDonald’s new specialty drinks, which are now in about half of the company’s nearly 14,000 US stores, already, have a following among some former Starbucks customers.
McDonalds has a larger customer demographic than Starbucks. Starbucks coffee is considered to be a luxury for the affluent, while McDonald’s caters to families with children, teenagers, adults, and senior citizens with it well-established menu offerings. Like Starbucks, McDonalds has a strong brand recognition and loyal customer base. The advantage McDonald’s has over Starbucks is that is has a considerably larger volume of traffic compared to Starbucks. While customers are stopping for a quick breakfast, lunch or dinner, they may get a specialty coffee to go too.
Panera Bread
Panera Bread was founded by Louis Kane and Ron Shaich in 1981. It was originally name Au Bon Pain Co., Inc., and later changed its name to Panera Bread Company in 1998. Today, there are more than 1160 Panera Bread bakery-cafes in 40 states in the U.S and the headquarters is located in Richmond Heights, Missouri.
Panera’s Mission Statement, “A loaf of bread in every arm.” Their strategy is to compete successfully in the breakfast, lunch, evening and take-out dinner restaurant segments.
Panera’s product line consists of baked goods, artisan and specialty breads, custom roasted coffee and espresso drinks, soups, salads, made-to-order sandwiches and gourmet pizzas. In order to compete with the breakfast competitors, Panera will be offering breakfast sandwiches in addition to bagels and muffins in March 2008.
Panera’s ambiance of casual dining is the closest competitor to Starbucks. Like Starbucks and Caribou Coffee, Panera Bread offers free WiFi to its customers. Panera’s pricing is designed so customers perceived good value with high quality food at reasonable prices which will hopefully encourage repeat customers.
Elasticity Estimates
Price elasticity of demand measures the extent to which the quantity of demand of good changes when the price of good changes. In order to determine price elasticity of demand we compared the change in quantity demanded with change in price.
Suppose Starbucks raises the price of latte from $3 dollars to $5 dollars a cup the quantity of demand would decrease. If Starbucks were to increase its price of a latte McDonalds, Panera Bread, Krispy Kreme, and Dunkin Donuts would decrease there prices in order to compete. When price rises, quantity demanded decreases along with the demand curve. This will allow price and quantity to always change in opposite directions.
Starbucks coffee has an elastic demand, some may be addicted to coffee but Starbucks coffee is a luxury not a necessity. The demand for Starbucks coffee will decrease if prices grow because of the huge market of competitor we have that offers the same good and at a cheaper price. For example “McDonalds and Dunkin’ Donuts is offering coffee at three to four dollars less than the coffee at Starbucks”. Now with the value of U.S dollars gradually falling, the incomes of consumers have diminished. As income fall, the demand of normal goods will decrease and will cause a shift in the demand curve. Starbucks is measured on luxurious good both high quality and high price.
Consumers are thinking more about necessity versus luxury. Necessity tends to have inelastic demand and it is unresponsive price change. Where as luxuries have more elastic demands quantity demand is more responsive to price change and Starbucks coffee is elastic.
Income elasticity impacts change in demand curve. When income increases the quantity of demand increases and when income decrease quantity of demand decreases. An article from Business week states “according to Oct. 5, 2006 presentation to analysts, customers who shopped Starbucks for the first time in the last year had an average income of $ 80,000 a year vs. the $ 92, 000 a year average for those who first visited five years ago. As incomes increase, some goods, for some people, become “inferior.” This just means that as income increases, these people consume more this good. Consumers will switch into a more expensive or more-prestigious good the more money they make. So if Starbucks coffee price is high customer that make enough money won’t mind the high luxury price and will still consume the latte’s Starbucks provide.
The concept of cross-price elasticity of demand measures the responsiveness of consumers of one good or service to the change in price of another. If two goods are substitutes, we expect to see consumers purchase more of the good when the price of its substitute increases. If they complement each other we should see a price rise in on good cause demand for both goods to fall. Basically impact of prices changes substitutes and complements when the price of related good changes. Cross-price elasticity of demand is used to see how sensitive the demand for a good is to a price change of another. High positive cross-price elasticity tells us that if the price of one good goes up, the demand for the good goes up as well. A negative tells us the opposite increase in the price of one good cause a drop in the demand for the other good. A small value either negative or positive would tell us that there is little relation between the two. If the cost of milk goes that would impact on the cost of latte because milk is a complement to coffee.
A big impact on sales has to do with pricing of products and sales which increase revenue growth. When a product becomes acceptable to consumers and is substituted by another that would suggest McDonalds, Panera Bread, Krispy Kreme, and Dunkin Donuts coffee strategy would hurt and severely damage Starbucks. Starbucks coffee has an elastic demand even though some may be addicted to coffee Starbucks coffee will decrease if the price grows only because of the availability from other companies such as McDonalds, Panera Bread, Krispy Kreme, and Dunkin Donuts which they will offer a much cheaper price to attract the consumers. The other firm’s prices are three to four dollars less then the coffee at Starbucks. The problem lies in Starbucks insisting on saying that they are in a different market place then McDonalds, Panera Bread, Krispy Kreme, and Dunkin Donuts. Starbucks claims that no one will switch or even think about switching or sometimes go to other companies such as McDonalds or Dunkin Donuts etc. That is just foolishness because everyone knows if you prefer Cook, occasionally you will have a Pepsi especially when it comes to saving. If Starbucks were to increase its price of a latte from $3 dollars to $5 dollars McDonalds, Panera Bread, Krispy Kreme, and Dunkin Donuts would decrease there prices in order to compete.
In comparison “vastly increase competition in coffee market. McDonalds entered into the Premium coffee selling for $1.39 for a small compare to Starbucks $1.75.” McDonalds has been aggressively markets its coffee winning breakfast time from the consumers and includes promotional items to allure them in. To which Consumer Reports indicate that they are head-to-head comparisons with the coffee from Starbucks.
Starbucks faces three major obstacles first competition especially with U.S being the fast pace economy that it is. Starbucks would have to adapt to change of the constantly growing and recession with in the industries in order to draw consumers. With competition the price of Starbucks coffees and products sales will be the central point for buying power of the consumers. Starbucks would have to make sure that the products they sell and the price are beneficial to them and the consumers. In the middle of last year I read that Starbucks is in trouble. They announced that they will close 600 stores. With the price of gas climbing Americans are making wiser choices in finance. Consumers are skipping the $4 dollars latte and going to competitors and spending less and making easier choices.
Pricing Strategy
Starbucks positions itself as a specialty premium coffee retailer and has a strong and well known brand image. As Starbucks is a premium coffee brand, its target market has always been middle and upper class with the disposable income needed to frequent the coffeehouse. One of the main reasons Starbucks has been so successful is because they focus on quality and experience rather than price. The Starbucks’ image and experience has been one of the key elements to their success. Starbucks has succeeded in giving coffee a new cachet and established themselves as a price setter through product differentiation. Consumers have been willing to pay for what they consider an elite lifestyle and many believe that the higher the price, the better the quality. Although premium brand coffee makers have some market power to set prices above the generic value brands, Starbucks operates under monopolistic completion where there are many small firms that sell similar products, therefore they do not exert complete market power in the industry.
Starbucks has, up until now, been able to take advantage of premium pricing but according to an article in Business week, “Starbucks is looking to rebound from dismal US sales as more consumers cut back on spending. In its first-quarter report last week, same-store sales – a key indicator of a retailer’s performance – dropped 10 percent. That’s worse than the 8 percent decline in the fiscal fourth quarter.”
Because there are a lot of options for the more cost conscious consumer looking to save money on coffee purchases, Starbucks felt the need to make a price change. After all McDonald’s Corp is offering new, lower-priced specialty coffee drinks and Dunkin’ Donuts is advertising value-minded deals. So when Starbucks founder ,Howard Schultz, decided to offer a $1 cup of coffee in certain stores to compete with McDonald’s and to increase existing store sales, some critics thought it may have done more harm than good. Their thoughts were that the decrease in price may have implied that there is nothing more to Starbucks than coffee. By offering a cheap cup of coffee, Schultz may be reducing the company to commodity status, and the natural result being a price war. No longer is buying a cup of Starbucks coffee an experience. But because coffee is an elastic product in which price controls demand, Starbucks may want to consider a small decrease in their price to increase demand which will increase revenue and allow them to be more competitive.
Pricing decisions also serve as a marketing tool and is one of the most compelling attributes of product positioning. It makes a very clear statement about how a consumer should perceive a product. Starbucks cannot become the low price leader; it takes away from the brand image and ambience that they are known for.
When Starbucks became a major competitor, it was because the company’s environment was like none other and focuses on the benefit of the customer. People considered Starbucks as a “third place” after home and work. Howard Schultz’s vision was not to build a coffee shop, but instead build a company that treats people with dignity and respect. He wanted to establish a place where you can go relax and have a delicious coffee and smother yourself in a comfortable seat that makes you feel like you’re sitting on your living room couch. Ear pleasuring music will be consuming your background and make a customer feel as if they are at their home away from home. Or a place where you can bring your laptop and get some work done if there were any distractions at home or work. Starbucks is also the type of place where you can meet a friend, stay and talk for hours, and feel like you’re the only two people in the place.
Customers and employees as well receive an experience for Starbucks, in which Starbucks constantly strives to pleasure everyone around them. The environment is so inviting, relaxed, and probably trendier than most people’s living room, and at the same time, quick paced if you need a coffee to-go. Starbucks has set an environment where the relationship between customers and employees sets the company apart from other coffee shops. Starbucks sets a different type of trend than any other coffee house that seems to be contagious to customers and even other companies.
One area of business that Starbucks spends the least amount of their money on is its advertisements compared to competitors. Schultz believes that experience beats ads. In an article from Businessweek.com “Starbucks: Keeping the Brew Hot”, explains that given that philosophy of experience beats ads, conventional advertising has been no real significance to the growth of the Starbucks brand. Rather, it has been the store experience that has defined the brand. This begins with the quality and intense flavor of the coffee. But equally influential are the store design and ambiance as well as the recruitment and training of the “baristas,” the counter staff whom Schultz regards as his brand ambassadors.
Instead of putting millions into image-building campaigns, Starbucks has chosen to spend its money on employee benefits. Starbucks was one of the first companies to offer part-time employees equity and health benefits, unlike its competitors in which it’s hard for them to imitate.
Starbucks has also created projects that have given back to the community, created recyclable products, and has branched off into different brands, which has brought the company to another level. Starbucks constantly strives to be different and better than everyone else and if they stick to their core competencies, the company will continue to be successful.
Since Dunkin Donuts is a privately held company, no financial information is available to determine its share of the market. But based on the amount of stores that Dunkin Donuts has, it would be safe to assume that they have captured much of the market. And because McDonalds serves many more products than the other key competitors, it may be extremely difficult to report accurate market share information.
Based on the information that is available, McDonald is the market leader. Starbucks market share has been increasing steadily over the last couple years, but Panera Bread has the largest increase in market share over the past year. Meanwhile, McDonalds, Krispy Kreme, and Caribou Coffee have been decreasing.
There are four ways that companies can do to improve market share. Make a better product than that of the competitors, change the price or offer special incentives for buyers, such as discounts or sales, find new distribution channels to reach more consumers, advertise and promote the products. Although the price appears to be higher than most of their competitors, the fact that the coffee contains more caffeine per cup, that one cup may be enough for the entire day. This could actually save both time and money opposed to having to buy more than one cup.
Starbucks relies on its relationships with coffee producers, outside trading companies, and exporters for its supply of green coffee. The company is dedicated to selling only the finest whole bean coffees and coffee beverages therefore it purchases green coffee beans from coffee-producing regions around the world. Because the supply and price of coffee are subject to significant unpredictability, the company tends to trade on a negotiated basis at a significant premium above commodity coffee prices. The amount negotiated depends on the supply and demand at the time of purchase. Supply and price can also be affected by other factors in the producing countries, including weather, political and economic conditions. Agreements establishing export quotas or by restricting coffee supplies have also affected price. Due to unpredictability in the prices, the company has largely used fixed-price purchase commitments to be sure they have enough of a supply of quality green coffee and control the price. This contract states the quality, quantity, and delivery of the coffee.
Forecast
Determents of Demand
Determinants of demand consist of 1) price, 2) the incomes of consumers, 3) the prices of related goods and services, 4) the tastes of preferences patterns of consumers, 5) the expected price of the product in future periods, and 6) the number of consumers in the market. These variables change the quantity demanded at each price and determine where the demand curve is located.
Price—with all other things remaining constant, as the price rises, the demand will fall and inversely, as the price falls, the demand will rise.
As the price of Starbucks coffee increases, the demand for that particular brand of coffee will decrease. In this event, many people may choose not to drink Starbucks coffee and decide to switch to a less costly alternative such as frequenting a lower cost coffeehouse, purchasing coffee at a gas station, or perhaps even brewing their coffee at home. Other alternatives to coffee, such as teas, energy drinks, or any caffeinated beverage may also take the place of coffee. As the price of Starbucks coffee falls, consumers will demand more of the coffee because it will be more affordable.
For example, if the price of a cup of coffee went up by $0.25, consumers could replace their morning caffeine with a cup of tea. However, if the price of caffeine were to go up as a whole, we would probably see little change in the consumption of coffee or tea because there are few substitutes for caffeine. Most people are not willing to give up their morning cup of caffeine no matter what the price.
Income — as income increases the demand for a product will increase as well. As income declines, the demand for the goods will go down as well.
In today’s economy, many people have been losing their jobs or have had their income reduced. As a result, consumers have had to cut back on non-essential items such as higher end coffees like Starbucks. Many people will no longer be able to afford the $4-5.00 specialty beverage. When income increases, people have more disposable income therefore are able to treat them to a specialty beverage.
Complements –If the price of the complement rises, the demand for the product falls. If prices of the complements go down there will be a higher demand for the product. Complements of Starbucks coffee can be milk, cream, sugar, sugar substitutes, and flavored syrups. For example, if the price of sugar should increase, many consumers may be unwilling or unable to purchase it and opt for another alternative, which would decrease the demand for coffee. On the other hand, if the price of sugar goes down, consumers will be able use it for many more things including sweeten their coffee.
Substitutes– As the price of the substitute rises, the demand for the product rises. As the price of the substitutions goes down, the demand for them will increase.
Substitutes for Starbucks coffee could include cheaper coffees, teas, hot cocoa, water, energy drinks, soda, and caffeine pills. If the price of any of these substitutes should rise, the demand for coffee will rise because consumers will be unable or unwilling to pay the additional price and switch back to coffee.
Tastes— As preferences for a particular good or service changes, so will the demand for the item. If people enjoy drinking and develop a preference for the stronger tasting Starbucks coffee, they will want more of it. If consumer do not like the stronger tasting Starbucks coffee, the will want less of it. Income changes and lower priced substitutions could affect their tastes and a cheaper priced alternative could become a new preference.
Expected prices— If a consumer expects that a price of a certain commodity will rise than they may opt to stock up on the product as the lower price before it goes up. Inversely, consumers may believe that a price of a good will be reduced, they will hold off on purchasing the product until the price goes down to the lower rate. Many consumers may stock up on Starbucks coffee beans if they know that the price is going to be increasing in the near future. On the other hand, consumers may wait to make their Starbucks purchase if they know the prices are going to drop in the near future.
Number of consumers– If there are more buyers than there must be more of a market demand.
The more consumers, the more demand. The higher the demand for a good the higher the prices will rise.
State technology—Producers will search for advanced, economical technology so the cost of producing Starbucks coffee will decrease. The lower the cost in production of the coffee results in a higher supply due to the cost effectiveness of the production. According to Starbucks 10k report, Starbucks relies heavily on information technology systems across its operations, including for management of its supply chain, point-of-sale processing in its stores, and various other processes and transactions. The Company’s ability to effectively manage its business and coordinate the production, distribution and sale of its products depends significantly on the reliability and capacity of these systems. The failure of these systems to operate effectively, problems with transitioning to upgraded or replacement systems, or a breach in security of these systems could cause delays in product sales and reduced efficiency of the Company’s operations, which results in higher production costs.
Expected price of the good—Producers may withhold production of Starbucks coffee in the current period if they expect the price of coffee to rise. They will be more willing to sell the coffee at a higher price rather then selling and producing at the lower price.
Number of firms— The higher the number of coffee suppliers in the industry the higher the supply of coffee in the industry. There will be more coffee to go around for the consumers. If there are more buyers than there must be more of a market demand. The more consumers, the more the demand. The higher the demand for a good the higher the prices will rise.
Forecasting
Sales forecasting is the process of estimating what the business’s sales are going to be in the future. Sales forecasting is an important part of business management. Starbucks cannot manage inventory, cash flow, or plan for growth without an idea of what future sales are going to be. A business’s sales revenue from the same month in a previous year, combined with knowledge of general economic and industry trends, work well for predicting a business’s sales in a particular future month.
There are various forecasting models that can be used for forecasting sales for coffee. Two methods are qualitative and quantitative. The qualitative method uses subjective judgment based on non-quantifiable information, such as management expertise, industry cycles, research, development, and labor relations. The qualitative method does not require a demand history for the product or service. The quantitative method is a research method that relies on interviews, observations, and a small number of questionnaires, focus groups, subjective reports and case studies. Much of the focus is on collection and analysis of numerical data and statistics.
Starbucks is subject to a number of significant risks through qualitative and quantitative methods that might cause the company’s actual results to vary materially from its forecasts, targets, or projections. The significant risks involved are lower customer traffic or average value transactions. These negatively impact comparable store sales, net revenues, operating income and earnings per share. These risks are due to the impact of initiatives by competitors and increased competition with lack of customer acceptance of price increase to cover costs of new products. Delay in store openings for reasons beyond the company’s control, or lack of desirable real estate locations available for lease at reasonable rates, both of which could keep the company from meeting annual store opening targets and in turn negatively impact net revenues, operating income and earnings per share. Other risks are material interruptions in the company supply chain beyond its control, such as material interruption of roasted coffee supply due to the casualty loss of any of the Starbuck’s roasting plants or the failures of third-party suppliers, or any interruptions in service by common carriers that ship goods within the company’s distribution channels.
The qualitative method is best used for forecasting the next three years since it emphasizes on real time expert’s research and analysis. The numbers are variable and subject to change based on opinions from consumers and by far the economical changes that have the greatest impact on sales!
Conclusion
Starbucks has had much market power in the gourmet coffee industry. They have attracted customers by an experience of an upscale French coffee shop with a neighborhood feel. All are welcome to join the bandwagon as long as they are willing to pay the price for premium. In the current economic state, their prices have caught up to them causing their demand to decrease. Peopledo not want to spend their limited income on premium coffees that they can get from any of their competitors, like Dunkin’ Donuts, McDonalds and Panera Bread
Starbucks has been forced with the changing times and the economy to drive down their prices to compete in the industry. The closing of stores and the reduction of staff proves that their pricing model only projected a short term profit, as in the case of any firm operating in a monopolistic competition. Whatever forecasting models Starbucks has projected does not hold true as the income effect and added popularity of their competitors began monopolizing the premium coffee market. This proves that the price of coffee is elastic and if prices are high than the demand for the good will decrease.
Many outside factors also contribute to Starbucks losing its brand appeal. People have begun to realize that they have alternatives to purchasing Starbucks coffee and still sample the luxurious blend by brewing it at home themselves. Customers no longer follow the hype supported by the Starbucks name and are becoming more price/value oriented. To remain a major player in the coffee shop market, Starbucks must reinvent themselves with the changing lifestyles, tastes and react to the alternatives within the market.
