Introduction This report analyses the external environment of coffee industry in Spain. It uses the Porter's Five Forces Model to analysing the competitive industry environment. Firstly, we introduce coffee industry in Spain and Porter's model. Secondly, we develop the analysis. And at the end we criticize used model. Coffee market is the biggest commodities market in the world apart from oil. Coffee is mainly grown by small farmers in south countries. The economies of some of the poorest countries in the world are highly dependent on coffee trade (Glesser and Tickey, 2002). In 2005, they produced 105,38 millions of bags 1, 87,49 millions of them went to exportation that meant an amount of 9,82 US$ billions (ICO, 2006). The coffee is usually exported in green beans to north countries where is processed (roasted, grounded, decaffeinated...) and consumed. Only 5% of world coffee is processed in south countries (Scholer, 2004). World consumption is estimated at 116.2 million bags in coffee year 2005 (ICO, 2006). Spain: Imports of green coffee 1996 – 2006 in bags of 60 kilos Year
Volume
1996
3270741
1997
3490161
1998
3483274
1999
3633701
2000
3511108
2001
3772666
2002
3681934
2003
3785850
Our analysis focuses on the interval in coffee chain between importation to consumption. Corporations in this market are called roasters. They usually buy green coffee and transform it in order to sell finally to customer. They can make one or more processes in this chain. There are two big final ways to coffee: home and food service consumption.
Spain is the 4th green coffee importer country 2004 3770856 within EU. 4.023.116 bags of green were 2005 4020600 imported. The main suppliers are Vietnam and 2006 4023116 Brazil, which shared 57,57 percent of total coffee Source: ECF 2007 imported in Spain during 2006 (ECF, 2007). In the last few years, coffee market has remained stable in Spain whilst it has increases in the world market. Spanish people consumed 163.840 tons of coffee in 2006, thus 3,8 kg per person and year. Nevertheless coffee consumption decreased during the year 2006, coffee consumption per capita has increased during last decade (MAPA, 2007). 1 Every bag is 60 kg of coffee Strategic Management – Coffee Industry in Spain
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Roasted coffee represented 83,28% of the total market, whilst soluble coffee was 16,72%, following a similar trend as previous years. Distribution between home consumption and food service gave a result of 56,12% of total consumption to the former sector and 43,88% to the latter. Ground coffee represented over 92,14% whilst whole beans was 7,86%, remaining considerably stable over the last few years, with an increasing trend for ground coffee. Decaffeinated ground roasted coffee, what represented 18% of total home roasted coffee consumption, increased as well in the year 2006 (ECF, 2007).
Coffee consumption in Spain 175 170
4
165
3,9
160 155
3,8
150
3,7
145
3,6
140
3,5
135 130
3,4
1998
1999
2000
2001
2002
2003
2004
Per capita
Total (Millions
(kg/person/year)
Kg.)
2005
2006
Source: Ministerio de Agricultura, Pesca y Alimentación (MAPA)
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Spanish Coffee Industry analysis We are going to use Five Forces Model in order to analyse the coffee market in Spain. This model was developed by Michael E. Porter in his book “Competitive Strategy: Techniques for Analysing Industries and Competitors” in 1980. On this he has identified five competitive forces which determine intensity of competition and thus the profitability and attractiveness of an industry. These forces are: bargaining power of suppliers, bargaining power of buyers, threat of potential new entrants, threat of substitutes, and rivalry among the existing firms. In this report we will analyse each force, one to one.
The bargaining power of suppliers The bargaining power of suppliers is almost null. Main cause is grower characteristics. Coffee is produced in over 50 countries by up to 25 million farmers, mostly in developing areas (Wilson, 2006). Most coffee growers (80%) are small holders with just two or three hectares of land where it is difficult take advantage of technology, without resources as transportation, cash reserves or market information. Roaster companies have different ways to buy coffee as directly from the farmers, using intermediaries, through government agencies, exporters or from brokers. Latest is main used way. Brokers connect coffee exporters and importers, and buy and sell coffee on commission. Coffee prices are determined every day on the world commodity markets in London and New York. It is determined by the relationship between the amount of coffee available to be sold and the amount which companies want to buy. Thus, the market determines the price that farmer receives. However coffee prices are suddenly rising, in the last decades there were a major crisis due overproduction. Roasters was beneficed low prices while growers became yet poorer. Glesser and Tickey (2002) stressed that retailer price of one kg of soluble coffee was 26,40$ in UK while price delivered to factory was 1,64$ and grower had received 0,14$. Supplier cost influence in final price is very weak. Farmers can only receive higher price if they can offer higher quality. But it is not always possible. Furthermore, roasters have flexibility to choose type of coffee in order to make Strategic Management – Coffee Industry in Spain
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the blend and reduce costs. There are different types of coffee but two main are Robusta and Arabica. Latest is generally regarded as being of higher quality. Robusta, cheapest variety, is more used to blend nowadays (Scholer, 2004). Another way to add value could be that farmers make some processes, but technology is concentrated in consume countries. Coffee beans keep long time fresh whilst roasted coffee lost quickly its flavour (Scholer, 2004). Nevertheless, producer countries become to boost their own consumption.
The bargaining power of buyers Retailers are customers of roaster companies. We are talking about supermarkets, food services, independent retailers, coffee houses and vending machines. We can distinct two differentiated main ways of consumption: home and food service. In Spain, as Mediterranean countries, food service consumption (58%) is more elevated than home consumption (41,8%) (MAPA, 2006). Home consumption is mainly provided by supermarkets (58%) and hypermarkets (30%). Distributors (75%) are common providers in food service (Morales, 2003). In the last few years there has been an increment of coffee shops and vending machines. For example in the U.S.A., coffee houses has increased from 585 in 1989 to 17400 in 2003 (Wilson, 2006) Retailers are concentrated, large companies lead as home as food service distribution. Thus they have a great bargain power. However, brands and product differentiation are very important in customer final election. This equilibrates forces, but it forces companies to develop expensive marketing policies. Backward integration is possible. Indeed, this is a new phenomenon related with coffee stores chains as Starbucks. Success of Starbucks has encouraged the emergence of smaller boutique coffee houses and has also boost greater demand for quality coffees and blends. Selling price importance depends on kind of retailers. In food service selling price is far from cost, so bargaining power are high for retailers. In home consumption prices are more adjusted, but final customers contact, delivery conditions show roasters dependence from biggest retailers.
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The threat of potential new entrants New entrants come into market place when the profit margins are attractive and the barriers to entry are low (Lynch, 2006). Coffee industry is a profitable industry, specially for roasters. Nestle soluble profit margins are estimated near 30%. Roasted and grounded coffee is less profitable than soluble but its earns are still enviable. For example, margin for Sara Lee beverage are nearly 17% (Glesser and Tickey, 2002). Few companies control international market and use their force to build big walls to entry to news probable competitors. Porter (1998) defines seven major sources of barriers to entry: economies of scale, product differentiation, capital requirements, switch costs, access to distribution channels, cost disadvantages independent of scale, and government policy. Indeed, product differentiation is the most important of these. Multinationals spend millions of pounds in branding and marketing. Spanish coffee market, as world market, has strong presence of multinationals companies. 65% of home consumption sales are occupied by three companies: Sara Lee (Marcilla), Nestle (Bonka, Nescafe) and Kraft (Saimaza) (Morales, 2003). This elevated spend on advertisement is a barrier what can unboost new entrants, particularly importer companies or big growers. Advertisement influences demand. And demand opens the access to distribution channels. Accessing and keeping distribution channels are determinant. Afterwards, any change will imply costs to stores, supermarkets or restaurants, and extra cost to new entrants. Nevertheless, switch costs are not enough. Costumer perception is important too. Ethics or better perceived flavour can induce a change. Research and development will play a determinant role. This implies an extraordinary effort to know the market and its new trends. Only big companies will be able to develop new better products (Nescafe Original...), performances (Nespresso, Tacimo...), ... and support these costs independent of scale. New technology can help to reduce cost and become also both a cost independent of scale and also a barrier to new entrants. Roasting green coffee, grounding and packaging, converting in instant coffee or extracting caffeine are the process carried out by the coffee industry. All are economies of scale. This means a barrier of entry because new entrants has to come in on a large scale in order to achieve the low cost levels of those already present (Lynch, 2006). However, there are also other 300 small and national roaster companies (Morales, 2003). They only produce roasted and grounded coffee, because Strategic Management – Coffee Industry in Spain
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there are simple processes. Instead in other more complex process, decaffeinating or making instant coffee, we find few companies. Liberalisation of Spanish coffee market arrived in 1980. Beforehand one public organism, Comisaría de Abastecimientos y Transportes (CAT), intervened in the market fixing quotas to roasters. Nowadays, there are no duties to import processed or green coffee in Spain and the VAT rate is 7% for all coffee products (European Coffee Federation, 2007).
The threat of substitutes Competition from other beverages, as mainly soft drinks but also herbal teas, fruit juices or mineral water, has been an important factor that threatening coffee demand. Over the last thirty years or so, soft drinks have become more popular than coffee, especially among young people. Below graphic shows this trend in the U.S.A. (Glesser and Tickey, 2002). Price may be a major factor in the change to alternative beverages, but health worries and advertising also provide strong motives to switch to other beverages (ITC, 2002). However, the situation is far from static. Growth of coffee houses as Starbucks, points of view focusing soft drinks related child obesity, growth of vending coffee machines, ... are showing this change. In 2005, retail sales at coffee houses grew up 13.9% to $14.4 billion in U.S.A. (MacArthur, 2006). The rise of Starbucks coffee stores has developed a new business area in coffee sector. In addition, Nestle is expanding the sale of coffee capsules and machines for make espresso at home, under Nespresso brand. This is probably a new formula to provide extra aspects of the service and avoid switching. Quickly other companies have put similar products in the market. Moreover, Nespresso is developing boutiques following the lead of other consumer goods companies, such as Apple computers and Louis Vuitton luggage, which use their own retail outlets to sell products and project a sophisticated image for the brand (Wiggins and Simonian, 2007). Strategic Management – Coffee Industry in Spain
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Indeed, coffee market has not danger of obsolescence. Few years ago, Spanish Food and Drink Industries Federation (FIAB) signed Strategy for nutrition, physical activity and avoid of obesity (NAOS) with Spanish Government. In this document Industry engaged to give available information nutritional to customer, boost the production of low salt, grease and sugar food, reduce in long term caloric share in food products, ... This is a little first step in the fight against obesity that will likely intensify next years. Many opinions are focusing on soft drinks as one of the child obesity responsible. These points of view are influencing customers which most want more healthy drinks. In this way, Coke has strengthened its offerings in tea and coffee after restructuring a joint venture with Nestle SA and acquiring Fuze Beverage LLC, a maker of teas, juices, and other beverages. This is being a strategy to face persistent sodasales slump in North America (McKay and Cordeiro, 2007).
The extent of competitive rivalry There are about 15 green coffee importers and distributors, over than 300 roaster companies and 5 soluble coffee makers in Spain, according to Spanish Coffee Federation. Small companies are commonly producing for local or regional markets. Most of small roasters companies make roasted and grounded coffee to food service sector and white brands for supermarkets. Multinationals make all processes, from importation to specialised processes as decaffeinate. These companies lead home consumption sector. Three multinationals, Nestle, Sara Lee and Kraft have over 60 percent of coffee sales for consumption at home. Nestle is leader of sales in coffee beans 23,5 % and soluble 64,2% (Nescafe). Sara Lee is the first in ground coffee sales accounting a 23,3% (Marcilla) and Kraft share is 18% (Saimaza). Only white brands compete which these giants, representing 22,9 % in ground coffee, 14,3 % in coffee beans and 28,2 % in soluble (Morales, 2003). So, we find two different rivalries depend on product destination. In food service consumption, a lot of small companies compete local or regionally with a no much differentiated products. While in home consumption, big companies compete nationally with their famous brands.
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In home consumption sector, rivalry is high. Competitors are roughly of equal size and all try to gain share. When one of them makes a new product, quickly the rest follow it. For example, fair trade coffee has been an answer to unfair market leads by few multinationals. But in the last years, these multinationals have began to operate with fair trade coffee. Kraft was the first to launch fair trade coffee brand, Kenco (Sweney, 2004). Nestle quickly launched Partners' Blend (Carter, 2005), Procter & Gamble went later. Other companies take their own approaches and even influenced chocolate market (Bettie, 2005). The same occured in coffee stores, Starbucks began successfully and quickly other companies launched similar systems. Thus, CocaCola introduced Far Coast in some countries and Nestle was developing Nescafe Specialty Solutions (MacArthur, 2006). Or in espresso home machines, Nestle launched Nespresso, then Kraft, Procter & Gamble and other companies follow them (Ellison, 2005; Grocott, 2007). Any company can not permit let advantage to competitors.
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Criticism of Porter's Five Forces Model in Coffee Industry Complexity is one characteristic of social matters. Any model will never be whole, it always will be an approach. Porter’s Five Forces Model is not an exception. It may be useful to analyse competitive environment in order to discover industry profitability and attractiveness but other aspects remain forget. It focuses in five main forces as we have explained before. But it forgets one big force, sometimes the most decisive. This is the role of Governments. These may be crucial in coffee industry, specially if they are agree together. It exists an International Coffee Organisation (ICO) founded in 1963 by United Nations and formed by exporter and importer countries. International Coffee Agreement (ICA) is an agreement between producer countries and importer countries managed by ICO in order to reinforce consumption and to achieve a sustainable coffee industry. At the beginning its role was to stabilize the market by managing trade and controlling prices. The fall of prices consequence of overproduction concords with ICA falls since 1989. New ICA was in 2001 that came into effect in May 2005 and supposed a new rise in coffee prices. Porter's model forgets absolutely the role of Governments. In coffee market, this role is essential in exporter countries. In many cases, national economy depends on coffee or other commodities exportation. Governments intervene in different ways to protect their industries and their economy. Some concepts of Porter's model are not close. It is difficult to define clear roles in roaster industry. Firstly, called roaster multinationals are also exporters, importers and sometimes retailers. Then, who is customer or buyer? Vertical integration of processes makes unclear Porter's analysis in roaster industry. And secondly, big retailers create white brands what compete with other brands. Then they are at the same time customer and also competitor. Concepts in Porter's model are getting older. Environment is not always a threat. Trade is not only a competitiveness place, but also a cooperative place. Companies compete but also cooperate to ensure market runs well for them. Lobbies are example of this point. In Spain, Spanish Coffee Federation is integrated by most coffee industry companies. European Coffee Federation is the same in European zone. These organisations have a lot of politic influence and sometimes have no doubt to act politically incorrect. Instead, Porter's model remain in the politically correct way, explaining an unhistorical dream of perfect markets. Strategic Management – Coffee Industry in Spain
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Individualistic and utilitarian Porter's analysis can not understand Fair Trade social movement. Can ethics of people change markets? Customers power perhaps may be higher than Porter imagines. May be not. Which are the limits of profitability of corporations? Porter puts first the interest of corporations. But what happened with people? Corporations have to serve people or people have to serve corporations? Can we in north countries have a coffee quietly while growers live in poor conditions? Which should the aim of economics be? To find egoist profitability without mind in consequences? Some NGOs, as Oxfam International, have influenced public opinion about consequences of coffee market liberalisation.
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Bibliography Beattie, A. (2005) Coffees with a conscience Ethical Branding: Consumers have a choice between the distinct approaches of marks such as Fairtrade and Rainforest Alliance. Financial Times. London (UK): Oct 18, 2005. pg. 13 Carter, M. (2005) Big business pitches itself on fair trade territory Ethical Branding. Financial Times. London (UK): Oct 25, 2005. pg. 13 Ellison, S. New Machines Perk Up Coffee Sales? Wall Street Journal. New York, N.Y.: Mar 16, 2005. pg. B.1 European Coffee Federation (2007). European Coffee Report 2006. Giovannucci, D. (2001) Sustainable Coffee Survey of the North American Specialty Coffee Industry. http://www.scaa.org/pdfs/2001_Sustainable_Report_NA.pdf Glesser, Ch. and Tickey, S. (2002) Mugged: Poverty in your coffee cup. Oxfam International Grocott, J. The Home Front: ReEngineering Espresso; The Complex World of Coffee Research and the Quest for a Better Shot. Wall Street Journal. (Eastern edition). New York, N.Y.: Aug 31, 2007. pg. W.8 International Coffee Organization (2006). Annual Review 2005/2006. International Coffee Organization (2007). Report on coffee trade. September 2007. International Trade Centre (2002). Coffee An exporter's guide. www.thecoffeeguide.org Lynch, R. (2006) Corporate strategy. Harlow : Financial Times Prentice Hall. MacArthur, K. (2006) Coke, Nestlé take aim at Starbucks. Advertising Age. Chicago: Sep 11, 2006. Vol. 77, Iss. 37; pg. 1, 2 pgs McKay, B. (2006) Coke, Nestle Narrow Drink Venture; Move Frees Firms to Pursue Thier Own Coffees and Teas For Rapidly Growing Sector. Wall Street Journal. New York: Nov 3, Strategic Management – Coffee Industry in Spain
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2006. pg. B.3 McKay, B. and Cordeiro, A. (2007) Coke Looks to Plug Sales Hole. Wall Street Journal. New York, Apr 18, 2007. Ministerio de Agricultura, Pesca y Alimentación (2006). Hechos y cifras de la agricultura, la pesca y la alimentación en España 20042005. Ministerio de Sanidad y Consumo (2005) Estrategia para la nutrición, actividad física y prevención de la obesidad. Morales Miguelez, C. (2003). El mercado del café en España. Pangea Consultores S.L. Porter, M. (1998) Competitive Strategy: Techniques for Analysing Industries and Competitors. New York London : Free Press , 2004 Scholer, M. (2004) Bitter or Better Future for Coffee Producers? International Trade Forum; 2004; 2; ABI/INFORM Global pg. 9S Sweney, M. (2004) Kraft beats Nestlé to launch of fair trade coffee. Marketing. London: Jul 7, 2004. pg. 1 Wiggins, J. and Simonian, H. (2007) How to serve a bespokecup of coffee marketing: Nespresso is following other brands with the launch of boutiques to display its product. Financial Times. London (UK): Apr 3, 2007. pg. 10 Wilson, T. (2006) Macchiato Myths: The dubious benefits of fair trade coffee. Review Institute of Public Affairs; Jul 2006; 58, 2; ABI/INFORM Global pg. 24
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