February/March Issue 2011
By Tracy Allen
Is the law of supply and demand as strong as the force of gravity? Sometimes it seems like it, but gravity is easier to deal with. Supply and demand is far less predictable than the fact that if you throw a ball in the air, it will hit the ground a few seconds later. And with agricultural products like coffee, the ebb and flow between the volume of supply and the degree of demand leads to resulting surges and drops in prices—and sometimes gasps, panic and scrambling in the industry.
A fair amount of nervousness and speculation began last fall when coffee prices shot up as supplies shrank. Thanks to a trifecta of bad weather, shrinking global production and ballooning consumer demand, roasters had to decide whether to raise their prices right away, or to absorb the cost and wait to see if the price spike would last. U.S. stockpiles were at a 10-year low, and increasing consumer demand in producing countries like Brazil and Vietnam had them poised to hoard their stocks. Large Arabica-growing countries like Colombia and Brazil continue to have issues getting good crop to market.
What should a small to medium-sized roaster or retailer do today, and in the future when supply is bound to shrink again? Should you raise prices? And if you’ve already done so, how do you make sure you keep your customer base?
The smaller your operation, the more you’re at the mercy of the markets since you’re not buying coffee in huge quantities at strategically timed intervals with a deep well of liquid capital and storing it in some gigantic warehouse. Some of you are in tightly competitive markets, competing for impulse buys from drive-by traffic and even grocery-store coffee as people continue watching their wallets. But because true specialty coffee has remained resilient in the last couple of tough years, thin wallets don’t matter as much as you might think. You have the power in your micro-production to make your product stand out against the big guys, and to thereby demand a higher price.
By some estimates, U.S. coffee retailers and roasters saw a 50 percent price increase green coffee in recent months while consumer prices in the same period rose only about 20 percent. The 30 percent gap between cost and price no doubt reflects a cautionary eye on the competition, who may not be raising their prices.
You should raise consumer prices to reflect the real cost of keeping your doors open, but the decision to do so is not as crucial as the decision about how you do it. Raising (and lowering) prices effectively involves good timing and knowing how to influence your customers’ understanding of the value of your product.
Deciding How Much to Increase Your Prices
Sometimes businesses make big price hikes, thinking they’ll get the pain over with and not have to do it again for a long time. But most often prices are increased in stages on the assumption that customers will be accustomed to higher prices over time and be willing to tolerate them as they become more loyal. Retail customers who would be upset by a large one may not notice a series of smaller increases.
In the case of wholesalers, ask any one who’s worked with me what I say more than anything and they’ll probably tell you: “customers don’t like surprises.” Wholesalers have to put their thoughts into words and the numbers to work while considering the retailer on the receiving end. Think it through in terms the retailer can relate to and deliver to the end user. Sounds simple, but I can’t tell you how many clients are won or lost based on the approach, the frequency and/or feasibility of price increases. Granted, your client base should be comprised of mutually beneficial relationships forged on longevity, expertise, trust and ultimately the impact you make on their business. It’s not all about pricing, but how you handle pricing can sever ties. Proceed with caution.
Sometimes You Can Pick Your Moment
If you can, raise prices when you’ll encounter the least resistance. Your shop’s seasonality, growth stage and sales cycle will inform your choice. Some retailers raise prices before the holidays when rushed shoppers pay less attention to prices. A store early in its growth might delay a price hike, however, in a bid to gain market share.
It may be tempting to put off raising prices until after a busy season ends (like the holidays in a shopping district or summer in a beach town), since higher volume can sometimes make up for lower per-unit profits. But while gouging should never be a part of your strategy, a good time to raise prices is when you’re seeing steady, increased demand. (And if you’re ever in a position to lower prices, choose a time when the change will be widely noticed, like in the middle of a big sales season.)
Changing Value and Price
Beyond covering your overhead so you can make a living, your prices are supported by the value your customers perceive in your products and service. Some businesses change value without changing price, like shrinking one-pound bags of coffee to 14 or 12 ounces, thus increasing the per-ounce cost. Customers who notice these tactics may resent them, though it’s become something of a norm in the industry.
You’ll probably get the best long-term results by increasing both price and value. Increasing value can attract valuable customer attention and loyalty, and make the corresponding price hike worth it to them. This can often be done without permanently increasing your cost of doing business. One simple and yet crucial tactic is to prepare your staff to handle pricing questions. (More on this below.)
Prepare Your Staff
When customers notice a price increase, your staff should know how to handle their questions thoughtfully. Depending on how much leeway you afford your baristas, you might let them reward customers who bemoan a price hike with some freebies as a thank you for their continued support.
Some basic guidelines and customer rewards:
- Explain the reasons behind the increase in a confident, non-defensive tone. Something like: “Coffee prices go up and down due to crop yields and consumer demand. We absorb these costs when we can and we’re always trying to give customers value that accounts for our prices.”
- Use the conversation as an opportunity to ask customers what they’d like to see in your shop. More single-origin coffees? A more decked-out condiment station? Local art on the walls?
- Demonstrate the value behind your price increase, quickly and succinctly. Even with the current spike in green coffee prices, we know that specialty coffees are a greater value than before because their prices have not increased at the same rate as commodity coffees.
- If a loyal customer comments on your price increase, consider offering them a value-added one-time bonus to smooth over the transition, like a few extra punches on their loyalty card or a free sample of a small bag of whole beans.
Should you ever lower your prices?
If coffee prices one day stabilize at a lower level, you might consider reducing your prices. Watch the competition, of course. Starbucks changes their prices on a market-by-market basis, factoring in the economic environment, customer demand, competition, cost of goods and labor costs. Big Green lowered its prices in several markets in 2009 when it’s profits started to cool, to lure people back in.
You could arguably do the same thing in your shop, but it’s likely you wouldn’t have to since you don’t have a national reputation for selling overpriced coffee. As long as you keep your price increases reasonable and you communicate to your customers about it, without beating them over the head (some don’t care, they just need their morning latte, and quickly) you can weather these storms with confidence.
On The Horizon
Predictions for next year’s coffee supplies are mixed. Global coffee production is expected to rise in the 2010-2011 season to a record 139.4 million bags, up 12 percent from a year earlier, according to German research company F.O. Licht. But while a large crop is expected in Brazil next year, it will shrink by April. As always, poor weather conditions could further cut production in Vietnam and Central America. This will occur just as coffee warehoused in importing countries will be nearly depleted.
To some extent, higher prices are positive and necessary to sprout interest in planting more coffee to meet growing demand. But if prices rise too far, too much new coffee might be planted, leading to oversupply and plummeting prices in the future.
The Good News
You’ve heard it before but it’s worth repeating: customer retention is easier and cheaper than customer acquisition. Focus on keeping your customer base happy while you try to attract new ones instead of focusing all your energy on generating new business to the detriment of your loyal customers.
Your existing customers are such because of the product and service you give them, not your prices. If your loyal customers get their feathers ruffled by a price increase on their morning capp, remember the one-time value add, which can go a long way in retaining them. They’ll be reminded of how much you appreciate them, and that the price hike is meant to keep your doors open, not to raise profits.
Barista Magazine- Click Here