Starbucks - Porter's 5 Forces

Starbucks Corporation (NASDAQ: SBUX) is an iconic brand. The company has over 23,000 locations spread across 68 countries and a logo that is practically symbolic with coffee, coffee shops and a convenient place for people of all ages to meet. On the surface, it may seem Starbucks is a well-oiled machine that could trade on its popularity alone. However, understanding the company’s profitability is a little more complicated.

In 1979, a Harvard Business School professor named Michael E. Porter developed a qualitative framework for understanding the competitive forces companies face. He listed five factors, or forces, commonly known as Porter’s Five Forces, which include the threat of substitute products, competitive rivalry, the threat of new entrants, the bargaining power of suppliers and the bargaining power of customers. This last one is especially important because, first and foremost, Starbucks provides a service to its customers and this puts a fair amount of power in customers' hands.

Small Cost per Transaction, Big Similarities in Buyers

Individually, these customers do not wield much power, as the value per transaction is relatively low, but collectively they do. Even though many purchases are small, they tend to be regular, and buyers share many important similarities. Taken as a whole, Starbucks’ customers have many of the same preferences: a more upscale, convenient food experience in a comfortable environment at a good price. In turn, Starbucks has to make sure the perception of its brand, its products and its stores meet those preferences. This means continually updating its menu, music selection and decor.

Low Costs to Switch Brands

Starbucks’ customers also have bargaining power regarding its value. If the company’s patrons do not feel they are getting a good deal or a good product and experience for the price, they will go somewhere else. The costs of switching coffee shops or brands are minimal, and because many of Starbucks' products are priced at a premium to its competitors, going to a different coffee shop or changing brands may even mean its customers save money by going somewhere else. Moreover, because Starbucks tends to cost a bit more, it has to justify its prices in the other value it provides, whether it is better coffee or chairs that are more comfortable than its contemporaries.

Availability of Substitutes

The bargaining power of Starbucks’ customers extends to their use of substitutes as well. If the cost of getting a cup “to go” becomes too high or certain trends such as roasting your own coffee are not embraced by Starbucks at a corporate level, the likelihood of its customers going somewhere else, or choosing a different product, goes up. For instance, a customer who does not see the value in a $5 latte could want a $2 large coffee. Customers could also choose to brew their own coffee at home. Also, for as many products as Starbucks sells, there are substitutes for its products, such as fresh-pressed juice or loose-leaf tea blends, that could drive customers away from Starbucks and toward other convenience restaurants.

Distribution Networks

Starbucks sells to consumers, but it also sells its products in distribution networks. You can find Starbucks' coffees and teas in supermarkets, club stores, food services, specialty retailers and licensed outlets. As a result, the end distributor, whether it is the grocery store or licensed seller, also has bargaining power. For instance, a grocery store chain may negotiate a discount on Starbucks’ coffee and teas if they are not selling well in certain locations or do not appeal to the local market. This risk can also be significant. Starbucks gets 8% of its business from consumer packaged goods and 3% of its revenues from food service.