Problem definition: Customers were abandoning Starbucks for cheaper alternatives like McDonalds and Duncan donuts

recent quarterly earnings release (third quarter ending June 28), same store sales in the U.S. were down by 6%
4% of this decline was due to fewer transactions (customers defecting to McDonalds for instance) and the remaining 2% from a decrease in average value per transaction

Profit for the full year fell 53 percent to $315.5 million, while the companys value declined dramatically

The Starbucks share fell by 43 cents, a figure that reflects about 28 cents a share in restructuring charges.

Conventional wisdom suggested that Starbucks should reduce its prices to cope with the competitor prices.
This solution was not acceptable by the management because it will compromise the profit margins and the quality of the product

Starbucks aimed at maximizing its profit from its devoted customers who are hooked on its products. In other words, its specialty drinks are in the cash cow phase of the Boston Consulting Groups Growth Share Matrix. For products in this cash cow phase, the general recommendation is to reduce investments and simply harvest profits from current demand.

Starbucks calculated the elasticity of demand and discovered that only 17% of its clients are price elastic and left for cheaper alternatives, while the other 83% were price inelastic and dont care for paying a slightly more expensive price for their favorite coffee

Starbucks decided to increase its prices by 8% which ranged between 5-30 cents. The profit in the premium drinks which constitutes to the majority of Starbucks sales used to be 44% The new profit suggested would be 52%

shares of Starbucks climbed by 2.2 percent to $47.04 on Tuesday following the announcement, according to NASDAQ. The company forecasted a 20 percent profit growth of $1.75 to $1.82 per share this year. Net income for its fiscal third-quarter ended June 28 was $151.5 million, or 20 cents per share.

For fiscal 2010, Starbucks expects earnings per share growth of 13% to 18%

Starbucks price increase Vs McDonalds

To be successful, businesses cannot make decisions based on hunch, gut feel, latest management fad, or so called conventional wisdom. Decisions need to be based on data and analysis which is easier said than done.
In the Star bucks case the analysis was primarily based on calculating the elasticity of demand and through it, they managed to increase their profits despite the decrease in the customer platform they posses.

New York Times The wall street journal market watch Ycharts stock exchange Reuters

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