At the time of this writing, CNBC reports that a capital markets firm has downgraded Starbucks stock shares based on its analysis of current market conditions (you can read the CNBC report here)
but…look closer…Starbucks may have a winning market strategy that isn’t obvious.
Starbucks came to us as a higher end, luxury coffee with a higher price point to match. Better coffee with the flair of a story that told of coffee experiences and practices that hail from Europe. Customers could get coffee and specialty drinks that, at the time, weren’t offered at traditional bakeries or quick-service restaurants.
Customers were brought further into the Starbucks brand by using a language unique to Starbucks to tell the barista exactly how they wanted their coffee. Customers felt that they belonged and were part of something.
The coffee shop experience at Starbucks was like none other. Stepping into a Starbucks brought customers into a fashionable, yet comfortable coffee lounge where they were invited to, “plug-in,” and enjoy a warm or cool drink made just for them.
The concept of experiencing the brand eludes many organizations, but Starbucks nailed it and, in turn, could charge a higher price point while bringing in droves of customers.
At this writing, analysts have downgraded the Starbucks stock due to the risk of cannibalization of store sales. This risk is due to the number of Starbucks locations and their close proximity to each other. Another factor is that market competition is getting stiff as other coffee companies expand. Combine all of this with the disappointment of specialty drinks not bringing in as many new customers as investors had hoped, and the downgrading of shares is understandable, when we look at things from a short-term, spreadsheet perspective.
What the investment world isn’t considering is the market opportunities that come with proximity to customers (convenience for customers) and the ability to leverage brand for new opportunities. Here at The AxisPointe, we’ve seen risk become opportunity.
In this situation, there are incredible opportunities:
Analysts see the volume of Starbucks locations as risky, but it can actually be an advantage. Think McDonald’s. There are McDonald’s locations on every other corner. McDonald’s has the advantages of ubiquity and proximity to customers. It’s no secret that McDonalds is in the real estate business as much as anything else. This is on purpose. When customers are hungry or have a hankering, there’s usually a McDonald’s close by. Granted, there are customers that will go out of their way to avoid McDonald’s, but there are plenty of others that will pull in to get a burger and fries or something to drink because it’s the closest, most convenient option. To these customers, a burger is a burger. McDonald’s has had its share of beatings in the stock market, but not because of having too many locations that are too close to each other.
Starbucks can enjoy the same advantages of ubiquity and proximity to customers. With many Starbucks locations, there’s always one close by when customers need a coffee fix.
Does this cannibalize sales? Not necessarily. Starbucks can maintain market share pretty because they’ve created a strong customer base that identifies with the brand. Starbucks has become part of customers’ personal identity. When Starbucks first came onto the scene, ubiquity was not part of the brand. Customers have made it part of the brand by expecting a higher level coffee experience in general. A Starbucks-like experience. Starbucks has become the standard…it has become coffee. Starbucks can now leverage its brand awareness and customers’ understanding of the brand to be able to bring convenience to the customer at the time of need, want or a craving.
There is a school of thought that is true in many situations: The risk of ubiquity is that it often equates to commoditization, which threatens the ability to charge a higher price point.
Yes, this is true in some situations, but not in this case.
Customers are accustomed to paying a higher price point at Starbucks…as a matter of fact, they expect to.
Starbucks has minimized the risk of having to lower prices due to commoditization because of the way they’ve built their brand. This is a prime example of how brand becomes a financial asset for a company. It directly impacts the financial documents. The brand can, and should, be listed as an asset on the balance sheet and the brand has a direct, measurable impact on profitability.
What about growth?
As investors, we want to see growth in companies that we invest in. The hope was that specialty drinks would bring in new customers to drive revenue growth. What’s actually been happening is that specialty drinks are being bought by existing customers that are trying something new. This is disappointing to investors who want the immediate gratification of growth as they pay close attention to numbers. What they’re missing is that this is actually good news because specialty drinks being bought by existing customers can keep customers from going elsewhere. Starbucks can continue to protect market share and work to increase the average ticket by selling a slightly more expensive drink to existing customers. This is going to help with short-term financial expectations by protecting market share and getting small wins with existing customers to keep a steady pace for growth.
A bigger potential growth strategy is, again, the ability to leverage brand. Starbucks has been launching Reserve Bars in select cities to focus on the premium end of coffee. If this initiative is successful, this is where much of the growth will come from. The first opportunity is to be able to appeal to a new kind of customer with some overlap from existing customers. The second opportunity is to be able to push price points even higher for a very premium coffee product. This is a perfect storm for a more accelerated growth path and to be able to optimize for the long-term in parallel with short-term goals.
Market strategy that is well executed plays such a significant role in the profitability and sustainability of a business that it must be considered, even in the short-term, spreadsheet world of investing.