Crunchtime for Coffee Shops

Crowded market loses steam as shakeout looms; specialty brews at the gas pump

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America's coffee market is getting too crowded. Consumers' hankering for caffeine and quality coffee has fueled a big buildout of cafes in the past five years, especially in dense urban areas such as New York, San Francisco and Portland, Ore. There are now nearly 33,000 coffee shops in the U.S., including those run by big chains such as Starbucks, up 16% from five years ago, according to market research firm Mintel.
 The boom in coffee shops is starting to hurt business owners. Consumers are visiting traditional coffee shops less often when there are so many cheaper options. Everyone from McDonald's Corp. to gas stations is hawking specialty coffee. Even grocery stores are expanding the space devoted to bottled and canned coffee drinks, which Mintel says poses a threat to coffee shops. Traffic growth for large coffee chains such as Starbucks is slowing, while traffic to small coffee chains and independent shops is declining, according to NPD Group Inc.
 At a Chevron gas station just north of Los Angeles, a 12-ounce cup of coffee can be had for $1.49, while a specialty coffee drink at a Starbucks less than a mile away can cost nearly $5. A 13.7- ounce bottle of Dunkin' Donuts iced coffee costs $2.89 at a nearby grocery store.
 The troubles facing the coffee business are similar to those plaguing the broader food-retail and restaurant industries, which have an oversupply of retail space amid a proliferation of new food options. In addition, coffee-shop visits are less frequent, with people curtailing mall shopping and as they work from home or spend more time in their offices during the workday.
 “I just don't see room for more coffee shops,” said NPD analyst Bonnie Riggs.
 Coffee-shop owners, executives and industry experts now warn the market is headed for a reckoning. “Retail is crowded and not everyone will be around several years from now,” said Dave Burwick, chief executive of Peet's Coffee.
 Dunkin' Donuts recently said it would scale back new store openings as it redesigns its shops to cater to on-the-go consumers. Starbucks, which accounts for nearly 42% of coffee shops in the U.S., said it isn't planning to slow the pace of new-store openings, but cited the challenging retail environment as it reduced its long-term sales and profit growth outlook last week.
 The number of coffee shops in the U.S. is forecast to grow just over 2% this year, the slowest growth in six years. In coming years, Mintel said, the growth rate will fall even lower. Large competitors have begun to swallow up smaller ones, and more consolidation is expected.
 JAB Holding Co., a privately held business group in Europe, has been on a coffee buying spree in the U.S. It owns Keurig Green Mountain and Peet's Coffee, which recently acquired a majority stake in Intelligentsia Coffee & Tea and Stump town Coffee Roasters. Nestlé SA in September bought a majority stake in Blue Bottle Coffee.
 Small coffee shop owners who got into what was once a high-margin business are vulnerable. Many have found rising costs of real estate and labor to be prohibitive, and are starting to close.
 “Real-estate costs are at a peak and the industry is getting saturated,” Mr. Burwick said, explaining that retailers have to be careful about where they open new shops.
 Alexis and Luke Shaffer, a married couple who opened 21st Street Coffee and Tea in Pittsburgh's Strip District 11 years ago, are trying to secure a new location because their landlord raised the rent beyond what they could afford. They have a second shop downtown. “Bigger coffee chains can pay more in rent and can have attorneys negotiate leases and get better locations,” Ms. Shaffer said.
 The couple say they are turning a profit still and that sales are stable, but that it is a tough business made harder by increasing competition. Larger chains have a big advantage in that they can more easily cater to consumers' increasing demand for convenience with sophisticated mobile apps, drive through lanes and bottled coffee drinks.
 “People are getting more and more impatient and lazy, you could argue,” said Dunkin' Brands Group Inc. Chief Executive Nigel Travis, who predicts there will be “a shakeout among smaller chains.”
 Caleb Bryant, senior foodservice analyst at Mintel, said sales growth for many coffee chains or shops will have to come from an existing base of coffee drinkers shelling out more money for evermore complicated and expensive drinks.
 Starbucks and Dunkin' are appealing to more affluent consumers who can pay more for specialty drinks like nitrogen-infused cold brew and vanilla chai. A 16- ounce coconut milk mocha Macchiato at Starbucks, for example, costs $4.95 in the Los Angeles area.
 Stumptown, Blue Bottle and Intelligentsia are offering subscription services, selling their beans to hotels and restaurants and getting packaged products into grocery stores as a way to supplement their cafe business.
 While all three companies say there is room to build more shops, they acknowledge they will take a measured approach to expansion. James McLaughlin, CEO of Intelligentsia, which has 11 stores now, said: “For us, opening a couple stores in a year is a big deal.”


A proliferation of cafes in the past five years is starting to hurt business owners. A barista at 21st Street Coffee and Tea in Pittsburgh.
 

Caffeine Crash
After years of fast growth, the pace of new U.S. coffee-shop openings and customer traffic is expected to slow down.


*2017 is an estimate. 2018-21 are forecasts.
†All years ending in June.
Sources: Mintel Group (number); NPD Group Inc. (traffic)


Luke and Alexis Shaffer of Pittsburgh compete against larger chains that can pay more rent for good locations

BY JULIE JARGON

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