This paper examines the factors affecting supply and demand in the coffee industry and the strategies Starbucks employs to maintain its position as a leading global coffee retailer. The analysis focuses on non-price demand variables such as substitute products and advertising, as well as non-price supply variables including raw material costs and technology. The paper demonstrates how Starbucks addresses supply chain challenges through hedging strategies, strategic acquisitions in complementary beverage markets, and vertical integration via coffee farm ownership. By understanding these economic mechanisms, the paper illustrates how large corporations leverage market dynamics to sustain competitive advantage.
Starbucks is a corporation based in Seattle, Washington that is the third largest food retailer in the United States and one of the largest providers of coffee in the world. Coffee is a huge global industry and the fastest growing niche market business. Starbucks grows, buys, roasts, and sells whole bean and brewed coffee along with coffee accessories, equipment, tea, other beverages, and food items. The following analysis examines factors that can impact the supply and demand of coffee products and the strategies Starbucks is applying to maintain its position as a major power player in the coffee industry.
A non-price variable that can affect the demand for coffee is the price of a substitute product. A substitute product is a good or service that is purchased in greater number when a product becomes less affordable. Tea could be considered a substitute product to coffee. Both are caffeinated products that can be served hot or cold. If coffee prices increase and tea costs are lower, a consumer who gets the same satisfaction from drinking tea as drinking coffee may end up switching to the more affordable product. In this instance, a company may see an increase in market demand for tea and a decrease in demand for coffee.
One way that Starbucks is looking to control this variable is by breaking into the tea business. They purchased the Tazo tea brand in 1999 for $8.1 million and as recently as 2012, they acquired the Tea Chain Teavana for $620 million. By employing a similar business model and their mission statement, "To inspire and nurture the human spirit – one person, one cup and one neighborhood at a time," Starbucks can be just as successful in captivating tea consumers as they have been in attracting coffee consumers. By offering tea products, Starbucks gains an edge in markets where tea is the more dominant drink of choice over coffee.
Another non-price variable that can affect the demand for coffee is advertising. Advertising can have a range of impacts on consumer demand for a product or service, and the message sent through advertising can target what type of demand a business will realize. Starbucks uses social media such as Facebook, Twitter, and Pinterest to nurture existing customer relationships, promote their brand and products, and seek visibility among new customers. Starbucks also operates a website called My Starbucks Idea, where customers can submit ideas for product improvements and customer service enhancements.
Starbucks has "combined the concepts of change, experimentation, social media, customer engagement and market research and made the results key components of their dominant brand." Their positive advertising experience increases customer demand for their product. Had their advertising strategy not been as successful, Starbucks would not be as dominant a player in the coffee retail industry.
A non-price variable that affects the supply of the coffee product is the cost of the coffee bean. Coffee bean prices have been climbing higher since November 2013 due to an extensive drought in Brazil. Brazil is one of the world's largest coffee producers, so production impacts affect global supply. This drought could drive prices up in 2014 and 2015 because production will be impacted. As reported on April 16, 2014, coffee settled at $1.9505 a pound in New York on Tuesday, down nearly 6% from Monday's $2.074 a pound. It had hit as high as $2.115 a pound on March 12 and briefly hit $2.105 on Friday.
In a recent interview with Fox News, Starbucks CEO Howard Schultz explained that big coffee companies like Starbucks are able to hedge their coffee purchases by negotiating prices years in advance or in the futures market. According to Schultz, Starbucks has the prices for its coffee purchases locked in for at least twelve months. In addition, large corporations maintain stockpiles of unroasted coffee beans that could quickly be brought to market for use. Even though volatile fluctuation in coffee bean prices occurs, this may not impact the supply of large coffee retailers such as Starbucks right away since their prices are locked in for a period of time and they maintain stockpiles of unroasted coffee beans ready for use. However, the drought in Brazil would have a more serious impact on coffee bean supply for smaller coffee retailers who may not be able to negotiate prices as far in advance as larger retailers nor maintain large supplies of unroasted beans.
Another non-price variable that affects the supply of the coffee product is technology. If a company can reduce production costs through the use of technology, supply will increase. Starbucks has recently purchased a 600-acre farm in Costa Rica specifically for growing coffee. This move toward vertical integration allows Starbucks to create new coffee varieties and have better control over the quantity, quality, and cost of the coffee bean in the market. "The farm will complement five centers Starbucks operates around the world where agronomists work with local farmers to increase their yields." Starbucks CEO Howard Schultz has not ruled out purchasing more farms for research and development purposes.
"Strategic direction for continued dominance"
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