SEATTLE & OAK BROOK, Ill. -- A long line of retailers have been tempted into rapid store growth to maximize sales, only to hit a wall and need to shrink. Starbucks may be the best example, said The Wall Street Journal. Morgan Stanley's John Glass told the newspaper that Starbucks added U.S. stores at an annual 27% rate from 1995 to 2005, reaching almost 12,000. That is even faster than the 17% rate of McDonald's from 1965 to 1975.
That changed a few years ago, when sales began to weaken. In the recession, Starbucks was forced to retrench. But sales growth [image-nocss] has accelerated, the report said. There is good reason to believe the Starbucks growth story will return, even without meaningful store additions. It still faces little competition from other U.S. specialty-coffee chains.
But Starbucks has not been hurt too much by McDonald's efforts to steal traffic, said the report. In fact, Starbucks' sales at stores open more than a year swung positive in the past several months shortly after McDonald's launched espresso-based drinks, it added.
One reason is that Starbucks customers would have to go out of their way to find McDonald's, according to the Journal. Just 23% of U.S. Starbucks locations have a McDonald's within a quarter-mile radius, Glass said.
Starbucks is taking steps to rejuvenate sales with new initiatives. The chain recently increased its marketing spending, which historically accounts for less than 1% of sales from company-owned U.S. stores. Keith Siegner of Credit Suisse told the Journal that the marketing budget for an average quick-service restaurant equals 4% to 5% of revenue.
Advertising may help revive Starbucks' consumer-products business, which accounts for less than 10% of revenue but around 20% of operating profit. Some of its consumer-products items, such as packaged coffee beans, have faced tough competition and lost share for several years.
Siegner points out that share losses have slowed in recent months. That is likely a result of both marketing and a recent move to sell packaged coffee at more competitive prices, the report said.
And Starbucks is expanding further into mass market (lower-priced) coffee brands that will help it compete with alternatives offered by players like McDonald's, added a Forbes report.
Starbucks ventured into the $21 billion instant coffee market last year with the launch of Via. Buoyed by the success of Via with U.S. and Canadian consumers, Starbucks is making it second strategic move into mass market coffees by revamping the Seattle's Best Coffee brand to compete against McDonald's, debuting the brand at more than 30,000 fast-food outlets, supermarkets and coffee houses. The company's expansion plans include featuring Seattle's Best at convenience stores, drive-thru kiosks and vending machines.
McDonald's came into direct competition with Starbucks when it upgraded its coffee in 2006. The lower-priced option from McDonald's became popular among price-sensitive customers and created new competition for Starbucks. As a result, the average number of customers visiting a Starbucks store declined from an estimated 460 in 2005 to just above 400 in 2007, according to the report.
With the launch of McCafe in 2008, the competition between the two chains intensified further, said Forbes. The timing of the launch coincided with a period of spending cutbacks by consumers, and such cutbacks were already hurting Starbucks. As a result of the discretionary cutbacks and rising competition, Starbucks closed around 890 stores in 2008 and 2009.
Meanwhile, The Chicago Tribune interviewed Don Thompson, McDonald's Corp.'s president of U.S. operations, who took over as the fast feeder's No. 2 and chief of operations in January. He touched on some of the same issues of marketing food and coffee to consumers on all levels of the economic spectrum (key excerpts;click here to view the full interview):
Tribune: Since 2003, McDonald's has emphasized store quality over growth. Does that emphasis still make sense?
Thompson: We've got to be able to focus on both. There was a time in our history when it was all about being bigger and, frankly, we let the same-store focus slip. Food quality, great service, the cleanliness of the restrooms and the lobbies is just as important today as growing a new site. It's even more important, frankly.
Tribune: Are you worried that customers used to recession-inspired offerings like the $1 breakfast menu will have a hard time trading back up to new products like premium coffee?
Thompson: We will always have a need for value. It's interesting to note that back in 1955, we sold a 15-cent hamburger. If you look at the 89-cent hamburger and you discount inflation, that would be 11 cents in 1955. What we have been able to do is maintain value at all price tiers. We need it at the lower-level product tier. We need it in the midtier. We need it in our core extra value meals. And we need it in our premium chicken sandwiches, our premium salads. We need value up and down the menu board.
Tribune: How does the restaurant remodeling campaign fit into that?
Thompson: Here's the interesting thing about a reimaged restaurant: One neighborhood may not have the same disposable income as another neighborhood, but you still want a great experience. So we're not reimaging our restaurants just in affluent neighborhoods. We're reimaging all of our restaurants. I want every customer that comes into McDonald's to have an enhanced experience. I want every last one of them to feel like "Wow! Man, this is a great McDonald's. I didn't even realize this was McDonald's."
Tribune: So will it be done differently in different kinds of neighborhoods?
Thompson: We will look at the economic viability of any site regardless of where that site is situated. But then, having looked at that, we will talk to the franchisees about [the] several different styles that they can choose from and which style they think best suits their marketplace and customers. It's really based upon more than a geographic bet or what I'll call a disposable-income bet.
Tribune: You're taking over as COO after six years of strong performance. How do you keep the momentum going at a company that seems to be at the top of its game?
Thompson: Well, we're not at the top of our game. And none of us believes we're at the top of our game. We believe we've performed well, but we also believe there's tremendous opportunity relative to what we need to do and how we need to continue to perform. I'll tell you, I've been around for 20 years at McDonald's, and I have come into markets that were doing great, and I've come into markets that were not doing so well. I've seen us [in] profitable times, and I've seen us when our stock price was $12. When we embarked upon coffee in the U.S. [people asked] "Are you doing it at the right time? Is there truly a market?" The coffee business has been fantastic for us. They asked us about Angus in the U.S. "Are you sure you want to implement a $4 hamburger?" Our customers believe that sounds like a tremendous value relative to [the competition]. So there's a lot of opportunity we still have.
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