Coffee shopINDUStry

Isaure Dacre-Wright

Richard HorganAmy Mitchell Tanali Hamlet

Why coffee shop industry?

• Based on an everyday consumer product: coffee

• Typical in the American culture

• Increase in recent years

• Attract an increasing number of consumers

Why coffee shop industry?

• Sell a good and a service at the same time

• Based on a relatively cheap raw materials

• Pricing strategy to maximize profit

overview

1. Industry Structure

2. Pricing Strategies

• Raw Data

• Results and Analysis

3. Analysis and Recommendations

Industry structure

Coffee shop Industry Products

• Drip-coffee products

• Espresso products

• Iced-drink products

• Complimentary items

Product Breakdown by revenue

Technology in the Coffee shop Industry

• Technology is used to reduce labor and costs, reduce waste, and increase sales

• Social Media and Smart Phone integration

• Redesigned kitchen layouts and ordering systems• LED displays• Communication devices

Technology in the coffee shop industry

Demand Determinants

• Sensitive to factors that impact growth in household disposable income

• Baby boomers greatly impact revenue growth

Age% Food Budget Spent Dining

OutDollar Value

18-25 46.4% $ 2,351

25-30 44.8% $ 2,668

35-50 42.3% $ 3,165

50-65 42.8% $ 2,911

65+ 37.0% $ 1,926

Spending by Income Levels

Income/year % of Market Dollar Value

Below $50,000 23.1%

$ 1,626

$50,000-$75,000 12.9%

$ 2,711

$75,000+ 64.0% $ 4,490

Total $27.8 Bln

Macroeconomic Factors

Logistics

• Business locations distributed according to the population size

• Brick and mortar locations• Drive-thrus

Firms in the Industry

• 38,868 businesses in the industry

• HHI: (36.62)+(24.52)+(2.12)+(1.62) = 1945.78 relatively concentrated

FIRMS IN THE INDUSTRY

Barriers to Entry

• Barriers to entry are low

• Medium level of fragmentation

• Entry into the market through signing a franchise agreement

• Competition among franchisees for prime real estate

Business Differentiation

• Complex Products

• Price differentiation

• Target market differentiation

• Service differentiation

The Supply Chain

SUPPLY INDUSTRIESBeef & Pork WholesalingCoffee ProductionDairy WholesalingEgg & Poultry WholesalingFish & Seafood WholesalingFrozen Food WholesalingFruit & Vegetable Wholesaling

DEMAND INDUSTRIESConsumers

Coffee &

SnackShops in the

USRELATED INDUSTRIESSpecialty Food StoresChain RestaurantsSingle Location Full-Service RestaurantsCaterersStreet VendorsBars & NightclubsFast Food Restaurants

RELATED INTERNATIONAL INDUSTRIESGlobal Fast Food RestaurantsFull-Service Restaurants in ChinaFast-Food Restaurants in ChinaFast Food Services in AustraliaCafes and Coffee Shops in Australia

KEY ECONOMIC DRIVERSConsumer SpendingHealthy Eating Index

Consumer Sentiment IndexPer Capita Coffee

Consumption

Source: IBISWorld Industry Report 72221b

Industry structure

Life Cycle Stage MATURE

Regulation Level MEDIUM

Revenue Volatility MEDIUM

Technology Change MEDIUM

Capital Intensity MEDIUM

Barriers to Entry LOW

Industry Assistance NONE

Industry Globalization LOW

Concentration Level MEDIUM

Competition level HIGH

INDUSTRY LIFE CYCLE

• Mature, some argue that it could be on the end of the Growth phase

• High “price based” competition

• Mergers and acquisitions over the past few years have changed the outlook of the industry• Carlyle Group/Bain Capital’s acquired Dunkin’

Brands• Joh. A. Benckiser acquired Peet’s Coffee & Tea

Major Players

Dunkin’ brands GROUP, inc. (1946)

• 16,800 locations in 58 countries

• Subsidiaries: Dunkin’ Donuts & Baskin-Robbins

• Dunkin’ Donuts (1950)• 10,083 stores• Sells over 1 billion cups of coffee annually

• Baskin-Robbins (1946)• 6,000 outlets in 35 countries • Services 3.7 million people weekly

5-Year Financial performance

Starbucks corporation (1971)

• Added 1,063 stores between 2012 and 2011

• Recently acquired Evolution Fresh (2011) and Teavana (2012)

• Main Products• Coffee/Coffee Accessories• Pastries• Extended Breakfast Items• Sandwiches

5-YEAR FINANCIAL PERFORMANCE

KRISPY KREME DOUGHNUTS, INC.

(1937)• Responsible for 2.1% of the market share

• Presence:• 92 Company Stores• 142 Domestic Franchise Stores• 460 International Franchise Stores (in 20 countries)

Einstein noah restaurant group, inc.

• Responsible for 1.6% of the market share

• Subsidiaries: Noah’s New York Bagels, Einstein Bros., and Manhattan Bagel

Pricing Strategies & raw data

Raw Data

• Conducted two surveys asking age range, reasons for visiting, and products purchased

• Surveys differed in the size options

• Used to test our reference pricing hypothesis

• Collected prices from 6 different coffee shops in the Ithaca market

• N=62

Pricing strategies• Nonlinear Pricing

• Second Degree Price Discrimination

• Complementary Pricing

• Price Bundling

• Reference Pricing

• Flexible Pricing

• Customer Loyalty Discounts

• Charm Pricing

• The Perception Gap

• Quality and Quantity Pricing

• Competition Pricing

Nonlinear pricing

• Characterized by marginal prices that vary with coffee size and quality

• Appear in markets where marginal or average costs change with product size

• Most common nonlinear prices are quantity discounts

• Nonlinear pricing is also used with second degree price discrimination when consumers hold private information about their tastes

Nonlinear pricing (cont.)

• Use nonlinear pricing as a screening mechanism to induce different types of consumers to buy different products

• Generally coupled with product design decisions that determine how much of a product the consumer will receive

• Screening incentives cause firms to make the small version of their product “too small”

• Allows them to collect more profit from consumers who purchase the larger version

Second degree price discrimination

• There are different groups and classes of consumers

• The seller is aware of this but cannot distinguish

• Set high, mid, and low prices and the different classes self select

• Use consumer preferences to distinguish classes of consumer

Second degree price discrimination

# Age Response Percentage%

1 18-25 20 65%

2 25-40 7 23%

3 40-65 4 12%

Total 31 100%

a.

b.

# Age Response Percentage%

1 18-25 27 87%

2 25-40 3 10%

3 40-65 1 3%

Total 31 100%

Second degree price discrimination

• Most of the coffee buyers in the Ithaca market were between the ages of 18 and 25

• Most likely undergrad and grad students who may not have as much income as a professor or working adult

• Sellers are aware of this and as such assess their coffee prices

• Prices would be relatively lower than the prices in the market in NYC

Complementary Pricing

• Common items are priced low (coffee)

• Prices of other items are higher (sandwich or baked good)

• Attract customers to store with low priced coffee

• Customers unintentionally buy the more expensive item

Price Bundling

• Bundle together a cup of coffee and a sandwich

• Large cappuccino-$3

• Sandwich-$5

• Cappuccino and sandwich-$7

Price bundling (cont.)

• Sellers must consider willingness to pay

• Must charge a price similar too or lower than consumer willingness to pay

• When competition offers similar items

Reference pricing

• To adapt to each consumer segment, different sizes for beverages are proposed

• Let consumer choose between different sizes

• More people choose the middle option when there are 3 options rather than when there are 2

• Consumer buy more coffee than they wanted

• Charged a higher price

Reference pricing (cont.)

• If your beverage of choice is only offered in two sizes, 8oz. and 12oz., which would you buy?

# Size Response Percentage %

1 8oz. 25 81%

2 12oz. 6 19%

Total 31 100%

Reference Pricing (cont.)

• If your beverage of choice is offered in 3 sizes, 8oz., 12oz., and 16oz., which would you purchase?

# Size Response Percentage %

1 8oz. 12 39%

2 12oz. 14 45%

3 16oz. 5 16%

Total 31 100%

Flexible pricing

• Sellers must determine what prices to charge in order to breakeven

• Raise or lower the prices of certain items to achieve desired profit

• Menu format makes it easy to change, and reflect costs

• Change prices in small increments

• Feature high profit items as daily specials

• Can design prices to help increase sales of certain items

Customer loyalty discounts

• Offering customers something for free or discount

• May decide to charge a discount on coffee to customers who bring their own cups

• Grow customer loyalty by offering membership discount cards or by using “buy nine get one free” cards

• Builds loyalty and repeat business

My starbucks reward

• Earn 1 star every time you pay with a registered Starbucks card or Starbucks mobile app

• Welcome Level• One use of card earns first reward; free drink or food

on birthday

• Green Level• 5 stars; free birthday drink and free refills in store

• Gold Level• 30 stars in 12 months; get all the benefits from

welcome and green level plus: personalized gold card, special offers

Charm pricing

• Sellers back off the rounded number by a few cents or a few dollars

• Makes item look less expensive, first number of price is lower

• Pushes product into lower price bracket, so it appears to cost much less

Charm Pricing (cont.)

Starbucks Ithaca Bakery

Bear Necessities

Cappuccino(12oz.) $2.85 $2.99 $2.75

Latte (12oz.) $3.35 $2.99 $2.95

Mocha (12oz.) $3.35 $3.49 $3.35

Perception Gap

• People are fine with the price of fountain soda or draft beer

• Upset with the price of coffee

• High coffee prices exist as a result of perception• At a bar you are not walking away with the glass• At a coffee shop you walk away with the cup

• Coffee drink composed of multiple ingredients and freshly prepared in front of you

• The cup, heat sleeve, the chocolate, the espresso and the milk

Quality and quantity pricing

• Starbucks• Lowering cost of standard drinks and raising prices of

specialty drinks• Maintain both sales volumes and premium brand values

• Goal: continue to find ways to balance the value they provide for customers

• Challenge: not losing customers to lower-price coffee outlets, and maintaining the brand’s premium value

• Customers still value the premium Starbucks offering, especially in specialty coffees

QUALITY AND QUANTITY PRICING

• Customers are willing to pay more to maintain an everyday luxury

• Helped the brand keep its high-earning coffee connoisseurs

• Same time attract mid-market consumers who will appreciate the added value of the lower-end coffees on the menu

Competition based pricing

• The control coffee shops have over prices is far from 100 %

• Sellers have to find a compromise between a price too low-where no money will be made and a price too high- where no one will buy products

• Prices are based on the competition, looking at what prices they set and trying to set a price similar to it or less

Analysis & RecommEndations

High margins

• Competition : Price of coffee < Price of latte

• High profit per size

• Insignificant cost for providing a higher quantity

• Illustration of reference pricing

  Hot coffee Latte

  Price

Profit/size  

Cost/oz.  Price

Profit/size 

Cost/oz. 

12oz.   $ 1.65 $1.26 $

0.033 $ 3.35 $1.75 $

0.092

16oz.   $ 1.95 $1.48 $

0.029 $ 4.05 $2.21 $

0.084

20oz.  $ 2.25 $1.70 $

0.028 $ 4.45 $2.37 $

0.079

High margins

• Profit goes up

• Price per oz. goes down

• Prices are set in order to make customers choose the bigger item.

12oz. 16oz. 20oz. $0.00

$0.20

$0.40

$0.60

$0.80

$1.00

$1.20

$1.40

$1.60

$1.80

$0.025

$0.026

$0.027

$0.028

$0.029

$0.030

$0.031

$0.032

$0.033

$0.034

Hot coffee Profit/size Hot coffee Cost/oz.

Profi

t/size

Cost per oz.

12oz. 16oz. 20oz. $0.00

$0.50

$1.00

$1.50

$2.00

$2.50

$0.070

$0.075

$0.080

$0.085

$0.090

$0.095

Profit/size Cost/oz.

Profi

t/size

Cost per oz.

Hot Coffee Latte

Trends for the future

• Mature industry

• Increase of the sales after a recession period

• New consumers

• Increase of the profit• Over the four years to 2017, consumer

spending is expected to increase at an

average annual rate of 2.8%

• International extention for the main actors

Starbucks in the world

Recommendations

• External competition: • Positioning as a specialist• Advertising: Brand and corporate communication

• Internal competition: • Variety and diversity • Level of service provided• Price level• Loyalty programs

Recommendations (cont.)

• Adapt product to current consumers concerns

• Extract the highest willigness to pay

• Attract new segments of consumers• Children• Coffee experts

• Low-cost/High profit

• Track sales to reduce the Perception Gap

Questions?