The dissertation includes an overview of Starbucks, financial analysis and a detailed synopsis of the specialty coffee industry and the role that Starbucks plays in. A set of comprehensive external analysis includes Porter’s five-force, PESTEL of the coffee industry. Starbucks is in a growth market and has a relative good position. The dissertation then evaluates the the business model of Starbucks and the future implications of its business strategies. Starbucks has gone back to the right path and serves as a strong model for international businesses. Finally, the dissertation uses the SWOT matrix as to conclude exogenous and endogenous sections. The dissertation ends with recommendations on how Starbucks can reduce vulnerability when facing economic downturn and grow as an international business.
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Starbucks corporation is the global leader of the coffee industry in bringing innovative products to convenient and easily accessible locations (Jargon, 2009). Starbucks serves as a model that many other rivals try to emulate. This paper will provide a comprehensive internal analysis on a specific evaluation of Starbucks and its performance as well as a detailed analysis of the coffee industry and the external environment that Starbucks operates in.
An overview of Starbucks will be given in the next section, which consists of general information about the company’s history and recent financial performance. The external analysis starts with the PESTEL analysis, which outlines the macro environment of the coffee industry. Then, by the use of Porter’s five-force model the competitive structure of the industry is analysed. Following this is the key success factors analysis that shows how coffee firms can survive and make above average profit in the industry. The internal analysis evaluates key internal features of Starbucks and has three main components: organizational analysis, strategy analysis and business model analysis. Next, a comprehensive SWOT matrix will integrate exogenous and endogenous factors and give possible strategies based on all previous analysis. The last section is the recommendations.
The purpose of this study is to engage in an internal analysis of Starbucks as an organization and an external analysis of the coffee industry to examine how the Starbucks Corporation operates in the coffee industry. This allows the author to make strategic recommendations to Starbucks in the coffee industry.
2. Company Overview
2.1. Company History (Extracted from www.starbucks.com)
The first Starbucks opened in 1971 in Seattle. During the first decade of its existence, the company sold fresh roasted gourmet coffee beans and accessories for brewing and roasting. In 1982, the founders were joined by an entrepreneur named Howard Shultz who functioned as the firm’s Director of Retail Operations and Marketing (Garza, 2010). While on a trip to Italy, Howard Shultz came across the Italian coffee culture. The café appeared to function as a meeting place for Italians, where they would socialize and spend time in leisure. Shultz believed that this coffee culture could be replicated in the United States. However, Shultz’s idea was rejected by the founders. Schultz was nonetheless successful in convincing the founders to open a concept coffee shop that would incorporate his vision of coffee culture. The experiment was successful, but the founders hesitated to implement his vision company-wide. Frustrated, Shultz started his own coffee shop called II Giornale. With his coffee shop becoming a successful venture, Shultz went on to acquire Starbucks in 1987 from its founders with the help of local investors. Shultz changed the name of his stores from II Giornale to Starbucks and expanded aggressively (Starbucks, 2009). The next major step forward for Starbucks was the initial public offering (IPO) held in June 1992. The success of the IPO enabled Starbucks to unveil an even more aggressive expansion plan.
After rapid growth in the last two decades, Starbucks is in the mature stage of its life cycle. It provides high-quality coffee and a variety of fresh food items, through company-operated stores, licensed stores, groceries and national food service accounts (Starbucks, 2011). During the last five years, Starbucks has continued its strategy of expansion in metropolitan US markets as well as rapid growth into international markets. One of the latest strategic moves that Starbucks has undertaken is a Memorandum of Understanding (MoU) with Tata Coffee Limited from India. This MoU will give Starbucks a foot into the proverbial door of the Indian coffee market (Starbucks, 2011). By the end of FY2011, Starbucks has more than 17,000 stores in 55 countries and plans to open 800 net new stores globally in 2012 (Starbucks, 2011). Starbucks also continues to market and grow the Starbucks card through cross promotions and in-store marketing. In the FY2011 card sales reached $46.9 million and accounted for 22% of all transactions (Starbucks, 2011). However, its growth has slowed down and it has even had to close in some locations. Now, it focuses on brand revamping and international expansion.
Diagram 1: Life Cycle of Starbucks
Introduction Growth Maturity Decline
Over the last five years, Starbucks has faced ups and downs and has eventually driven on a good trend, in spite of pressures from the economic recession and competitors. Table x shows the revenue changes for the last five years:
Diagram 2: Starbucks Revenue Trends 2007-2011
Source: Starbucks, 2011
With the exception of 2009, Starbucks has outperformed the previous year with at least a 10% increase in total revenues. Starbucks was affected by the 2009 economic slowdown and posted a decrease in revenues of 6%. The revenues were on an upward trend after 2009 and the total revenues reached a record-level performance of $11.7 Billion dollars in 2011(Starbucks, 2011).
Competitively, Starbucks continues to innovate product offerings and to expand brand awareness. In January 2011, Starbucks announced a cross promotion with Courtesy Products to place and stock Starbucks single serve coffee in over 500,000 luxury and premium hotels (Starbucks, 2011). Also, Starbucks pays lots of attention to keeping committed and enthusiastic staff to maintain a relatively low turnover rate and maintain high levels of customer service (GlobalData, 2010).
2.2. Financial Analysis
In this section, the financial performance of Starbucks during the last five years will be evaluated. First, the key financial indicators will be given to illustrate the whole picture of Starbucks’ financial performance. Then, the financial ratios analysis includes financial profitability and health. The profitability analysis evaluates the overall operating efficiency, asset productivity, return on assets, and return on equity of the company. The financial health analysis shows how fast assets can be turned into cash and cash equivalents. The financial analysis of Starbucks focuses on evaluating its financial performance and identifying trends in its financial performance.
Source: Morningstar, 2012
Starbucks considers itself a premium coffee provider, even in the economic downturn (Jargon, 2009). From 2008 to 2009, Starbucks had clearly been declining compared to its main competitors and to the market (Jennings, 2009). One reason is the current economic downturn has changed people’s spending habits. According to the Associated Press, premium brands of food and specialty coffees are among the top areas where people are trimming their spending. However, after Howard Schultz took his role as Starbucks CEO, the financial figures turned to be attractive. The annual revenue growth rate is about 20%. Given the aggressive international expansion plan, with diverse risks in the domestic market, we expect this upward trend will continue.
Net revenues were $11.7 billion for FY2011, an increase of 9% over FY2010. The increase was primarily due to an increase in company-operated retail revenues driven by an 8% increase in global comparable stores sales. The increase in comparable store sales was due to a 6% increase in the number of transactions and a 2% increase in the average value per transaction. Also contributing to the increase in total net revenues was favourable foreign currency translation (approximately $126 million) resulting from a weakening of the US dollar relative to foreign currencies and an increase in licensed stores revenues (Starbucks, 2011).
The operating income has increased steady over the last four years, reaching $1.7 billion. This was mainly driven by increased sales leverage, though partially offset by higher commodity cost (mainly coffee costs) and higher expensed to support the direct distribution model for package coffee and tea.
The cash provided by the operating activities was $1.6 billion for FY2011, compared to $1.7 billion for FY2010. The slight decrease was primarily attributable to an increase in inventories, resulting in part from higher coffee prices, partially offset by higher net earnings for the period and an increase in payables, primarily related to green coffee purchases. Cash used by investing activities for FY2011 reached $1.0 billion. The increase was primarily due to increased expenditures for remodelling and renovating existing company-operated stores, opening new retail stores and investments in information technology systems (Starbucks, 2011). In FY2010 and FY2011, abundant free cash flow was given to fund its international expansion, mainly in China and the Asian Pacific. Large free cash expenses in the emerging market may bring back abundant profits in the future.
Starbucks has financial strength with a healthy surplus of free cash flow to fund its initiatives (Starbucks, 2010). This is due to effective monitoring of allocated resources and withdrawing financial resources from underperforming activities. Starbucks took this approach in 2008 as it closed over 600 retail stores in an effort to boost its financial performance (The Seattle Times, 2008).
The profitability analysis focuses on the profitability ratios. These ratios measure how efficiently the company uses its resources. Higher profitability could be attributed to greater efficiency. By looking at the Starbucks profitability ratios for the last five years, we can determine whether the company is operating efficiently or not.
Diagram 3: Profitability Margins for Starbucks 2007-2011
Source: Morningstar, 2012
Starbucks’ profitability ratios have increased over the last three years due partially to a recovered general economy and partially to Howard Schultz returning to the leadership position in the company. These profitability ratio increases have positioned Starbucks in a greater financial situation.
From 2009 to 2011, gross margin, net margin, ROA and ROE were on upward trends. Starbucks had an around 58% gross margin in the last three years, indicating that Starbuck was very efficient in using its labour and fixed assets to generate profits. However, there is a huge gap between gross margin and operating margin of Starbucks, especially in FY2009. In the last three years, Starbucks had an ROA ratio of around 18 and an ROE ratio of around 30; both were higher than the industry average. This indicates Starbucks had more efficient management in utilizing its asset base and equity base and it gave better return to the investors. However, the asset turnover kept stable with a slightly decrease, indicating that the productiveness of the assets acquired by Starbucks was remaining the same.
Financial Health Analysis
Diagram 4: Financial health ratios for Starbucks
Source: Morningstar, 2012
From FY2008 to 2011, Starbucks had a relative high current ratio, meaning that the company’s short-term assets were readily available to pay off its short-term liabilities. The quick ratio is a liquidity indicator. In FY2011, the quick ratio of Starbucks reached 1.17. A higher ratio means a better current liquid position. Thus, Starbucks’ liquid position is on a positive trend. Moreover, Starbucks is using less leverage and has a stronger equity position. In the annual report, Starbucks said it intended to keep a low gearing. This reduces the risk, but does deny the opportunity to capitalize on the gearing effect of debt. Decisions about gearing must always balance higher returns against increased risk. Given the economy slowdown and aggressive international expansion, it is better to reduce operating risk and gearing.
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Summary of Financial Analysis
Starbucks has been able to recover from the 2008 economic downturn and has increased its financial performance, partly due to the general economy improving and largely due to the return of Howard Schultz as CEO (Finz, 2011). With trends across the board improving on a yearly basis, confidence in the performance and the growing financial strength of Starbucks would be unabated.
3. External Analysis of Starbucks
The external analysis consists of a brief environmental analysis (PESTEL analysis) and an industry analysis (Porter’s Five Forces analysis). Through exploring and examining the external environment, we can explain the competitive environment of the industry and how the company utilizes external factors to make profits.
3.1. General Environmental Analysis
The coffee industry faces many types of political and legal pressures. Coffee firms import coffee beans from a variety of countries, each with their own respective customs and tariff regulations (Datamonitor, 2010). On an international scale, these firms must gain expertise on how to import beans from each different country and keep detailed tabs on political upheavals and changes to policies. Considering the legal factors, the coffee industry faces strict international agreements on environmental policy, such as strict requirements for firms to recycle. These environmental requirements affect coffee firms’ costs.
The economic element is characterized by the general economic conditions in the non-controllable environment that the coffee industry operates in. The most notable factor is the recent global economic recession of 2008 and 2009. The recession affected both businesses with rising operational costs and lower profit margins, and consumers with low wiliness to consume premium coffee (Bureau of Labour Statistics, 2011). Therefore, many coffee firms faced a sharp decrease in revenue and profit during the economic crisis.
As for the social and cultural element, new surveys show customers go to coffee shops not only to drink coffee but also to sit down and relax (Jennings, 2009). Good health and foodstuffs associated with healthy living are important in today’s market place. As consumers become increasingly more educated and health conscious, the industry should constantly monitor the quality and adapt new product standards to meet the need. Companies like Starbucks eventually adopted 2% milk as the standard and also offer non-fat milk (Thompson & Strickland, 1999). Similarly, coffee firms reduced sugar levels in beverages and food offerings to satisfy the low-sugar intake demand (Wall Street Journal, 2009).
Technology is a major factor in the Macro environment of the coffee industry, because it greatly influences the interaction between customers and the firm, product innovation and customer experience. Particularly, improvements in technology allow new ways of customer interaction (Buckstein, 2010) and lower advertising costs (Steel, 2008). Technology also helps to improve the service to the end consumer through innovations of machines and the working process. Companies with cutting-edge equipment will have an advantage.
As coffee retailers that are dependent upon consumers’ discretionary spending, the results of their operations are sensitive to changes in macro-economic conditions. The macro environment analysis shows that economic recession makes consumers more cautious with their discretionary spending, which may cause great challenges for the coffee industry. However, the stabilization and improvement of the global economic condition will lead to an increase of the premium coffee consumer base. In addition, with the rising of environmental awareness, coffee firms need to pay more attention to the sustainability of all stakeholders in the valued chain.
3.2. Industry Analysis
The coffee industry is a sub-section of the hot drinks industry as defined by Datamonitor. The global hot drinks market grew by 3.6% in 2010 to reach a value of $87,152.3 million with a volume of 7,219.8 million kilograms consumption. Coffee is the largest segment of the global hot drinks market, accounting for 57.2% of the market’s total value. In 2010, close to 1.6 billion cups of coffee were consumed daily worldwide and the global coffee industry has an estimated $70 billion in retail sales annually. The US has 68.7% of its hot drinks as coffee and Europe is the leading consumer of hot drinks at 44.6% of total consumption (www.bharatbook.com, 2012).
The market growth rate for the hot drink industry still shows expected increases. In 2015, the global hot drinks market is forecast to have a value of $105,036.4 million, an increase of 20.5% since 2010. However, the growth prospects are centred on firms’ abilities to innovate new products and to expand globally. Since the 1990’s, when Howard Schultz brought the idea and concept of an Italian Espresso bar to the United States, specialty coffee sales have grown to 28% of industry revenues. The specialty coffee market has grown to over $13.5 billion at an average annual growth rate of 32% between 2000 and 2007 (www.bharatbook.com, 2012)).
One of the widely used assessment tools of an industry’s competitive forces is the five-forces model of competition created by Michael Porter (1992). This analysis can be used to evaluate the attractiveness of the industry as well as the company’s competitive position (Porter, 1980). Diagram 5: the five competitive forces in the coffee industry (Extracted from Datamonitor)
To sum up the five-forces analysis, it can be concluded that the coffee industry today is generally attractive and highly competitive. Despite Starbucks’ dominate position over the past two decades, a number of small, individual and family-owned coffeehouses have sprouted. The coffee industry faces very strong pressures from the intensity of rivalry but relatively weak pressures from the threat of substitute products. The buyers and suppliers have less bargaining power. Thus, the rate of profit in the industry is highly concentrated upon the major industry players, particularly Starbucks. However, with the entry of new players such as the fast-food chain giants McDonald’s and Dunkin’ Donuts, Starbucks’ dominance in the specialty coffee industry is being threatened. Overall, the collective impact of the five forces is moderate. Firms that operate in the industry efficiently and effectively can make above average profits, but new or inefficient firms will struggle to survive, otherwise, they may be forced out.
Key success factors (KSFs) of an industry are crucial factors that affect industry players’ abilities to compete in the market place (Benedetto, 1999). The KSFs include strategy elements, product features, competitive capabilities, or other intangible assets. The coffee industry has six KSFs that are applicable to the success of each competing firm.
Diagram 6: Key Success Factors for Survival in the Coffee Industry
Source: Harold Brown, 2011
The firms that can carry out these KSFs well will have an advantage over other firms in the industry. Starbucks enjoys critical know-how and has the abilities to carry out the industry KSFs. Starbucks keenly utilizes technology to enhance customer experience, selects convenient locations, innovates products, and continually expands to new markets and gains market share ahead of its rivals.
The coffee industry will continue to look for and find ways to increase the demographic that it services. This will be achieved by constant product innovation and diversified product offerings to satisfy the consumers’ needs. The industry will also continue to expand globally into new markets and attract a larger number of customers.
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