The princess of coffee, Starbucks (NASDAQ:SBUX), kissed a little juice frog, Evolution Fresh. But the question is: Will the frog turn into a prince? They dropped the words “Starbucks coffee” from their new logo and made its siren figure larger, signaling that, after the kiss, it's not all about the coffee anymore.
If only judging by stock performance, it seems that investors are cheering Starbucks’ recent acquisition of Evolution Fresh and its historic march into juice. But Starbucks may have some serious problems keeping the juice fresh. Just like all the other struggling juice bars, Starbucks may not have the magic to convince the public that the juices from street-corner bars are indeed fresh.
A juicy marriage
On Nov. 10, 2011, Starbucks announced that it paid $30 million cash for fresh juice company Evolution Fresh Inc. (San Bernadino, Calif.) at about one times revenue. Founded in 1993, Evolution Fresh Inc. produces and markets fruit and vegetable products including grapefruit, orange, organic grapefruit, organic orange, and tangerine juices, fresh-cut vegetables and fruits, soups, and salsas and dips.
“We are not just acquiring a juice company,” says Starbucks CEO Howard Schultz. “We are using this acquisition to position ourselves, in a broad way, to build a multibillion health and wellness business over time.”
“Our intent is to build a national Health and Wellness brand leveraging our scale, resources and premium product expertise,” stated Channel Development President Jeff Hansberry.
Evolution Fresh founder Jimmy Rosenberg, who also started Naked Juice (an American brand of national fruit juice drinks made with no artificial flavors, added sugar or preservatives), will remain with the company. In 2007 he sold his Naked Juice to PepsiCo (NYSE:PEP) for an undisclosed sum. In 2001, another player in the fresh juice sector, Odwalla, was acquired by Coca-Cola (NYSE:KO) for $181 million.
It seems Starbucks did not overpay for the deal. And it is a good sign that Evolution Fresh’s founder is persuaded to stay.
High-pressure pasteurization technology is not exclusive
What did Starbucks see in juice? They stressed the competitiveness of high-pressure pasteurization (HPP), a technology to pasteurize fruit juice without heat, thereby preserving nutritional content and freshness taste while increasing shelf life. Starbucks believes HPP technology is not widely used and because most of Evolution Fresh's competitors still rely on thermal or heated pasteurization, it should have room to grow in the U.S. market.
However, Evolution Fresh doesn’t own the patent to this technology; there is no barrier for competitors like Coca-cola (NYSE:KO) and PepsiCo (NYSE:PEP) to match up and defend their market share. Avure Techonolgy, one of the largest commercial-scale HPP equipment manufacturers, says they designed a system that can produce approximately 2,000 liters per hour, and it costs around $2 million per system.
Evolution Fresh juice is already carried on the West Coast in grocery stores such as Safeway (SWY), Costco (COST) and Whole Foods (WFM), and Starbucks plans to extend the brand to more retailers, including its own cafes. Starbucks also plans to open juice bars next year that will sell the Evolution Fresh brand as well as health foods.
Packaged juice is more like diary milk
Let's first talk about packaged juice. Although Starbucks has done well at brand building, packaged juice is a different beast. Unlike coffee and tea, juice is mostly consumed like diary milk in the U.S: Customers buy it in the grocery store, and brand name hardly matters.
Yes, the packaged soft drink business has higher margin, and Starbucks was already well recognized after the success of Frappuccino. But it is obvious that Coca-Cola and PepsiCo have already spent more in this market segment and will invest more to defend their positions in juice. Without massive marketing effort and huge capital expenditure, a niche market position in juice could be the best thing Starbucks can hope for.
On the other hand, Starbucks may not have to spend as much on traditional marketing as other food manufacturers, since it can use its stores as advertisements. Getting a product in front of the 60 million customers who frequent Starbucks stores around the world each week could be equivalent to airing a commercial on the top three television shows weekly. But will coffee drinkers pay attention to the juice cans sitting silently on store shelves?
The juice bar business model is questionable
How about the juice bar? Starbucks’ success was built on good beans, cozy cafes and cute advertisements. These elements worked in the coffee business. But to build up a juice brand, they need to do more than simply cut and paste their old tricks. In addition to bright interior decoration and Caribbean music, they need to build up a fleet of refrigerator trucks for fruits and yogurt. It can be expensive to support a nation-wide purchase and supply chain for juice while at the same time ensuring every store gets fresh fruit.
The juice bar business is highly seasonal. Would you yearn for an icy cup of $5 fresh juice during winter? Consumers may also have some doubts about the quality of fresh juice bought in bars. Will they change their behavior just because it’s from Starbucks? What is the cost of keeping the juice fresh? Coffee is additive to many. Will people start to become addicted to fresh juice?
It has been hard to make money in juice bars. Just take a look at a key player in the juice bar business, Jamba Inc. (NASDAQ:JMBA), which has 752 juice stores in the U.S. The economics are not pretty. Can Starbucks change the fundamental nature of a lousy business?
Mr. Schultz says Starbucks' business model will help it succeed where others have failed because it can test new products in its stores before introducing them to supermarkets, as it did when it introduced Via instant coffee in 2009. Via is now sold in more than 70,000 outlets worldwide and rang up sales of $250 million in fiscal 2011. But Via is a packaged good. Juice bars are different. Still, Starbucks may eventually find solutions to all the problems with juice bars. But, what’s the cost?
The excitement about Starbucks juice could be premature
Starbucks says that the Evolution Fresh acquisition can help them catch up with the healthy food trend but the fact is, the same amount of juice contains more sugar than Coke.
By adding a different type of drink that won't burn consumers' tongues in summer, Starbucks could reduce their profit seasonality even more after their brilliant introduction of ice coffee and coffee ice cream. However, before they can really explore the potential of this juice deal, a new strategy and a lot of capital expenditure may be required. The responses from McDonald’s (NYSE:MCD), Coca-cola and PepsiCo. are unpredictable as well.
Venturing into the difficult juice bar business, Starbucks’ Evolution Fresh may not taste as sweet as investors are hoping for.
Disclosure: Brian Zen owns shares in Starbucks.