Planet Starbucks
The story of how Howard Schultz transformed a common drink into an upscale consumer product is Business Week's cover story.
Raised in a Brooklyn public-housing project, [Schultz] found his way to Starbucks, a tiny chain of Seattle coffee shops, as a marketing executive in the early '80s. The name came about when the original owners looked to Seattle history for inspiration and chose the moniker of an old mining camp: Starbo. Further refinement led to Starbucks, after the first mate in Moby Dick, which they felt evoked the seafaring romance of the early coffee traders (hence the mermaid logo). Schultz got the idea for the modern Starbucks format while visiting a Milan coffee bar. He bought out his bosses in 1987 and began expanding....
Starbucks has grown from 17 coffee shops in Seattle 15 years ago to 5,689 outlets in 28 countries. Sales have climbed an average of 20% annually since the company went public 10 years ago, to $2.6 billion in 2001, while profits bounded ahead an average of 30% per year, hitting $181.2 million last year. And the momentum continues. In the first three quarters of this fiscal year, sales climbed 24%, year to year, to $2.4 billion, while profits, excluding onetime charges and capital gains, rose 25%, to $159.5 million.
Amazingly, with 4,247 stores scattered across the U.S. and Canada, there are still eight states in the U.S. with no Starbucks stores. Frappuccino-free cities include Butte, Mont., and Fargo, N.D. But big cities, affluent suburbs, and shopping malls are full to the brim. In coffee-crazed Seattle, there is a Starbucks outlet for every 9,400 people, and the company considers that the upper limit of coffee-shop saturation. In Manhattan's 24 square miles, Starbucks has 124 cafes, with four more on the way this year. That's one for every 12,000 people--meaning that there could be room for even more stores.... [T]he company admits that while its practice of blanketing an area with stores helps achieve market dominance, it can cut sales at existing outlets. "We probably self-cannibalize our stores at a rate of 30% a year," Schultz says.
[However, Starbucks] is large enough to absorb losses at existing stores as new ones open up, and soon overall sales grow beyond what they would have with just one store. Meanwhile, it's cheaper to deliver to and manage stores located close together. And by clustering, Starbucks can quickly dominate a local market.
To be sure, Starbucks has a lot going for it as it confronts the challenge of maintaining its growth. Nearly free of debt, it fuels expansion with internal cash flow. And Starbucks can maintain a tight grip on its image because stores are company-owned: There are no franchisees to get sloppy about running things. By relying on mystique and word-of-mouth, whether here or overseas, the company saves a bundle on marketing costs. Starbucks spends just $30 million annually on advertising, or roughly 1% of revenues, usually just for new flavors of coffee drinks in the summer and product launches, such as its new in-store Web service. Most consumer companies its size shell out upwards of $300 million per year. Moreover, unlike a McDonald's (MCD ) or a Gap Inc. (GPS ), two other retailers that rapidly grew in the U.S., Starbucks has no nationwide competitor.
The company is still capable of designing and opening a store in 16 weeks or less and recouping the initial investment in three years. The stores may be oases of tranquility, but management's expansion tactics are something else. Take what critics call its "predatory real estate" strategy--paying more than market-rate rents to keep competitors out of a location...Schultz makes no apologies for the hardball tactics. "The real estate business in America is a very, very tough game," he says. "It's not for the faint of heart."