How are Starbucks taking over the World?

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How are Starbucks taking over the World?

by Alastair Drysburgh, Akenhurst Consultants

I don't know what it's like around your way, but in my neighbourhood Starbucks coffee shops seem unstoppable. Partly it is because they do serve very good coffee in a pleasant environment, but there are some less obvious tactics involved. For example, they have clearly read the book on pricing.

Tactic 1 - "Goldilocks Pricing". Remember the story of Goldilocks and the Three Bears, where she found the bed that was not too small, not too big but just right. That's why Starbucks offer their drinks in three different sizes. The psychology is based on avoidance of extremes. If I offer two sizes, regular and large, most people will go for the regular. If I then add a third size, extra large, people will be drawn to the one in the middle. Even if nobody ever buys a single extra large (and the extra large size in Starbucks is a pint of coffee !) just having it on offer will persuade many customers to upgrade.

A quick calculation shows the power of this approach. Suppose that selling regular size makes a net profit of 5% of sales after fixed costs - i.e. it is just keeping the lights on. Persuading just one person in 4 to take the next size up doubles this.

Tactic 2 - the extra shot. If you want, you can have an extra shot of coffee for a stronger cup. What's interesting here is that offering this reduces the gross margin. Gross margin (guesstimated by me)is around 80% on the basic coffee, but only 50% on the extra shot. Why do this ?

The reason for both these strategies is - don't look at margin on sales, look at profit per customer. Once you have perfected the Starbucks formula, the number of visitors you receive depends on the location of the shop and the number of competitors nearby. You can't change either of these, so you work on maximising the amount you make out of each visitor. Doing this by dropping your gross margin (as in the case of the extra shot) may be counter-intuitive, but makes excellent sense.

If you are one of those businesses who don't have an unending source of new customers, are you doing everything you can to maximise the value of those you do have ? Even if you could invest to gain new customers, would increasing the value of the existing ones give you a better return on investment ?

Taking a fresh look at your pricing could be the easiest, fastest and biggest thing you do to increase your profitability. If you haven't already seen it, take a look at the pricing white paper - available from http://www.akenhurst.com/pricing2.htm

Alastair Dryburgh is a consultant who helps companies find the great business hidden inside their existing business. http://www.akenhurst.com