Defensive Strategy

Savvy Pricing at Starbucks

23 Sep 2010  

Yesterday Starbucks announced that it was increasing prices.  You can read an article about it here:

The announcement isn’t a surprise.  The price of green Arabica coffee has risen dramatically this year; it is now close to a 13 year peak.  With that sort of increase in cost, Starbucks had to do something to maintain profits.

What is a surprise is that Starbucks is being quite strategic about the price increase.  Instead of taking a simple across the board increase, Starbucks will increase some prices while holding or even decreasing other prices.

This is very smart. 

Starbucks knows that there isn’t one single customer and there isn’t one single buying occasion.  The person who springs for a $5.00 vanilla skinny soy latte is looking at a very different value proposition than the person who opts for a tall cup of black coffee.  The economics of the transition are different, too.  Similarly, the person buying a bag of Starbucks coffee in the grocery store is looking at a completely different set of choices.  There is only one Starbucks store, but there are all sort of nice brands of coffee in the grocery store.

By strategically managing pricing, Starbucks can increase prices where feasible, and hold prices where it must.  In addition, by keeping some prices flat, Starbucks avoids the obvious PR risk: headlines proclaiming that Starbucks is increasing all its prices. This could have an impact on consumer perceptions around value.

Pricing is one of the most important levers for driving profits.  Starbucks is very smart to approach it with thought and discipline.

3 Responses

  1. Art says:

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  2. craig kensek says:

    No kava on Starbuck’s part while planning their new pricing!. They’re fine tuning the portfolio. There’s probably some perception on people’s part that for their basic small, medium, large coffees (oh, nooooo, not Starbuck speak!), they may be near the trigger point for their basic drinks and people will just downsize. The $5 drinks (I looked at the calories once and decided not for me) may exhibit different price elasticity then the basic offerings by virtue of who is buying them. They are still trying to get some incremental $ by letting purchasers in the morning buy a cold drink for $2 in the afternoon.

  3. Miguel says:

    A brief excerpt from Tim Harford’s book, The Undercover Economist.

    “According to economics professor Brian McManus, markups on coffee are around 150%- it costs forty cents to make a one-dollar cup of drip coffee and costs less than a dollar for a small latte, which sells for $2.55”

    In addition, the cost of coffee on a cup is quite small to acknowledge for the increase in the price of the full cup of coffee (the costs in the excerpt above may be outdated, but the relationship remains true).

    In conclusion, they increase the price because they can and because people will still pay for it. I agree with your point on the strategic price increase to certain products.

    Kellogg’s faculty blogs are great, keep them coming.

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