Starbucks Case

Executive summary

            The success of the Starbucks brand was based on the value proposition of creating a unique experience for the customers in drinking specialty-brand coffee. As a result, the important component of the company’s positioning strategy was not just the product itself but also service and the ambience inside the stores. This was an important source of Starbucks’ competitive advantage because the company competed not only against small-scale specialty coffee chains but also against independent specialty coffee chains. Therefore it was critical for the management at Starbucks to create a unique selling proposition which would attract customers away particularly from the independents which enjoyed the advantage of a highly diversified product range. This diversification would enable the independents to experiment with prices which would create tremendous pressure on Starbucks. Therefore it was important for Starbucks to differentiate itself based on service and atmospheric attributes which would generate an extra appeal and push price considerations to the back.

            The company’s operating profit had been steadily increasing for the last five years. However the high threat of competitive rivalry was to be taken into consideration and as a result the management was considering expansion in terms of retail expansion and product and service innovation. The expansion strategy was also driven by the overall objective to turn the brand into the most recognized and respected brand in the world. The issues at stake were particularly relevant given the growth stage in which the industry operated at the moment. Starbucks did not have any company-operated stores in eight states and coffee consumption in the US was on the rise. Therefore there was a tremendous opportunity for growth. However the success of the expansion strategy was at stake as market research findings had indicated that the company was not meeting customer expectations. The solution being considered was to invest in increasing the number of labor hours. However the decision depended on its potential impact on sales and profitability.

Situation analysis

            The initial positioning for Starbucks had been to create a ‘third place’ for Americans after home and work. This had been the long-term vision of Howard Schultz’s which had been inspired by a visit to Italy where he experienced Milan’s coffee culture. Immediately after returning from Milan, he set up an espresso bar in the corner of Starbucks’ only downtown Seattle shop. Schultz was finally free to pursue his long term vision of creating the ‘third place’ when the original founders sold him the company. Immediately after buying the company, he began to open up stores which sold whole beans and premium-priced coffee beverages to consumers who were affluent and aged between 25 and 44. Subsequently, he took the company public in order to finance further retail expansion. At the time the Wall Street types had been dubious about the success of the product. However it was the unique characteristics of the product that the Wall Street types had been dubious about that began to draw customers throughout the US. As a result of the successful financing strategy, Starbucks owned one-third of America’s coffee bars in 2002.

            The overall objective of the company had been to establish Starbucks as the most recognized and respected brand in the world. Therefore, even though in late 2000 the company owned more coffee chain stores than five of its competitors combined, Starbucks embarked on further expansion in terms of retail expansion and product innovation and service innovation. At the present state of its expansion, the company was posting a positive financial performance in terms of steadily growing operating profits. However the management could not afford to stand still because there were three outlet categories that the company faced stiff competition from. These categories were small-scale specialty coffee chains, independent specialty coffee chains and donut and bagel chains. The other specialty coffee chains created unique experiences of their own, such as Minneapolis-based Caribou Coffee which created the experience of being in an Alaskan lodge. The independent specialty stores offered a diversified product range to specific segments of clientele. The donuts and bagel chains offered both coffee and non-coffee alternative as Dunkin Donuts did with Dunkaccino and Vanilla Chai. Although Starbucks also maintained some variety in its product range, the strategic focus was on beverages. Therefore further strategies were required to solidify the company’s position.

            The problem that faced Christine Day, senior vice president of administration in North America, was how to enhance the level of customer service so that customer expectations were met to a greater extent. According to the findings of the market research study conducted, customers were not happy about the level of customer service found in the store outlets. The vice president though that additional investments to increase the number of labor hours would remove the bottleneck which were increasing the waiting time. The value of the additional investments required had been estimated at $40 million. This would have to be raised at the expense of seven cents a share in terms of earnings per share. The management was unlikely to be very receptive to the idea of making the investment because retail expansion so far had been facilitated without any marketing investments.

The minimal promotional activities that were there had to do with point-of-sale materials and local-store marketing that were costing the brand virtually nothing. As a result, the company was spending far less than the industry average in terms of advertising. The need for advertising was further obviated by the fact that the company maintained a dynamic product range. For example, currently nearly 77% of the revenues were being generated from the sale of beverages. Yet ten years ago, whole-bean coffee had accounted for half the store revenues. In addition to these product categories, the Starbucks product mix also included a variety of pastries, sodas, and juices, along with coffee-related accessories and equipment, music CDs, games, seasonal novelty items and a selection of salads and sandwiches. However it was primarily in the beverages category that the company would have to conduct its retail expansion strategies. Product and service innovation would also have to be conducted in the beverages category as the source of strategic focus.

            The organizational structure at Starbucks consisted of aligning core competencies of the employees, referred to as partners, to the three components of the value proposition. This alignment was facilitated by the policy of promotion from within, according to which all the top executives in corporate headquarters had started their careers at Starbucks as hourly-wage workers referred to as baristas. This ensured that the management had a good connect with the issues of customer satisfaction. However the organizational culture at Starbucks was built around the process of ensuring partner satisfaction because it was believed that customer satisfaction was conditional upon partner satisfaction. In this respect, health insurance and stock option plans were given to even the entry-level partners. Because of this process, the rate of turnover at Starbucks was one of the lowest in the industry. Minimizing the rate of turnover was a critical success factor because Starbucks competed on the basis of creating a unique experience the most important elements of which were concerned with the partners’ soft skills. Therefore, in this area and in the area of hard skills, the company conducted training and development exercises.

            The effectiveness of the management’s investments depended on maintaining a stable composition of partners. The company had been successful in this area because according to the Customer-Snapshot scores, the nation-wide stores were scoring high in the basic service criteria which were: service, cleanliness, product quality and speed of service. However according to the market research findings, customers were not happy with the level of services they were receiving. In a survey, customers had mentioned ‘speed of service’ more times than other attributes in terms of improvement of service. Speed of service had probably become a problem because of the fast growth in terms of the number of customers visiting. As a result, the same number of partners was providing service to a fast increasing number of customers. Therefore, the most effective solution seemed to be increasing the number of labor hours per week. It was also the most controversial solution because of the costs involved.

Evaluation of alternatives

Increasing labor hours

            Implementation of this alternative would require the management to invest $40 million. According to Day, there was a considerable level of internal resistance to this idea because of its negative impact on earnings per share. However findings from the latest market research study indicated that the customers were increasingly viewing Starbucks as being more of a money making machine than a company that emphasized customer service. The study also indicated that there was virtually no product or image differentiation between Starbucks and the smaller coffee chains. The $40 million investment in increasing the number of labor hours ensured that the waiting time of the customers would be reduced to a greater extent. According to the Snapshot scores, the waiting time was already improving. However customer surveys indicated that the customers were still not happy with the speed of service. Therefore increasing the number of labor hours would address this issue effectively.

            The problem with this alternative was that the management had no idea as to how the issues of customer satisfaction were tied to the company bottom line. This was because they were not sure if they were getting the right feedback in terms of customer satisfaction from the market research studies. Therefore, any strategies undertaken to address customer satisfaction issues would not be effective because for example, the $40 million investment might increase the number of labor hours but that might not necessarily solve the problem of customer satisfaction because the management was not clear in the first place as to what the nature of the problem was. Therefore, increasing the number of labor hours had the problem that it might enhance labor expenses without having any impact on customer satisfaction.

            The effectiveness of this alternative was further compromised by the fact that Starbucks operations were concentrated in urban areas which had high wage expenses. As a result, labor was the largest expense item on the company’s financial statements. Therefore it was unlikely that Christine Day would be able to sell this idea to Schultz and Orin Smith. However Day did have the point that the issues of ensuring partner satisfaction were being affected adversely as a result of the increasing pressure from the waiting lines. According to the Starbucks philosophy, customer satisfaction was conditional upon partner satisfaction. Therefore, enhancing the quality of work life was a critical success factor. However this factor was not being addressed when the management expected the partners to spend more time with the customers without undertaking any corrective action about the increasing number of customers joining the waiting line. The $40 million investment would be this much needed corrective action.

Retail expansion

            According to industry studies, the specialty coffee industry was in a state of solid growth. As the brand image of Starbucks stood at present, brand share was expected to go up accordingly. Therefore there was a tremendous opportunity for growth. However this opportunity would be missed unless the company enhanced its presence by building a greater number of stores. At present, the company did not have any stores in eight states. Therefore, the company would be able to enhance its market share along with the growth of the industry by investing the $40 million dollars in retail expansion rather than in enhancing the number of labor hours. The importance of this strategy became particularly relevant when one considered the fact that the growth of the market was driven by the growth in the number of customers in the specialty coffee industry in which Starbucks operated. Therefore, simple retail expansion seemed to be an effective strategy.

            The problem with this strategy is that it would take a considerable level of investment to implement and this is investment that might not be recouped in view of the problems that the market study revealed. As mentioned before, there was clearly a problem of customer satisfaction involved. Customers had indicated ‘speed of service’ as being unsatisfactory. Even though this contradicted the Snapshot scores according to which the waiting time had gone down, the problem remained that customers were still unhappy with the waiting time. If that was the source of the problem, then clearly the stores were understaffed and this problem would only be exacerbated with retail expansion. Therefore the massive investment needed in this respect would not be aligned to the strategic focus of providing good service. The strategy of retail expansion also had the problem of cannibalization. This was in addition to the problem that there was virtually no differentiation between Starbucks and the smaller coffee chains. Therefore simple retail expansion without additional positioning strategies might not be effective in the long term.

            According to the above, there is clearly an issue of customer satisfaction affecting Starbucks operations. However given the growth stage of the specialty coffee industry, the management had the option of not addressing the issue at the moment. The number of consumers drinking specialty coffee was expected to grow steadily. This pronounced growth rate in fact demanded that the management expand its retail operations because by doing so it would be in a position to ease the pressure on the existing stores. There was the possibility of self-cannibalization as mentioned before. However the cannibalization process would in effect enhance the level of customer satisfaction overall by redistributing the customers and thus reducing the length of the waiting line. The increasing waiting line might have been the source of the problem which prompted customers to mention ‘speed of service’ as one of the reasons why they were unhappy with the level of customer service. The increasing length of the waiting line also meant that the baristas had less time to spend with each customer and therefore the level of personalization suffered.

Product and service innovation

            This was a critical issue because as mentioned before Starbucks had virtually no image or brand differentiation from the smaller coffee chains. The brand was differentiated from the independents but in this case Starbucks faced the problem of price competition. The independents were in a more advantageous position to experiment with different pricing strategies because branding was not their strategic focus and their target market was younger and so had less money to spend. This would make it appear that Starbucks faced no competition from the independents. The target markets were different inasmuch as Starbucks targeted the older and affluent consumer segments. However the findings of the market research study indicated that the consumer profile at Starbucks was changing as younger consumers were visiting the stores with greater frequency. Therefore, it was important for the brand to differentiate itself from both smaller coffee chains and the independents. In this respect, product and service differentiation would appear to be the answer.

            The problem with implementing this alternative is that the innovations would have to be implemented in alignment with partner expectations. Therefore the cycle involved a time frame of 12 to 18 months. It is not certain whether the long time frame would be a limiting factor in this respect. However it is going to be an issue. The issue is specially complicated by the need to meet two tests: customer acceptance and partner acceptance. Further complications come from the need to develop formulations that can be prepared quickly, so that speed of service in not compromised. Meeting all these criteria would also require substantial investments on the part of the management and these investments might have to be made in increasing labor hours anyway in order to make product innovations work. Therefore implementing product innovations is equivalent to going back to the first alternative.

            Service innovation had greater potential in this respect as it would not require partner acceptance and would not interfere with their speed of service. In this respect, the introduction of the stored value card had already proved to be a great success. The management of the company might consider similar innovations. This will help with formulating new positioning strategies that will enhance Starbucks’ competitive edge. The critical need was to position the company differently from the smaller coffee chains. Currently there were no such positioning strategies. Service innovation was also a critical success factor in view of the fact that Starbucks and the Independent specialty coffee shops were no longer serving different target markets as Starbucks was increasingly attracting younger segments of the market. Traditionally the younger segments had been visiting the independents. Therefore, if the management of Starbucks were to implement service innovations, then it would have to create a similar environment in its stores in order to maintain the business flow from the younger segments.  However the problem with basing revenue on the younger segments was that the focus on the affluent segment would be weakened to some extent. Traditionally, this segment had been the biggest contributor to the company’s bottom line.

Automation of mixing processes

            Increasingly customers had been demanding more customized sophistication in their drinks. Therefore the length of time spent in servicing each customer was going up. As a result, the customers were waiting longer before they could get their service. This led to the growing unhappiness on the part of the customers. The critical need therefore was to automate some of the steps in the mixing process so that baristas could service each customer faster. In this respect some automated espresso machines were already in operation and they had been welcomed by the baristas and the customers.

Therefore one feasible alternative was to invest in installing as many automated machines as possible given the nature of the mixes involved. This would help to strengthen the brand’s unique selling proposition which was to personalize customer service to the maximum extent possible. In this respect, empowerment of the baristas in terms of personalization had been one of the key success factors. The nature of the market that Starbucks was serving was growing increasingly diversified. Therefore market needs were becoming increasingly diversified as well. In this situation, decentralization of the decision making process in terms of how to serve the customers was critical. However the level of decentralization hardly mattered as long as the baristas were spending most of their time mixing drinks instead of conversing with the customers to anticipate their needs. Automation of the mixing process would free up man-hours which would then be available for providing greater sophistication in personalization even as customer needs grew more in terms of variety.

            The problem with implementing this alternative was that the company would have to engage in a considerable level of training and development expenses in order to ensure that the baristas could operate the equipment with maximum efficiency. The critical issue here is to invest in making the baristas comfortable with the use of the equipment. Unless this was so, the quality of service might actually go down with baristas making mistakes such as mixing the wrong drink. In this respect, the critical consideration is that mixing the drinks is a pre-specified process. Therefore, the scope for automation was extensive. However that meant that the level of expenditures that would be incurred in terms of training the employees would also have to be extensive. However these expenditures could be avoided to some extent by developing extremely user-friendly equipment which would allow the customers themselves to mix the drinks for themselves. In this respect, the baristas would not have to engage in either operating the cash register or in mixing drinks. As a result they would have more time in which to engage each customer in conversation. Inasmuch as conversing with the customer is the strategic focus at Starbucks in creating the right ambience, the automation process therefore would appear to be the answer.

            The strategic thrust of this alternative was to promote self-service so that baristas could have more time to spend in answering questions from the customers. However in order for this strategy to be effective, the company would have to engage in a considerable level of research and development in order to develop equipment that would be user-friendly. Unless the equipment met with approval from the baristas and the customers in terms of user-friendliness, the strategy would not work. Therefore the automation process would be even more resource-intensive than product innovation and since product innovation was a continuing process, the automation process would have to be conducted on a continuing basis as well. However, if the automation process did work, then it would enable the management to downsize its current workforce and thus do something about labor hours that already made for the largest expense item on the company records.

Recommendations

            Retail expansion is the most feasible alternative in view of the fact that the number of specialty coffee drinkers is growing steadily. Moreover, the number of stores was far from reaching the saturation stage in terms of market expansion. As mentioned before, eight states did not have any Starbucks outlets. Therefore the management would have to set up operations in those regions. Even in the regions that already had ongoing Starbucks operations, the management had extensive scope for further retail expansion because the number of customers that each Starbucks outlet was processing was growing at a rate that compromised the level of customer service. Customers were already unhappy about the length of time that they had to stand in line before receiving service. It was because of this problem that Susan Day was considering investing $40 million in enhancing the number of labor hours so that the waiting time could be reduced. However the CFO had already expressed dissatisfaction with the details of the plans as the earnings per share would be seriously compromised. Howard Schultz and Orin Smith also appeared to be in favor of conducting strategies of retail expansion rather than the other alternatives available.

            The level of expenditures involved in enhancing the number of labor hours would be unusually high given that Starbucks operated mostly in affluent, urban regions which had high wage rates. Therefore, enhancing the number of labor hours was not feasible. This was particularly so given the fact that labor was already the largest expense item on the company’s financial statements. Therefore the strategic focus should be to streamline this expense item rather than to enlarge it as the alternative of labor hour expansion would do. The streamlining strategy would be facilitated with geographical diversification which was the strategic thrust of retail expansion. In this respect, the risk of cannibalization was being considered. However the brand already should be experiencing loss of business arising from dissatisfaction with customer service. Therefore the extent of cannibalization potential in retail expansion was minimal. This was particularly so given the fact that retail expansion would enhance store concentration and therefore ease the pressure on the existing stores. In this manner, this strategy would also eliminate the need for further labor hours to be added to the existing expenses.

            In implementing the alternative of retail expansion, the management would have to pay special attention to the selection of store sites. This had a bearing on the demographics of the market that Starbucks was serving. Traditionally the company had been targeting affluent, older age groups. However the age composition of the target market was changing as younger consumers were also taking their coffees from specialty coffee chains. Traditionally the younger segments had been visiting the independent specialty stores. Now they were switching to Starbucks. Therefore the management would have to make a decision in this regard as to whether the brand should continue to target the older and affluent market segment or whether it should modify its positioning strategies in order to diversify in terms of customer segments as well. Other considerations were the level of coffee consumption in the area, the threat of competitive rivalry and the availability of attractive real estate. Once these considerations were taken into account, the company was capable of making the new retail site fully operational within 16 weeks. Given the expertise the company possessed in terms of expanding its retail operations, the process of managing change in this respect would not be a daunting task as it was likely to be in the case of automating internal business processes.

            According to the Customer Snapshot surveys, the quality of service provided by the brand was improving steadily. However market research studies and consumer surveys were indicating otherwise as customers expressed dissatisfaction over the level of service that they were receiving. As mentioned before, the problem was further complicated by the fact that the management was not sure if they were receiving the right feedback from the customers. Neither were they clear on how the issues of customer satisfaction related to the company bottom line. Therefore any strategies undertaken to address issues of customer dissatisfaction were likely to be misdirected and thus were unlikely to address the unknown root of the problem. However it was quite clear that the number of customers joining the waiting line was increasing and the orders they were putting in were increasingly taking longer to mix. As a result, the alternative of automating the mixing process was a feasible one particularly if the customers themselves could be prompted to help themselves in mixing their preferred drinks. However implementing this strategy would require business process reengineering of a wide magnitude. This would entail a process of managing change that the company was most likely not familiar with. As a result, in implementing this alternative, the management would have to hire an external change management consultant. Even so the issues of partner satisfaction and customer satisfaction might not be resolved.

            The process of automating the mixing process was likely to be even more time consuming than product or service innovation because the automated equipment would have to be user-friendly to generate interest among partners and customers. Ensuring user-friendliness would necessitate a considerable level of research and development. These issues would eliminate the alternatives of automation and innovation. Because management was not clear what prompted customers to express unhappiness over customer service, the alternative of investing so much in increasing the number of labor hours was also not attractive. As a result, the alterative of retail expansion was clearly the most attractive one. The process by which retail expansion addressed the potential issues of customer service had been discussed. However even if these issues were not addressed that would not be such a problem because the specialty drinking coffee industry was exhibiting solid growth. Therefore for the time being, the management should not get into the problem of customer service and instead should focus on expanding the breadth and depth of retail operations to take advantage of the growing market.

            As mentioned before, eight states were without any Starbucks retail stores. However instead of setting up operations in these states and thus developing new markets, the management should strengthen its operations in its existing markets by increasing the depth of its operations in terms of enhancing store concentration. This is recommended because in the Southeast for example, the company had only one store for every 110,000 people. This was putting tremendous pressure on the baristas. While increasing the number of labor hours would ease this pressure, so would retail expansion. However the alternative of retail expansion had the advantage that the management would be able to maintain its existing organizational structure. Such would not be the case if the number of labor hours per week were to be increased. This would require a basic structural change the ramifications of which are unknown. Therefore retail expansion was the best strategy. This was not only in light of the market growth, but also to ensure partner satisfaction by easing their workload through enhanced store concentration.

Conclusion

            The company’s success had come at the expense of virtually no marketing expenditures. This was because the overall objective of the company had been based in creating overwhelming presence and convenience. The selected alternative of retail expansion would facilitate continuation of this strategy. Even though the company appeared to be facing trouble in terms of growing customer dissatisfaction over speed of service, this was unlikely to be a serious problem in the next 3-5 years because during this period, the market is projected to grow strongly and to take Starbucks’ share along with it. Therefore retail expansion is the best alternative.

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