Starbucks Corporation: Global Coffee House With A Strong Customer Base

Overview of Starbucks Corporation

Question:

Describe about the role of the cost in the process of decision making, ratio analysis of Starbucks and discussing the benefits and the limitations of the process of budgeting and planning?

Starbucks Corporation that is generally known by the name of Starbucks coffee is an America global coffee company and is a coffee house that is based in Seattle, Washington. It is the largest coffee house in the entire world and is ahead of UK. It has 21,160 stores in 63 countries and territories and includes 12,067 in the US, 1,570 in China and 1,451 in Canada and 1070 in Japan and 793 in United Kingdom.

It serves hot and cold beverages, whole bean coffee that is micro grounded instant coffee with full leaf teas, pastries and snacks.

(Starbucks, 2014)

Starbucks strives to build a very comfortable environment for its customers and also, end up in building personal relationships with them. It has a very strong customer base and the main reason behind the success of Starbucks are its employees. One of the managerial success lies in the fact that it realizes the importance of diversity. It believes in a combination of differences and similarities in the pursuit of new ideas and individual relationships made every day.

Starbucks enjoys a very sound financial position and this is evident form the fact that it has successfully managed to increase its profit margins and revenues.

The key resource in the organization are its employees. The reason as also has been stated above is its employees.

This report aims at discussing the role of the cost in the process of decision making, ratio analysis of Starbucks and discussing the benefits and the limitations of the process of budgeting and planning.

(Digital comms, 2015)

Cost benefit analysis is the most logical way of making decisions on the basis of the most probable outcomes and alternative course of actions.

(Web Education, 2015)

Decision Making is one of the most important managerial tasks. The process entails selecting the most appropriate course of action for solving business problems. A good accountant will consider the different techniques of cost accounting and then make the best decision.

The prices are raised during the tough times in order keep the business going but the company ends up in losing its most loyal customers that perceives coffee as an affordable luxury.

The company started to increase the prices of its products but rather than trying to compete with the chains such as the Dunkin, it used its prices so as to separate itself from the pack and reinforce the brand that it is. It is a royal brand and enjoys an inelastic demand curve that is not very sensitive towards the pricing. But when it increases the prices of its products, there is a huge rise in the profit margins.

The increase in the pricing is targeted towards the specific drinks rather than the whole lot of its products. When it rises the price of its tall size brewed coffee, then it successfully captures the consumer surplus from the customers that find more amount of value in the upgrading to Grande after being a witness to the price of the small dip with the tax climb. When it revises the price of few of its products, it is able to reach a huge amount of profit margins and then the customers purchase increased amounts of the product. The following are the points around which the pricing strategy of Starbucks revolve:

Importance of Employees in the Success of Starbucks

a. Starbucks knows its customers base and therefore increase the prices of its products only by a small amount so that the customers do not mind shelling out the same but at the same time, its profit margins are reaching the heights.

b. Justification of the exchange rate: the communication of the price is very important for the success of the business and for maintaining the customer perception.

The strategy that the Starbucks follows is that it considers the customer perception to be of utmost importance. It increases the prices of its products by using the changes in the market such as the high amount of the commodity costs and then slows down the pain onto the customer by finding the attractive way through which it can publicize the new prices. Starbucks stated that the prices of their beverage would increase by an average of 1% but that brought all the beverages in the equation including the ones that were at the same prices.

c. The customers value the products and the service of Starbucks. The company cannot increase and maximize its profits if the company if there is no product differentiation. For Starbucks, if its customers does not value its coffee, then no profit increase would be possible, but luckily they value the delicious cup of coffee offered to them by Starbucks and its demand is inevitable. It aims at building the services or the products that the customers die for and if nay business is able to do that, then the business will be able to hike its prices.

d. Starbucks always raises its prices so as to convince the customer’s to purchase the larger sizes of its coffee. The hike in the prices will enable the customers to move to the more expensive options and that have a higher amount of the profit margins. The motive is to use the increase in the prices as the tool to guide the customers towards the product that is more profitable.

(Price intelligently, 2015)

During the latest quarter 2 earnings, the company has stated that this is the year worth of protection on inventory and contracts. In order to hedge against the rising prices of coffee the company has already locked its coffee requirements for the year 2014 and around 40% for the year 2015. The inputs costs of the company are very near to its favorable levels and this has been ascertained taking into account the brand appeal of the company. The company lures its customers into the store through the traffic in its store amenities.

(Forbes, 2015)

For the packaged coffee and the retail business, there are many factors on the basis of which the company determines their pricing decisions like the competitive dynamics and the cost structure of its products. The company prices is products on the basis of the long term, market by market and product by product basis.

(ABC News, 2015)

The coffee companies do not generally decrease the prices of their coffee. Starbucks had increased the prices of many of its drinks by an average of 1%. During the year 2012, the company had increased the prices of its drinks by around 1% in the Northeast and Sunbelt, including the regions like New York, Atlanta and Dallas. During the year 2011, the company has increased the prices of its coffee by 17%. During the year 2014, the company has not decreased its prices even when it says that it did by decreasing the prices of its products by 10%. The decrease in prices were due to the fall in the wholesale prices. While many of the stores such as the JM Smucker Co, that sells the packaged coffee had reduced the prices of its products by 6% during 2014 but had also increased the same by 23% during the year 2011.

The spokesperson of the company says that the customers go to its store for its jazz music, free Wi-Fi that encourages them to sit there for hours. The coffee product consists of 8 to 10% of its overall operating expenses and other costs includes the rent, labor, materials and the commodities like fuel, energy and dairy. The company prices its products very accurately since the customers have started watching what they actually spend.

(Market watch, 2015)

The Role of Cost in Decision Making

(QZ, 2015)

The above figure shows the food costs relative to the total sales. The demand of its products is inelastic. The company can pass on the higher amounts of the costs that it incurs to its customers. In accordance with a market researcher, the brand value of the company jumped from 44% from the last year.

The company has focussed on increasing its profit margins through the following:

a. Aligning its cost structure with the current business strategy by planning the $500 million structural expense reduction in the year 2009.

b. By improving its operational efficiencies and by making the technological investments

c. By meeting the needs of the customer for value and equity

d. By investing in the tools and the training of the needs of the store managers.

The company makes its strategic investment by taking the following key initiatives:

a. It entered into the $17 billion instant coffee market along with the launch of the Starbucks VIA Ready brew instant coffee

b. By focusing on the global store expansion in the key markets

c. By increasing the customer products, licensed stores and the food service channels

(Starbucks, 2015)

Ratio analysis is performed from information that is contained in the company financial statements. It is the best way of getting quick information on the financial performance of the company. The ratios are categorized into the following:

a. Short-term Solvency Ratios
b. Debt Management Ratios
c. Asset Management Ratios
d. Profitability Ratios
e. Market Value Ratios

(Penhall, 2015)

The following are the calculated ratios in respect of 2 years:

	(Amounts in $ in millions)
Particulars	2014	2013
Short term solvency or liquidity ratios:
Current assets	4,168.70	5,471.40
Current liabilities	3,038.70	5,377.30
Current ratio	1.3719	1.0175
Current assets – inventory	3,077.80	4,360.20
Current liabilities	3,038.70	5,377.30
Quick ratio	1.0129	0.8109
Efficiency ratios:
Sales	16,447.80	14,866.80
Average debtors	596.20	523.65
Debtors turnover ratio	27.5877	28.3907
Cost of goods sold	6,858.80	6,382.20
Average inventory	1,101.05	1,176.35
Inventory turnover ratio	6.2293	5.4254
Profitability ratios:
Net profit	2,068.10	8.30
Sales	16,447.80	14,866.80
Net profit margin	12.57%	0.06%
Net income	2,068.10	8.30
Total assets	10,752.90	11,516.70
Return on assets	19.23%	0.07%
Net income	2,068.10	8.30
Shareholder’s equity	5,273.70	4,482.30
Return on shareholder’s equity	39.22%	0.19%
Long term solvency or financing ratios:
Total liabilities	5,479.20	7,034.40
Total equity	5,273.70	4,482.30
Debt to equity ratio	1.0390	1.5694
Total liabilities	5,479.20	7,034.40
Total assets	10,752.90	11,516.70
Debt to total assets	50.96%	61.08%

The following is the comparison and explanations:

Return and risk:

A risk is the likelihood that the expected return would be different from the actual return. Return can either be a loss or a profit.

Profitability:

Profitability is the potential of a business to yield gain or profit. Profitability is measured by the profitability ratios like profit margin, return on assets ratio, and return on equity ratio.

Current ratio:

Current ratio is the measure that tells us as to what extent the current assets are able to pay off the current liabilities of the company.

It is arrived at by dividing the current assets by the current liabilities.

The above graph shows an increase in the current ratio which is good since this clearly means that the company will be able to convert its short term receivables into cash with ease. The increase in the ratio is due to the decrease in both the current assets and current liabilities.

Acid test ratio:

Quick or the acid test ratio is the measure to determine the extent to which the current assets, except inventory, are able to pay off the current liabilities of the company.

It is arrive at by dividing the sum of cash, accounts receivables and short term investments by the current liabilities.

The above graph shows an increase in the current ratio which is good since this clearly means that the company will be able to convert its short term receivables into cash with ease. The increase in the ratio is due to the decrease in both the current assets less inventory and current liabilities.

Ratio Analysis of Starbucks Corporation

Accounts receivable turnover ratio:

It is a measure through which the company estimates the number of times the company collects the balance in the accounts receivables account.

It is arrived at by dividing the sales by the average of opening and closing accounts receivable.

The ratio has increased which means that the company is able to convert its inventory into sales much faster when compared with the previous year. The increase was due to the increase in the cost of goods sold and decrease in the average inventory.

Profit margin ratio:

It is the ratio that is expressed between the net income that is earned by a company and the sales that are affected during that period.

It is arrived at by dividing the net income by sales.

The net profit margin of the company has increased which is quite good since if the company does not earn profits, it cannot survive in the industry for much long. The increase could be the result of the increased net profit along with the increase in the sales when compared with the previous year.

Return on assets (ROA):

ROA are the earnings that the company earns by investing its money in the assets of the business. This ratio tells us how effective and efficient the management is in using the assets of the company in order to generate revenues.

It is arrived at by dividing the net income by the average of opening as well as the closing balance of the total assets.

(Accounting course, 2015)

The return on assets have increased which shows that the company is able to earn more profits on the assets that it is investing in the business. The increase was the result of the increase in the net income and decrease in the total assets.

Return on equity (ROE):

ROE are the earnings that the company earns by investing the funds of the shareholder’s in the business. The more the return on equity, the better is the profitability of the business.

It is arrived at by dividing the net income by the average of opening as well as the closing balance of the shareholder’s equity.

(Finance formulae, 2015)

The return on shareholders’ equity has increased which shows that the company is able to earn more income on the equity of the shareholders that it is investing in the business. The increase was the result of the increase in the net income and increase in the equity of the shareholders.

Debt equity ratio:

It is a measure to ascertain the extent to which the equity as well as the liabilities of the company is used to finance its assets.

It is derived by dividing the total liabilities by shareholder’s equity of the company.

The ratio has reduced and the cause could be fall in the total liabilities and rise in the total equity.

Debt to total assets expresses the ratio between the amount that the company owes to outsiders and the total assets.

Benefits and Limitations of Budgeting and Planning

The ratio has reduced which means that now the company owes lesser amount of money to the outsiders. The reason for the same could be the fall in the total liabilities and the fall in the total assets.

The following table shows the growth of the company’s revenues:

	2005-09	2006-09	2007-09	2008-09	2009-09	2010-09	2011-09	2012-09	2013-09	2014-09	Latest Qtr.
Revenue %
Year over Year	20.31	22.26	20.86	10.32	-5.86	9.54	9.27	13.67	11.98	10.45	13.29
3-Year Average	24.65	24.09	21.14	17.69	7.87	4.39	4.06	10.81	11.62	12.02	—
5-Year Average	24.04	24.07	23.4	20.57	13.05	10.95	8.48	7.16	7.48	10.97	—
10-Year Average	29.91	27.3	25.55	23.01	19.25	17.31	16.01	14.99	13.84	12	—
Operating Income %
Year over Year	27.95	14.52	17.9	-52.19	11.53	152.56	21.78	15.56	—	—	12.54
3-Year Average	34.79	28.16	19.99	-13.58	-14.33	10.43	50.81	52.61	—	21.25	—
5-Year Average	27.4	26.04	27.02	3.48	-1.63	12.7	14.1	13.64	—	40.54	—
10-Year Average	34.56	31.71	28.14	15.61	13.62	19.83	19.92	20.14	—	17.58	—
Net Income %
Year over Year	26.21	14.11	19.21	-53.1	23.87	141.97	31.74	11.09	-99.4	—	—
3-Year Average	31.98	28.11	19.74	-13.91	-11.52	12.02	58.05	52.42	-79.37	18.41	—
5-Year Average	39.21	25.5	25.61	3.29	-0.05	13.85	17.16	15.52	-51.69	39.55	—
10-Year Average	34.2	29.63	27.9	16.52	14.41	25.89	21.26	20.46	-29.36	18.1	—
EPS %
Year over Year	28.42	16.39	22.54	-50.57	20.93	138.46	30.65	10.49	-99.44	—	83.1
3-Year Average	31.22	28.45	22.35	-11	-9.86	12.54	55.6	50.99	-79.95	18.71	—
5-Year Average	37.86	25.29	26.37	5.12	1.83	15.24	17.94	15.52	-52.87	39.12	—
10-Year Average	29.78	26.53	25.82	16.45	14.44	26.05	21.56	20.82	-29.61	19.02	—

(Morning star, 2015)

The above table shows that increase in the revenues of the company is by 10.45% (year by year), with the 10 year average of 12%. The revenues of the company is on the upwards side and shows an increasing trend.

Starbucks has been given 3 starts by the morning star and has the market capitalization of $66732 million whereas MC Donald’s has $91471millions and the others have a lower amount of market capitalization.

The following table shows the comparison of the company with its peers:

Morningstar Rating

Market Cap

$Mil

Net Income

$Mil

P/S

P/B

P/E

Dividend

Yield%

5-Yr Rev

CAGR%

Med Opera.

Margin%

Interest

Coverage

D/E

Starbucks Corp	66,732	2,510	4	11.6	27	1.3	11	14.8	50.3	0.4
Grilled Cheese Truck Inc.	107	—	—	-56.8	—	—	—	—	—	—
Blue Water Global Group Inc.	11	-2	—	-8.6	—	—	—	-1573.9	-374.4	—
Cala Corp	0	0	—	-0.5	—	—	—	—	-31.2	—
Unique Pizza & Subs Corp	0	—	—	—	—	—	—	—	—	—
Sixx Holdings Inc	—	0	—	—	—	—	0	2.8	—	—
Ambassador Food Services Corp	—	—	—	—	—	—	—	—	—	—
California Beach Restaurants	—	-1	—	—	—	—	—	—	-3.5	—
Roadhouse Grill Inc.	—	-11	—	—	—	—	-7.3	-6.6	-6	—
FRMO Corp	—	0	—	—	—	—	—	13.9	—	—
American Restaurant Holdings Inc.	—	0	—	—	—	—	—	—	4.4	0.1
Great American Food Chain Inc.	—	—	—	—	—	—	—	—	—	—
Harts Restaurants International Inc.	—	—	—	—	—	—	—	—	—	—
IAHL Corp	—	—	—	—	—	—	—	—	—	—
USA Restaurant Funding Inc.	—	-1	—	—	—	—	—	-79	-13.4	—
Kamala Corp	—	—	—	—	—	—	—	—	—	—
American Restaurant Partners	—	-1	—	—	—	6.4	2.8	—	—	—
Worldwide Food Services Inc.	—	—	—	—	—	—	—	—	—	—
Skolniks Inc	—	—	—	—	—	—	2.1	—	—	0.1
UDS Group Inc	—	—	—	—	—	—	—	—	—	—
Wayne’s Famous Phillies Inc	—	—	—	—	—	—	—	—	—	—
Big Buck Brewery & Steakhouse Inc	—	-3	—	—	—	—	12.2	-2.2	-0.8	—
Giant Group Ltd	—	4	—	0.5	1.3	—	—	—	—	0.6
Marston’s PLC	—	-50	—	—	—	—	4.8	18.7	0.2	1.6
Del Taco Restaurant Properties I	—	0	—	—	—	—	—	85.8	—	—
iBrands Corp	—	—	—	—	—	—	—	—	—	—
Industry Average	3,892	315	2.3	7.7	24.2	2	6.4	-40.7	24.2	1.1

(Morning star, 2015)

Planning is very important when it comes to decision making. It is done at all the levels of the company. Starbucks operates through a number of stores in 37 countries. The main concentration of Starbucks is on the 15,000 US stores and 30,000 stores around the world. All these earn a good amount of revenue of 20 to 50%. The glitzier goal of the company takes it much beyond the coffee roots and helps in defining the roots of the society along with the culture of the company. Starbucks is considered to be the most dynamic retail brand. It has become the global brand leader by reinventing the coffee experience. It has given the life to the US that did not exist before.

(Scribd, 2015)

Setting up of gaols is of vital importance and making the plans in order to achieve those goals is another. Without the gaols and planning, the managers have nothing to do and nothing to organize, led or control or decide. It is very important for the managers to develop the long term and the short term goas and then make appropriate plans. Most of the companies that are successful today, be it Dell, Apple or Starbucks started with a small capital and soon became the most successful companies in the world. Starbucks started with just one store in Seattle and by 2006, had 11,377 stores in 37 countries. And it continues to grow and expand. It is important for the management to look for the opportunities outside their comfort zones for the expansion of the businesses. If this does not happen, then the competitors will take over the market and move ahead. In order to make the long term decision making, the techniques of capital budgeting is used. For example, the techniques like Net present value, profitability index, capital rationing, internal rate of return are widely used.

The budgets are the instruments that are used for planning and control. The budget specifies the amount of expenditure that is allowed to be incurred in respect of each activity. Though the amount in excess can be incurred but then that would be reflected in variances.

Starbucks Pricing Strategy

(E Notes, 2015)

The following are the advantages of using the budgets:

1. They provide a method of allocating and using the resources within an organization

2. They help in monitoring and controlling the operations

3. They promote forward thinking. It helps management in making plans for the future to face the challenges.

4. They show employees the picture of the organization as a whole which could motivate them

5. They help in the co-ordination of the different departments and help them align towards the shared objectives

6. They provide a framework for delegation

(Business, 2015)

7. It helps in the creation of the performance evaluation of the managers. The incentives of the managers are based upon the actual performance as against the budgeted figures.

8. It helps in the planning of the resources along with their allocation. The allocation is of the key or the scarce resources are carefully looked into at during the process of preparing the budgets.

9. During the stage of budgeting, all the non-value activities are eliminated and the new and the enhanced processes are designed so as to increase their productivity

10. Budgeting is the time for the co-ordination of the plans so as to plan ahead the teamwork and the improvement of the processes and goal congruency between the company and its employees

11. During the time period of setting the budgets, the duties are adequately delegated and the responsibilities are segregated. With the setting up of the budgets, the company feels in controls of the various business activities.

The following are the limitations of budgeting and planning:

 1. They may end up in demotivating the employees as they may feel that the budgeted figures are way too high to achieve

2. The managers may pad the budgets so that they can reach the top most position

3. The budgets emphasizes on the focusing on the results rather than focusing on the real reasons

4. When the unrealistic and the unachievable budgets are set up, the managers could lead to making the decision that may prove to be detrimental to the interests of the company.

5. Even if the budget is correctly set up, it will never be able to reflect the true realities and the complexities that are faced by the company

6. There comes a need to revise the budget from time to time and is based upon the set of circumstances and the best information

7. Setting up of the budgets would fail if they are set up without the full co-operation of all the parties.

8. The inaccurate and the unrealistic information could lead to the setting up of the unrealistic budgets

9. Budgets could lead to inflexibility when it comes to the process of decision making

10. Budgets are required to be changed with the changing scenarios

11. It is a time consuming process

12. It could result in the short term decision making but not for the long term decision making.

13. It could lead to rivalries among the departments

(College Accounting, 2015)

(Tutor, 2015)

(Budgeting Income, 2015)

Conclusion:

Starbucks has a huge customer base and enjoys a very good brand appeal. This is mainly due to this reason that the company can afford to increase its prices without compromising on the number of customers it enjoys. The company increases the prices of its products by a small amount so that it does not pinch its customers and they do not mind in shelling out some extra pennies.

In terms of ratio analysis, all of the ratios that have been calculated above, show an upward trend which is quite a good indicator and shows that the company has a very bright future.

The capital budgeting techniques such as the net present value, profitability index, and internal rate of return are used in order to decide the number of investment opportunity to be chosen. Only if the project shows a positive amount of net present value, greater internal rate of return, should it chosen for investment.

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