Starbucks Corporation

Business Analysis Spring 2007

Table of Contents
Internal Analysis
Mission and Guiding Principles...1 Products and Services..1 Product Life Cycle...2 Pricing and Differentiation..2 Marketing and Selling Strategies.3 Supply Chain3 Human Resources4

External Analysis
Economic Structure..5 Existing Competitive Rivalry..5 Potential Entrants.5 Substitute Products..6 Bargaining Power of Buyers....6 Bargaining Power of Suppliers....6 Competitor Analysis....7 Customer Analysis...7 Government and Regulatory Analysis.8 Works Cited.....9

Internal Analysis
Mission and Guiding Principles: The Starbucks mission is to establish Starbucks as the premier purveyor of the finest coffee in the world while maintaining our uncompromising principles while we grow. In order to more accurately assess the appropriateness of company decisions, the following six guiding principles were established: 1. Provide a great work environment and treat each other with respect and dignity. 2. Embrace diversity as an essential component in the way we do business. 3. Apply the highest standards of excellence to the purchasing, roasting, and fresh delivery of our coffee. 4. Develop enthusiastically satisfied customers all of the time. 5. Contribute positively to our communities and our environment. 6. Recognize that profitability is essential to our future success. (Starbucks Homepage) Products and Services Although Starbucks is known for its premium coffees, the company offers a broad product line. For example, according to the 2006 Form 10-K, Starbucks products include the following: Regular and Decaffeinated Coffee Beverages Italian Style Espresso Beverages Cold Blended Beverages Iced Shaken Refreshment Beverages Teas Sodas and Juices Packaged Roasted Whole Bean Coffees Pastries and Food Items Coffee Making equipment and Accessories Selection of Hear Music Compact Disks Games and Seasonal Novelty items Selection of Book Releases Selection of DVD Releases Beverage sales make up 77 percent of total sales, while food items make up 15 percent of total sales. Whole bean coffees account for 3 percent of total sales, and 5 percent comes from coffee-making equipment and merchandise. (Starbucks 10-K, 4) In March of 2004, Starbucks opened the first Hear Music Coffeehouse in Santa Monica, California. The Hear Music Coffeehouse is a place where customers can customize a personal music CD while enjoying Starbucks beverages. In addition to Hear Music Coffeehouses, the company plans to open Hear Music media bars, which provide a

similar experience. Finally, in fiscal 2004, Starbucks started the Hear Music radio station on XM Satellite Radio channel 75. In October of 2006, Starbucks introduced a new Ray Charles CD of unreleased songs accompanied by the Count Basie Orchestra. It debuted at #23 on the Billboard Charts, adding to Starbucks non-coffee prestige. Starbucks also introduced book releases into their entertainment offerings. Mitch Alboms book For One More Day, was released nationwide on October 3rd with in-store appearances by the author in eight markets. Starbucks has also started a partnership with iTunes to make their Hear Music available on the popular Apple Program (4th Quarter Remarks). Product Life Cycle Since Starbucks went public in 1992 with their IPO, the company has experienced phenomenal growth. Today the company operates more than 12,440 stores in 37 countries. Starbucks opened 2,199 new stores in fiscal 2006, and the company has intentions of opening an additional 2,400 stores in fiscal year 2007, with a long-term goal of operating over 40,000 stores worldwide. (4th Quarter Report) Although some may argue that Starbucks will be unable to sustain such growth rates much longer, the company has established several short-term objectives and longterm goals to ensure that growth does continue. Many may believe that Starbucks is in the final stages of growth, but according to Starbucks management, this is only the beginning.
Starbucks Total Net Revenues
9,000,000

8,000,000

7,000,000

6,000,000

Dollars

5,000,000

4,000,000

Total net revenues

3,000,000

2,000,000

1,000,000

0 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Fiscal Year End

Pricing and Differentiation Starbucks competes based on differentiation rather than price. A regular cup of coffee at Starbucks will cost more than $2.80, while a specialty cup of coffee is priced at over $4.00. Why would consumers pay so much for a cup of coffee? The answer lies in the way Starbucks differentiates itself from other coffee companies. Not only does Starbucks use premium coffee beans in their products, but they also focus on the

Starbucks Experience. When consumers buy a cup of Starbucks coffee, they buy more than the coffee. They buy the feeling associated with it. There is a certain amount of prestige that is associated with Starbucks coffee. In addition, customers enjoy the friendly atmosphere, excellent customer service, and speedy order fulfillment. All of the elements add up to form a brand that stands out from other brands. Starbucks certainly does not try to sell a low-cost coffee, but instead, an extraordinary coffee that is superior in all aspects. Marketing and Selling Strategies There is no doubt that Starbucks has become a household name. Much to the advantage of the company, enormously expensive marketing tactics are not necessary every time a new store is opened. Customers are already familiar with the brand and its implied quality and superiority. Starbucks has built this brand image over many years and many customers. The company aims to satisfy each individual customer, and prides itself on high customer satisfaction. Because of these exceptional experiences with customers, the company is able to benefit from word-of-mouth advertising. According to the Starbucks 2006 annual report, the company spent $95.4 million on advertising (Starbucks 10-K, 45). An interesting fact about Starbucks is that they do not use television advertisements as a form of marketing. Instead, the company relies heavily on in-store promotions (such as holiday assortments of food and beverages), and uses a combination of radio, newspaper, magazine and outdoor advertising (4th Quarter Report). In addition, Starbucks is very much involved in community relations. In an effort to give back to their customers, the company donates millions of dollars to local charities and sponsors numerous local events. Starbucks aims to encourage and reward volunteerism and participation in organizations that are important to our partners, including local schools, literacy programs, walk-a-thons and Earth Day activities. (Starbucks) Every Starbucks store that opens has a community charity partner that employees must work with and help support, whether thats volunteer hours or cash donations (Starbucks Speaks on YouTube). Starbucks currently has several marketing projects brewing. For example, efforts have been made to raise money for relief to Tsunami victims. In addition, the company is working in conjunction with Major League Baseball player Ichiro Suzuki to market Starbucks gift cards featuring Ichiros picture. For every card sold, Starbucks will donate $2.00 to various charities in Japan and the United States. Supply Chain Research and Development is an important component of the Starbucks supply chain. Food scientists, engineers, chemists, and culinarians are continuously working to introduce original flavors and blends of coffee products, new food products, and innovative equipment. Starbucks spent approximately $6.5 million, $6.2 million, and $5.7 million during fiscal 2006, 2005, and 2004, respectively. (Starbucks 10-K, 9) Purchasing is the next aspect of the supply chain. The coffee industry is susceptible to significant volatility of green coffee prices. Conditions such as weather and political conditions can have great impacts on supply and therefore price. However, Starbucks seeks to minimize this risk by negotiating fixed-price purchase contracts and maintaining

close relationships with suppliers. As of October 1, 2006, the Company had $546 million in fixed-price purchase commitments (Starbucks 10-K, 7). They have, however, shown practices of entering into price-to-be-fixed contracts because of the constant change in green coffee prices, leading to downward pressure on overall gross margin. In addition to the purchase of coffee beans, the company also buys considerable amounts of dairy products and paper and plastic supplies such as cups, lids, and bags. Increases in any price along the supply chain would have a negative impact on Starbucks profits. The final components of the supply chain are manufacturing and distribution. Starbucks roasts the coffee beans in roasting plants and produces its coffee in-house. Starbucks products are distributed in many ways including in-store purchasing, mail-order catalogs, website purchasing, and grocery stores. The company is constantly striving to establish more efficient distribution channels. Starbucks has also introduced its C.A.F.E. (Coffee and Farmer Equity) program for coffee purchases. This program helps ensure that Starbucks purchases coffee that is grown and processed in a sustainable manner. Their goal for C.A.F.E.-verified purchases for fiscal 2007 is 225 million pounds. Human Resources Currently, Starbucks employs over 116,100 individuals in the United States and 21,200 internationally in Company-operated retail stores (Form 10-K, 9). These individuals are called partners. Starbucks partners are viewed as an essential component to the way we do business (Starbucks). Employees are treated with respect and dignity. The company also offers a competitive compensation package for all full and part time employees. The partners are allowed to customize their own compensation package that best suits their individual needs. This total pay package is referred to as Your Special Blend. Not only does Starbucks offer competitive pay and benefits, but the company also believes in the rewards of training and education. Partners are encouraged to participate in various programs that broaden their knowledge and understanding. Such programs include Coffee Education, which orients the employee to the companys core product, Learning to Lead, a program that develops leadership skills, and Business and Communication, which trains the partner in a variety of fundamental business skills (Starbucks). Recently, the company has added a program called the Coffee Masters Program. This program trains employees to the highest level in coffee knowledge. Once completed, the employee is privileged to wear a black apron instead of a green apron. In an organization that primarily employs young individuals, one might expect turnover to be relatively high. However, this is not the case with Starbucks. Because of the fair treatment of employees, competitive compensation, and a challenging yet rewarding work environment, turnover rates at Starbucks are surprisingly low. In 2006, Starbucks' turnover rates are impressively low for the sector at 15%, compared with a median average of 30% within the coffee industry, according to the Chartered Institute of Personnel and Development's annual Recruitment, Retention, and Turnover survey (Sector Insight).

External Analysis

Economic Structure Existing Competitive Rivalry To begin the economic structure analysis, it is essential to understand the internal rivalry that exists among the industry competitors. In the coffee industry, there are many sellers. The top competitors of Starbucks include Caribou Coffee and Diedrich Coffee. Each of these companies competes based on a differentiation strategy. Starbucks seeks to sell a premium product at a premium price. However, Starbucks does not only have to worry about other specialty retailers, they must also be aware of grocery store retailers such as Nestl and Folgers (Hoovers). Packaged Facts reports that the U.S. Market for Coffee and Ready-to-Drink Coffee had sales of $34.5 billion in 2005, and is expected to grow to $48 billion by 2010. This is a positive that the market is expected to grow, but this may also lead to more rivalry as new firms want a slice of the sales and profits. Starbucks spends very little money on advertising. Instead, they rely on word-ofmouth, reputation, and convenient locations. In the event that internal rivalry was to increase dramatically, Starbucks could always increase their advertising budget. Other ways in which the company has dealt with internal rivalry is selling products online and introducing the Starbucks Card, which is a prepaid card used to purchase products. Potential Entrants The next factor to examine is the threat of new entrants. Because new entrants erode market share and profitability, management must seek to minimize the appeal of entry. Starbucks has minimized this threat in multiple ways. First, they have established a differentiated brand with a wide variety of unique coffee flavors, which has led to brand loyal customers. In addition, Starbucks has successfully positioned its stores in all major cities. The companys physical positioning reduces the number of favorable locations available to new entrants. As with many successful companies, Starbucks benefits from established access to raw materials, distribution channels, technology know-how, and the learning curve. New entrants would be faced with the task of developing a relationship with a coffee bean grower, gaining access to distribution channels, and perfecting their processes. Finally, the FDA sets forth regulations that would have to be abided by for any new entrant. Although all of these factors deter entry, new entrants would not be faced with extremely high start-up costs or put at a cost disadvantage due to large economies of scale. Therefore, although entry is always potentially difficult, it is by no means impossible. A company could possibly get a start in a local market, grow in popularity, and expand into the national market to compete with Starbucks, much like Starbucks did itself. While the process would most likely be difficult and lengthy, it is not infeasible. Starbucks itself states on page 13 of Form 10-K, A major competitor with substantially greater financial, marketing and operating resources than Starbucks could enter this market at any time and compete directly against Starbucks (2006). They go on to state that these competitors are mainly in the whole bean coffee industry. Substitute Products

Many avid Starbucks coffee drinkers would insist that there are no substitutes for a fresh cup of Starbucks coffee. It is true that most coffee drinkers will not substitute another beverage for their morning cup of coffee. Therefore, the most viable substitute for Starbucks coffee would be another brand of coffee. Because many brands are available and most are available at a much cheaper price, Starbucks must be aware of the price elasticity of demand. Many individuals are willing to pay a premium price for a high quality coffee, but because the beverage is not a necessity and there are other alternatives, the company must weigh the marginal costs and benefits of adjusting the price. Although they are not considered morning cups, substitutes such as energy drinks, soda, and tea may have an impact on Starbucks profitability. A cup of coffee is irreplaceable to some, but if a growing trend towards one of these other substitutes occurs, Starbucks would feel the effects through customer switching. This is why Starbucks must take into considerations those trends and watch them. One method of compensating for customer substitutions is to offer a diverse range of morning cups (e.g., a selection of quality teas). Bargaining Power of Buyers Starbucks is not susceptible to powerful buyers for several reasons. First of all, no individual buyer represents a large fraction of sales revenues or purchases in large volumes. Also, as previously mentioned, there are few substitutes for premium coffee. Therefore, Starbucks can offer their coffee at a set, take-it-or-leave-it price. The only credible threat that buyers pose is that of switching to another brand. Because price elasticity is relatively high, Starbucks must be certain their price is optimal. Bargaining Power of Suppliers The coffee bean suppliers to Starbucks seem to possess a considerable amount of power. For example, high quality coffee beans can only be grown in certain areas of the world. Brazil has the largest supply of coffee beans. Starbucks is very dependant on these high quality beans, and there are no substitutes. Although this may at first appear to be a problem, Starbucks has managed to establish partner-like relationships with its suppliers, and has been able to procure some beans from Ethiopia as well. Therefore, the partners work together to increase each others profitability. In addition, the purchases of Starbucks are so large in quantity that they represent a significant portion of the total sales by the supplier. Therefore, the suppliers are attentive to maintaining the relationship. Starbucks however does suffer from potential high supplier power in the form of milk and paper suppliers. Starbucks currently only has two milk suppliers and one paper supplier (2006 10-K, 7-8). They could possibly expand this to reduce the suppliers power to change prices, but in the short-run the suppliers in these two areas could place some unfair price demands on Starbucks. Competitor Analysis

As previously mentioned, the top competitors of Starbucks are Caribou Coffee, a privately held company, and Diedrich Coffee. In fiscal 2006, Starbucks reported total net revenues of approximately $7.8 billion. Its nearest competitor, Caribou Coffee had revenues of $198 million. Diedrich Coffee reported total revenues of $59.5 million. From this, it is easy to see that Starbucks holds a dominant position in the specialty coffee industry (Hoovers.com). Diedrich Coffee Inc. operates 524 retail outlets throughout 33 states and 16 countries. The company has established three brands: Diedrich Coffee, Gloria Jeans, and Coffee People. The company also pursues a differentiation strategy based on superior customer service and a unique environment. Within Diedrich stores, customers find comfortable chairs and sofas. This is to encourage relaxation. In addition, many stores often feature local musicians who perform live. Diedrich Coffees marketing effort is based on developing their brands by penetrating new and existing markets. The company relies heavily on word-of-mouth, location, and in-store promotions to raise brand awareness. Diedrich Coffee is sold at a lower price compared to Starbucks, but does not enjoy quite the prestige associated with the Starbucks brand. Although Diedrich Coffee is surviving in the specialty coffee industry, they appear to be highly vulnerable. The company has reported a net income loss from continuing operations in 2006, 2005, and 2004. (Diedrich 10-K) Caribou Coffee is a privately held company that operates 400 stores in 15 states. The company to date has not expanded internationally. Although Caribou Coffee is significantly smaller than Starbucks, it is the number two specialty coffee retailer in the United States. Like Starbucks and Diedrich, Caribou Coffee competes based on a differentiation strategy. Their stores are designed to resemble ski lodges and Alaskan cabins. The company attempts to offer not just a great coffee, but an entire outdoorsy experience. However, unlike Starbucks, the company aims to expand into smaller communities rather than high population areas. (Caribou Coffee) Caribou Coffees marketing techniques are heavily concentrated on in-store promotions, direct-mail advertising, and website advertising. The company is placing a profound emphasis on customer satisfaction. In an effort to retain profitable customers, the company encourages employees and managers to remember regular customers names. To support this effort, bonuses are directly tied to length of employment. (McCartney) Many believe that Caribou Coffee offers the greatest competition to Starbucks. The company has been able to hold its own in the past years, and is continuing to add additional stores in the United States. At this time, the company has no intentions of going international. Customer Analysis While Starbucks claims that their brand and products are well suited for the entire population, there are some obvious trends in coffee consumption. According to an article published in 2002, Seventy-five percent of Americans between the ages of 55 and 64 drink coffee out [of the home], compared with 47 percent of 18 to 24 year-olds (Dawidowska). This implies that the specialty coffee industrys primary market is getting older. Over the past years, coffee shop ads have portrayed coffee drinkers as young,

trendy, on-the-go professionals; however this has not been their primary customer base. Not surprisingly, it appears that Starbucks has realized this potential threat and is beginning to target a younger generation. Evidence of this is present in their recent marketing efforts such as the Hear Music Media Bars and Coffee Shops, Hear Music XM radio, and the Ichiro gift card. Starbucks hopes to connect with a younger generation of coffee drinkers who will patronize the company for years to come. Starbucks customers are by no means looking for a low-priced coffee. When purchasing coffee from Starbucks they expect the highest quality coffee and excellent customer service. In addition, it appears that Starbucks has become a status symbol. Those who drink Starbucks coffee feel more prestigious. This is definitely an advantage as long as the company can maintain its quality standards. The past success of Starbucks comes from an in-depth understanding of customer needs and preferences. For example, knowing that coffee drinkers consume the largest amount of coffee in the morning, Starbucks has aimed to locate its shops in high traffic areas that are convenient to pedestrians. The company also continually works to increase the speed of service. This is important because many coffee drinkers are in a hurry to get to work. Starbucks now has 1,600 Company-operated stores with Drive-Thrus to accommodate their on-the-move consumers. As for the younger generation of coffee drinkers, Starbucks understands that these consumers demand a variety of drinks and flavors as opposed to traditional coffees. Thus, Starbucks offers numerous flavor options for coffees, cappuccinos, and lattes. Government and Regulatory Analysis Compliance with government laws and regulations is vitally necessary for all profitable firms. In the case of Starbucks, the company must be sure to meet all food safety and sanitation requirements set forth by the government. This includes abiding by the current Food and Drug Administration regulations. As with any corporation, Starbucks must also abide by tax and employment laws. Starbucks has become very much a global company. Most of the companys coffee bean suppliers are outside the United States. Therefore, the company has to keep a constant check on current exchange rates and political relations with supplying countries. Furthermore, due to the fact that much of the companys future growth depends on new store openings in foreign countries, Starbucks must understand and comply with government regulations in each country of foreign investment. It is extremely important that the proper employees keep track of recent developments and law changes, in order not to jeopardize the company.

Works Cited
Caribou Coffee plans move into Corridor. Hoovers Online. Feb. 2005. KnightRidder/Tribune Business News. 24 Feb. 2005 <http://www.hoovers.com/free/co/ news/detail.xhtml? COID=106161&ArticleID=NR200502171180.3_4de4000710462067&SourceType =NEWS.> Dawidowska, Katarzyna. Caffeine Overload. American Demographics April 2002. <http://www.findarticles.com/p/articles/mi_m4021/ is_2002_April_1/ai_87109753.> Diedrich Coffee, Inc. 2006 Form 10-K. http://www.sec.gov/Archives/edgar/data/947661/000119312506197307/d10k.htm#f in80087_4 Hoovers.com. Accessed January 23, 2007. McCartney, Jim. Caribou Coffee taking on king of the hill. 19 Feb. 2005 <http:// www.icsc.org/srch/sct/current/sct9905/34.htm.> Packaged Facts. http://www.packagedfacts.com/product/print.asp?productid=1077450. Accessed January 23, 2007. Sector Insight: Coffee Beings. Written March 2, 2006. Accessed January 16, 2007 http://www.personneltoday.com/Articles/2006/05/02/35151/sector-insight-coffeebeings.html Securities and Exchange Commission. 10-K Annual Report Starbucks Corporation, 2006.

http://www.sec.gov/Archives/edgar/data/829224/000089102006000418/v24294a1e 10vkza.htm Starbucks Coffee Company Fiscal 2006 Fourth Quarter Financial Results Prepared Remarks. 2006. http://retail.seekingalpha.com/article/20789 Starbucks. Home page. January 23, 2007. <http://www.starbucks.com/.> Starbucks Speaks on YouTube. Dec. 20, 2006. Accessed January 16, 2007. http://www.idea-sandbox.com/blog/2006/12/starbucks_on_youtube.html

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