Microeconomics of Starbucks

Coffee has become an increasingly important beverage for everyday lifestyle over the years. According to Allegra World Coffee Portal's 2019 Project Caf© USA Report, the US coffee market has increased in volume by 3.8% over the last 12 months, with growth set to continue. Forbes reported that 46% of coffee was consumed outside of the home in 2017. Of all the coffee consumed, 59% was specialty versus 41% non-specialty and only 9% of U.S. adults were drinking specialty coffee daily in 1999. In 2017, that number hit 41%. (https://www.forbes.com/sites/simransethi/2017/12/01/a-surprising-new-trend-in-coffee/#360b720a5b31). The three largest coffee-focused chains are Starbucks, Dunkin Donuts and Tim Hortons. These companies combined make up 68.1% if of the market. Starbucks is the largest, taking up 40.1% share of the market (https://www.beveragedaily.com/Article/2018/11/06/US-coffee-shop-market-grows-to-45.4bn-valuation-in-2018).

The demand for premium coffee is influenced by several determinants of market demand, including population and demographics, income, price of related goods, tastes, and expected future prices. Whether or not people drink their coffee at home or on the go is strongly based on age. People 65 years and older are the most likely to make their own coffee at home, while people under 35 usually choose to go to a coffee shop. Millennials make up the largest group of coffee consumers, consuming 44% of coffee in the US and those coffee drinkers aged 13-16 are the fastest growing group of coffee drinkers.

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https://nationalcoffee.blog/2017/03/28/from-basic-boomers-to-specialty-snowflakes-national-coffee-drinking-trends-2017/#more-6521.

Income plays a large role in where people drink their coffee. As income increases, demand also increases. "The income that consumers have available to spend affects their willingness and ability to buy a good (Hubbard and O'Brien)." Instead of only purchasing one coffee a day, a consumer may choose to have two or instead of only purchasing a coffee, they may purchase a pastry as well. If a consumer has a fall in income, they may start making their own coffee at home as a way to save money. The price of substitutes may also affect a consumer's decision to purchase a certain product and cause a change in demand (Hubbard and O'Brien)." For example, a consumer may love Starbucks coffee but decides due to the high price, he can only afford to purchase two of them a week and the rest of the time he must purchase his coffee from McDonalds for half the price. This will decrease the demand for Starbucks and increase the demand for McDonald's coffee. "Taste is a catchall category that refers to the many subjective elements that can enter into a consumer's decision to buy a product. A consumer's taste for a product can change for many reasons (Hubbard and O'Brien)."

In general, when consumers' taste for a product increases, the demand curve will shift to the right, and when consumers' taste decreases, the demand curve will shift to the left" For example, I regularly purchase vanilla latte's from Starbucks, but when Dunkin Donuts advertises their pumpkin spice coffee, I choose to go to Dunkin Donuts and get those. Expected future prices can have a huge impact on the demands of a product. If a consumer knows the price of a product is going on sale the following month, they may purchase less of the product now and more when the item is on sale. When the price of a product is expected to go up in the future, consumers will purchase more of the item now and less of it later. Starbucks provides information online in advance of increasing their prices, which gives customers the opportunity to purchase more of the product(s) before the price goes up.

Starbucks has continued to lead the way in the coffee house market. As seen on the chart below, the company has seen a growth in revenue over the last ten years, except one, by staying ahead of the competition. This trend in revenue indicates a general increase in demand for Starbucks products over the years. Starbucks has done a great job at catering to their target audience and providing a place for people to get together, use free Wi-Fi and enjoy coffee, tea and other snacks. They have also kept up with technology and the fast paced world of working customers by creating a mobile application that allows them to preorder using their smartphone and have their order ready when they arrive. The company continues to introduce new menu items as tastes and trends change to keep demand up and consumers coming back. Starbucks has continued to open new stores and purchase beaneries and other small businesses. Purchasing the beaneries helps lower the price of inputs and maximize profit.

The supply of premium coffee is influenced by several variables including prices of inputs, technological change, prices of substitutes in production, number of firms in the market and expected future prices. According to Hubbard and O'Brien, "the factor most likely to cause the supply curve for a product to shift is a change in the price of an input (Hubbard and O'Brien)." Coffee shops need coffee beans to supply coffee and if the price of coffee beans increases, then the price of the coffee will increase and the demand will decrease. The opposite is also true. If the price of coffee beans decrease, the price of coffee will decrease and then demand will increase. Dr.Tim Schilling, director of the World Coffee Research institute, an organization funded by the global coffee industry, says: "The supply of high-quality coffee is severely threatened by climate change, diseases and pests, land pressure, and labor shortages - and demand for these coffees is rising every year".

In some coffee areas, temperatures have already risen enough to begin having quality impacts (https://www.bbc.co.uk/news/resources/idt-fa38cb91-bdc0-4229-8cae-1d5c3b447337)." Starbucks has been able to continue to profit even when their prices have increased because their customers are willing to pay the extra for the goods and services offered. Technological changes can both positively and negatively impact a company's supply. Starbucks has invested money in facilities and equipment that has allowed them to reduce the cost to produce products and increase profits. When the change is positive, supply is increased and supply curve is shifted to the right. The opposite is also true. When the change is negative the supply curve will shift to the left (Hubbard and O'Brien). Substitutes in production are alternative products that a company produces and sells. If the price of a product increases relative to alternative products, the profit of that particular product will increase. Because of this, the company will choose to supply more of the more expensive product.

For example, Starbucks sells a wide selection of coffee products. If the price of Veranda Blend increases compared to Sumatra, Starbucks will sell more of the Veranda Blend. By doing this, the supply curve will shift to the right. The number of firms in a market is the next variable that impacts supply. As more companies enter the market, the supply curve shifts to the right and as companies leave the market, the curve shifts to the left. Even with the constant opening of new and closing of failed coffee shops, Starbucks manages to dominate the market. When a company expects the price of a product is going to increase in the future, they may decrease the amount they supply now and increase it later and vice versa. According to New York Times, Starbucks locks in their prices for coffee supplies far in advance and knowing that the price of coffee beans continues to increase due to threat of poor crops, they will decrease the supply of their most popular and expensive coffees now and increase it when the prices go up (https://www.nytimes.com/2015/08/16/your-money/why-starbucks-prices-went-up-as-coffee-beans-got-cheaper.html). The table below shows how the variable described above shift the market supply curve.

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