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Chinese Not Waking Up and Smelling the Coffee

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Coffee's growth potential in China looks spectacular, apart from one inconvenient little fact.

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China Resources Enterprise, owner of Hong Kong based Pacific Coffee shops, recently announced plans to take on Starbucks (SBUX) in China, eventually hoping to operate 1,000 stores across the country.

Having lived in China for over a year now, I find it difficult to understand the aggressive expansion and growth coffee retailers envision here. I get the potential, but I fear that thousands of premium priced coffee shops is a bit of a stretch for a developing country that doesn't particularly like coffee.

On a typical morning, my colleagues (mostly young financial professionals receiving above-average salaries) turn their nose up to my daily regime of a cup of black coffee, snickering about my "American ways". If anyone in China were to pick up on the caffeine habit, I'm certain that analysts pulling long hours at the office would be the group of individuals to do it.

Don't get me wrong, the Chinese love Starbucks. Groups of young Chinese can be seen sprawled out across the tables at any Shanghai Starbucks location meeting with friends.

But as they pose for pictures and leave with half-finished drinks, it becomes apparent why they go. The Chinese love Starbucks like they love Coach (COH) -- for the status association of a premium Western brand, and the experience.

The Chinese consumer is a tricky one. They are not brand loyal, but they are very brand aware. They don't always purchase an item because they want it; many times they do it for "face" or for the experience. They typically don't understand why a brand is premium priced. They believe that it is worth the price because it's Western. Case in point, GM has convinced the Chinese that a black Buick is a luxury vehicle on par with a BMW, and Yum Brands (YUM) has them fooled that Pizza Hut is a classy, sit-down restaurant.

In fact, I'm willing to bet most blindfolded Chinese who claim they are Starbucks fans couldn't tell the difference between a cup of Folder's instant from a cup of freshly roasted Starbucks.

The bottom line is Starbucks China is selling an experience.

And they aren't the only ones. This Bloomberg article highlighting Ikea China tells the same story. I myself have seen the crowds of people sleeping in beds and living in demo rooms throughout the store as they test out the "Western" life they believe is found in the Shanghai Ikea store.

A 30 RMB venti-sized Starbucks latte is nothing more than a status symbol that provides a taste of Westernization . But it will never become a daily ritual for the majority of Chinese and not just for financial reasons; they simply just don't like coffee.


Country

Average cups of coffee per capita per year

Finland

1,459

Sweden

1,117

Netherlands

1,071

Norway

1,051

Denmark

982

Austria

850

France

735

Germany

731

USA

400

Japan

360

Korea

140

China

5



Source: SPR Coffee

Some see the above number as potential. I see a number that coincides with my daily observations with the Chinese themselves.

Pacific Coffee isn't a threat to Starbucks because it doesn't offer the Starbucks experience people seek. And I predict Starbucks to be a clear cut leader in the coffee market as the industry continues to mature.

But Starbucks investors should bear in mind that long term growth here is limited to how much Starbucks can grow the experience it sells, not the coffee. Given store expansion targets, I'm not so sure Starbucks or its competitors understand that.

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No positions in stocks mentioned.
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