When an industry sees falling commodity prices, consumers usually expect that this will translate to lower prices for the goods they are paying for. That theory is routinely seen as fact when it comes to oil prices and what you pay per gallon at the gas station pump, but lower commodity costs often fail to ever result in lower consumer prices in many other areas.
One particular instance where lower and lower prices don’t seem to make it down to a savings for Joe Public is in coffee futures prices. Starbucks Corp. (NASDAQ: SBUX) may have revolutionized the coffee business, and this has led a prime example of how coffee prices for consumers should never really expect to go lower when underlying price pressure is driving down the cost of the prices that are paid for coffee.
According to some recent data from Dow Jones News, ICE futures trading in coffee had fallen by 2.7%, down to $0.9195 per pound, to start April off, even after funds in London have lowered their shorts on robusta prices with close to a 10% decline in the short bets last week. There is continued pressure in coffee prices based on fears of heavy supply as weather conditions globally are going to have plenty of rain in many key coffee-growing nations for a market that is already in oversupply. Dow Jones even showed that after coffee prices peaked in January at their yearly highs, coffee futures have dropped almost 16% to multidecade lows.
There is a serious issue about why you should not expect Starbucks and other coffee retailers to be passing these lower prices down to the public. According to the 2018 Starbucks annual report, the company’s Global Social Impact strategy is targeting ethically sourced high-quality coffee where it can contribute positively to the communities Starbucks does business in and being an employer of choice are contributors to its objective. Other companies have adopted many of the same marketing and offering strategies for coffee and other beverages to compete in a Starbucks-dominated world.
One additional issue to watch out for about coffee prices not falling is that Starbucks is selling an experience rather than just competing on prices. Sure, it has to be aware of competitors pricing, but it is the de facto leader of this segment outside of the culmination of independent coffee/beverage retailers and versus the plethora of fast-food destinations that sell coffee.
Starbucks also noted that the price of coffee is subject to significant volatility, but it notes in that 2018 10-K report that the high-altitude arabica coffee of the quality sought by Starbucks tends to trade on a negotiated basis at a premium above the “C” coffee commodity price. The 2018 annual report further discusses coffee prices and hedging around its green coffee, as follows:
We buy coffee using fixed-price and price-to-be-fixed purchase commitments, depending on market conditions, to secure an adequate supply of quality green coffee. Price-to-be-fixed contracts are purchase commitments whereby the quality, quantity, delivery period, and other negotiated terms are agreed upon, but the date, and therefore the price, at which the base “C” coffee commodity price component will be fixed has not yet been established. For most contracts, either Starbucks or the seller has the option to “fix” the base “C” coffee commodity price prior to the delivery date. For other contracts, Starbucks and the seller may agree upon pricing parameters determined by the base “C” coffee commodity price. Until prices are fixed, we estimate the total cost of these purchase commitments. Total green coffee purchase commitments as of September 30, 2018 were $1.1 billion, comprised of $996 million under fixed-price contracts and an estimated $166 million under price-to-be-fixed contracts. As of September 30, 2018, none of our price-to-be-fixed contracts were effectively fixed through the use of futures contracts. Most price-to-be-fixed contracts as of September 30, 2018 were at the Company’s option to fix the base “C” coffee commodity price component. Total purchase commitments, together with existing inventory, are expected to provide an adequate supply of green coffee through fiscal 2019.
Labor issues are another huge factor at Starbucks and other retailers. Starbucks is known for offering competitive benefits or above-market pay in many instances, but health care costs seem to only go up every year, and the rising minimum wages in so many states will only act as pressure for higher wages at Starbucks and other retailers. As of September 30, 2018, Starbucks employed approximately 191,000 people in the United States alone. Some 183,000 of those employees were in company-operated stores and the rest were in support facilities, store development and roasting, manufacturing, warehousing and distribution operations.
If you have to pay $1.00 per hour more on average per hour of labor, that 191,000 pool of workers with a 35 hour week will cost a business an extra $6.685 million per week — or almost $350 million more per year based on a 52-week payout. Just in February, we showed how there might be as many as 40 million American workers who will get a pay hike from the rising minimum wage in the coming years.
Even back in 2015, as coffee prices were rising, Starbucks was known to be hedging against the prices. And prior to that, the New York Times had even outlined how and why Starbucks’ prices were going up even as global coffee prices were in decline.
Lastly, Starbucks and other retailers that sell coffee are rarely just considered to be “coffee shops” any longer. They are all food-and-beverage-oriented retailers that just want you to come to their stores and buy the offerings of your choosing. That’s bottled water, specialty coffee drinks, tea, even wine or beer, on top of fresh foods and pre-packaged food they all want to sell you.
Consumers are unlikely to notice the falling coffee prices adding much in savings to their spending. That said, if coffee prices or other commodity prices used by these companies scream higher, they can expect to pay more.