However, the company has in general enjoyed success overseas and as a result international sales now account for 27% of operating income (2010 Starbucks Annual Report). The international division remains a key source for growth at Starbucks, in particular the Chinese market, where Starbucks has enjoyed considerable success and now sits at over 500 stores.
The company struggled in the mid-2000s due to two main factors. The first was the entry of new competitors into its space. Both Dunkin Donuts and McDonalds upgraded their coffee offerings in an attempt to win business from Starbucks. These moves were in response to Starbucks use of snack foods to win breakfast business away from fast food chains. These events reframed Starbucks’ competitive positioning. The view that Starbucks was strictly a coffee company competing against other caffeine marketers became obsolete — Starbucks was now in the quick service food industry, using coffee as its point of differentiation (Marketplace.org, 2011). This understanding of the Starbucks industry is critical to understanding its business model and its prospects for the future.
The other challenge for Starbucks during that period was the decline in the state of the U.S. economy. The United States remains by far the company’s largest market, and Starbucks has long competed on a differentiated platform, meaning that it charges premium prices for products that it markets as superior. The decline in the economy forced some consumers to “trade down” to other coffee outlets or to drinking coffee at home. This reduced income and in response Starbucks was forced to close some underperforming stores. Compounding the issue was that the company had been focused so intently on maintaining a rapid pace of growth that it had made poor real-estate decisions; strong real estate decision had been critical to the company’s early success (Allison, 2008).
Today, Starbucks has maintained its focus on its core quick service business. The featured product remains coffee, in particular high margin espresso preparations and dessert-like beverages. The company markets ancillary goods, snacks, and has a license with Pepsi to sell Starbucks coffee drinks in grocery stores. The company also markets coffee beans and equipment. Food service continues to form the bulk of the company’s revenues.
This points to Starbucks operating with essentially two sets of competitors. On one hand, the core product of Starbucks has traditionally been viewed as coffee, or more accurately caffeine. Caffeine is a popular, addictive and widely-available drug. There are innumerable mechanisms for caffeine deliver, any of which could theoretically be viewed as competition for Starbucks. Starbucks competes for the caffeine market with value-added coffee products. These products add flavors, sugars and other benefits, in addition to a premium taste. These attributes differentiate Starbucks from most competitors in caffeine delivery, and for that the company charges a premium price.
As a quick service restaurant, Starbucks uses the coffee as a means to bring customers into its restaurants, where it also sells food and snack items. This industry is a combination product/service industry that typically emphasizes speed of service and a high-volume/low-margin business model. When the competition is framed this way, Starbucks competes not only against other coffeeshop businesses, but against other quick-service restaurants that sell a combination of food and coffee. For years, many of these did not sell premium coffee, but recently some have begun to have a premium coffee offering, specifically to cut into Starbucks’ business.
Within the first set of competitors would be any caffeine company with coffee companies as the closest competitors — Sara Lee, Green Mountain, Peet’s, Coffee Holding Co and others. Within any given region there are likely to be multiple regional or local competitors with a business model similar to Starbucks. The company still must compete with drinking coffee at home, or in younger demographics with highly-caffeinated “energy” drinks. Some competitors, such as Sara Lee, are only tangential competitors and compete in many segments unrelated to Starbucks. Of the competitor group analyzed, Starbucks is the largest firm and has the best gross margin. The company has the highest EBITDA and market cap as well. With a share price of $44.19, Starbucks has a P/E ratio that is in the middle of the competitor group.
The other set of competitors in food service typically features larger firms — McDonalds is larger than Starbucks for example. Some other major firms in the industry do not have strong coffee programs and therefore are only tangentially related. This includes the company’s quick service competitors in the Chinese market, Pizza Hut and KFC, which have very little overlap with Starbucks.
Corporate social responsibility sometimes has an impact on profitability, particularly when it impacts on the customers’ purchase decisions. Starbucks is committed to having a high level of corporate social responsibility. According to the company’s Global Responsibility Report 2010, it divides its CSR responsibilities into the following categories: coffee purchasing, farmer loans, farmer/climate support, community service, youth action, front-of-store recycling, reusable cups, recyclable cup solution, energy conservation, renewable energy, water conservation and LEED certified stores (Starbucks.com, 2011). The company quantifies both its objectives and its CSR outcomes, something that is a sign of a good CSR program. Examples of these measures include 84% of coffee purchased from “ethical” sources, $14.6 million in farmer loan commitments and the sale of more than 5000 carbon credits.
Using CSR measures, Starbucks is a more ethical company than most of its competitors. Most major coffee companies do not focus on ethical, organic or sustainable coffee production. These major competitors typically purchase the cheapest beans and market their products at a low cost. Starbucks’ differentiated business model allows it to focus on fair trade coffee and remain profitable. Starbucks also scores as one of the most ethical fast food companies as well, again with few competitors even making an effort at any sort of CSR initiative.
For the most part, recent news items about Starbucks focus on the company’s current business prospects. An interesting item is that the company has just acquired a juice company, Evolution Fresh, for $30 million. This otherwise minor transaction has become noticeable because many observers believe Starbucks will attempt to build a juice business in much the same way that it has built its coffee business (Jargon, 2011). This represents a form of unrelated diversification that may see the company apply its business model and core behind-the-scenes competencies to an entirely new line of business. Past purchases have often been coffee-related, such as buying the Clover Company that makes high-end coffee machines. There is also the possibility that the company will use Evolution to build its consumer product business, which presently consists largely of the grocery-store Starbucks drinks that are made and marketed by Pepsi.
When Howard Schultz returned to the company in 2008, this marked a new direction for the company. The company improved its CSR program, with concrete targets. The company made changes to its business, even at small levels such as milk foaming. It has also increased its expansion program in Asia in order to improve its geographic diversification. The company sees future growth in building its portfolio of brands as well, and focusing on out-of-store growth. Evolution fits with this strategy.
In general, Starbucks is less focused on basic mission and vision statements and more focused on specific growth strategies. These are outlined in the 2010 Annual Report in the shareholders’ letter from the CEO. The company sees value in a number of its properties and assets and believes that it has the ability to pursue a growth strategy on a number of fronts. This will see the company selling more in grocery stores, expanding more in Asia, focusing on its Ready-to-Brew business, in addition to making adjustments to its core coffeeshop business as well.
This vision for Starbucks in the coming years contains the elements of a strong vision — it has tangible, achievable targets; it sets out a path by which the company will achieve these targets; and it provide investors with a coherent strategy that they can use to evaluate the company’s ability to meet that strategy. Investors have the same opportunity as the company to see the potential roadblocks to success and evaluate whether or not the company will be able to overcome these roadblocks.
The first component of the financial analysis will be the ratio analysis. Financial ratios based on the financial statements are a valuable analysis tool because they are consistent (as are the statements) allowing for comparison year-over-year and against competing firms as well. There are several types of ratios — liquidity, profitability, debt management and asset management.
The company’s profitability ratios are ROA, ROI, ROE, EBITDA margin, calculated tax rate and revenue per employee. The ROA is the return on assets, indicating the company’s ability to convert assets to profit. ROI is return on investments, indicating the company’s ability to turn its investment into profit. ROE is return on equity, indicating the company’s ability to convert equity into profit. EBITDA margin is the ratio of EBITDA to revenue, indicating how…