The headline at Marketwatch.com this evening read "Starbucks Catches Steam" (link to frontpage at 7:30pm eastern on 7/30/08) The article (read article here) goes on to be very bullish sounding about Starbucks. "Shares turned higher" "up 4%" "reversing course". Uh huh. A quick look at the chart shows Starbucks has lost half its equity value in the last year (see chart here). So, a 4% uptick from the now lower value means its still down, let’s see, that would be 48%. Now I see why it’s time to rejoice!
I don’t agree with people who say that the stock market is good at valuing companies. In reality, investors tend to overvalue high growth, and overvalue potential turnarounds. Investors, generally, tend to be overly optimistic. So any time a company is down 50%, it’s worth being very careful before waving the victory flags and claiming the corner is turned.
There’s a comedian named Lewis Black who has recorded an entire comedy routine about how he knew he was seeing the end of the world when he walked out of a Starbucks, and immediately saw another Starbucks across the street. Lewis Black isn’t a business strategist, but he makes a valid point. If Starbucks is just a set of coffee emporiums, when do you reach saturation? At some point, there simply is no need to build any more. To continue growing, Starbucks would have to be more than just coffee emporiums.
The previous CEO recognized this, and undertook a wave of projects to grow the company. He pushed the brand into grocery aisles, licquor store aisles and even into restaurants and onto airplanes. He moved Starbucks into publishing music, and even becoming a recording agency. Starbucks produced a movie – which made money even if it wasn’t a smash hit. And as CEO he started expanding the stores internally to carry more products and more food – expanding why you would go to a Starbucks. There was a lot going to to try preparing for the "saturation day" (how’s that for the name of the next Will Smith move?).
But he got sacked. And on the high steed came riding in the "founding CEO" (although I don’t think he really was the very first CEO, he gets the credit). And his mission became – Back To Basics. He stopped all the White Space activity to "refocus" Starbucks on its "central mission" of being a coffee emporium. Oh. And let’s see, revenue declined. Uh huh. Now, he’s closing hundreds of stores and laying off thousands of employees, because revenue is down. And revenue is down because of the recession. It wouldn’t have anything to do with not pursuing additional revenue sources, would it? It wouldn’t have anything to do with being overly focused on doing one thing, would it?
So what’s really ahead for Starbucks? If you don’t think revenue will continue declining – I guess I’d ask "why not?" Face it, Starbucks may have created the coffee emporium genre as we now know it in America. But they have also spurred a lot of competitors that can make a pretty good cup of coffee. And these competitors have leased some great locations, and furnished them well, and trained employees to be friendly and helpful, and installed wireless internet service so we languish over our drinks and maybe have a second. All successful businesses breed competitors, who quickly copy what you do well. And these competitors cause price competition as they begin oversupplying the marketplace. Eventually, you are doomed to lower growth and lower profits — unless you find something else to do!! (Economists call this "the law of diminishing returns.)
It’s hard to see a bright future for Starbucks right now. Not because they originally did anything wrong. During rapid growth they Locked-in on a Success Formula and grew it fast and profitably. But the competitors squeezed in, and then the market shifted as customers started buying less costly product. So Starbucks needed to be more. To be a great company, Starbucks must avoid the foibles of Mrs. Fields’ Cookies (remember when that was all the rage?) by avoiding being a very focused competitor with a big ol’ bulls eye painted on it. And the CEO was trying. But this CEO – he’s likely to take Starbucks right where Mrs. Fields took her business. By killing all the White Space, he’s killing Starbucks.
So anybody who thinks Starbucks is possibly "turning the corner", remember that only 7% of businesses that hit a stall every grow consistently at a mere 2% ever again. And Starbucks is not doing the things likely to put it in that 7%. Making a great coffee will do just about as much for saving Starbucks as those big, soft, fattening cookies did to save Mrs. Fields after she opened a few hundred stores. It’s not about what you did last year – it’s about what you’re going to do next. And another flavor of coffee, well…….