Suspicions of fraud had already been hanging around for several months after the investment firm Muddy Waters released a report based on 11,260 hours of store traffic video. The report highlights Luckin coffee’s fraud by cross-checking actual orders and customers, and the company’s bottom line.

Source: Luckin Coffee stock price, Luckin’s stock plummeted from $50 to $3.82

As a result, Luckin Coffee stock price plummeted from USD 50 to less than USD 2 in a matter of months. But does this may not mean the end of Luckin. With such a low stock price and a high tech eco-system, there is a possibility to extend the rein of Luckin. Hence, we speculate who could buy the company that once was capturing Starbuck’s share on the coffee market in China?

The fantastic story of an internet company selling coffee

Luckin Coffee is an internet company. Coffee is the product sold by this company which operates more like other Chinese tech startups than a coffee shop. Indeed, Luckin Coffee digitalized and standardized the operation of an offline retail business.

Concretely, Luckin coffee users order through an application and pickup in store, a vast contrast from the large, cushy relaxation areas of its competitor Starbucks. Luckin coffee’s business model is based on new retail in China. This means that the online shopping experience of buying a coffee is supplemented by offline actions of going into a store and being served by a real employee.

Source: Luckin app, Forbes, Luckin Coffee’s business model embodies new retail in China through on app orders needed to be offline picked up

What else defines Luckin coffee as an internet company is the classic cash-burning process to quickly acquire users and scale-up. This method enabled Luckin Coffee to raise the right amount of money to promptly establish thousands of stores across China before going public by a USD 640 million IPO in May 2019 on the Nasdaq. Another interesting finding is that the company’s IPO documents insist on Luckin Coffee’s new retail business model, rather than on its F&B products.

Following the IPO, the company quickly raised USD 1.1 billion in January 2020. The same month, the company made the headlines by becoming the first coffee chain in China. Thanks to its highly praised business model, the company now exceeds the number of Starbucks stores, with more than 6,500 locations.

But the story was too good to be true. Right after the IPO, the company is reported having fabricated financial and operating numbers.

Luckin Coffee’s fraud highlights a fundamentally broken business

On January 31, 2020, short-seller Muddy Waters published an 89-pages anonymous report, claiming that the company had falsified financial and operational figures. Not only claiming that, the report says Luckin Coffee “was a fundamentally broken business that was attempting to instill the culture of drinking coffee into Chinese consumers.”

The report says the number of items sold per store per day was inflated by at least 69% in 2019 3Q and 88% in 2019 4Q. According to the writers, they employed 92 full-time and 1,418 part-time staff to record traffic in 620 Luckin Coffee stores. The data accumulation is impressive, with the collection of thousands of receipts, as displayed below.

Source: Muddy Waters’ anonymous report

Faking in-store order numbers

According to the investigation document, Luckin coffee’s fraud would likely have started occurring around November 23, 2019, when the company started to inflate its own app online order volume.

As all orders are placed online and retrieved from the store, a sequential order number appears on the receipt (such as when ordering at McDonald’s). Therefore, paying attention to these numbers could give a clear idea of how many orders have been placed per day for a specific store.

However, this method cannot be used if Luckin intentionally jumps and skips numbers during the day to purposely distort the tracking results. This is exactly what happened, as evidenced by this screenshot in the report.

Source: Muddy Waters’ anonymous report, Wechat screenshot evidences the inflation of Luckin Coffee’s order volume as one of the methods to manipulate operation figures

Shortly after the revelations of the report, Luckin published a press release to deny the allegations. The company evoked the strength of its business model, combined with the booming coffee market in China: “Luckin Coffee firmly stands by its business model and is confident in benefiting from the strong growth of China’s coffee market in the future.”

The fact that Luckin Coffee’s stock price didn’t drop after the publication of the report, until Luckin’s own internal audit, shows strong trust from the investors in the company’s business model.

But was the magic business model of Luckin Coffee enough to prove that the business could ever reach profitability?

Were Chinese people even ready to drink more coffee?

Data from the International Coffee Organization (ICO) show that the coffee market in China experienced strong growth between 2007 and 2015. But for the past few years, growth has stalled, especially since the players which target the core functional coffee demand are well established and more numerous (Starbucks, Costa Coffee, McCafé).

Source: International Coffee Organization (ICO) 2018, Unroasted coffee beans consumption in China

Coffee consumption is driven by culture rather than economic development

Increasing disposable income does not mean that their small consumption of coffee will explode overnight. Obviously, the coffee market in China was a boon for those who managed to capture the emerging demand in the 2010s (Hello Starbucks). In fact, the global coffee consumption comparison across countries indicates that coffee consumption per capita level is primarily driven by culture rather than economic development.

Indeed, China’s coffee bean consumption per capita is not only significantly behind developed countries such as Japan but also way lower than developing countries such as Vietnam.

More Westernized developing countries such as Vietnam (a former colony of France) and the Philippines (a former colony of Spain and the US) have high coffee consumptions. By contrast, in countries with strong tea cultures, such as China, India, and Sri Lanka, coffee consumptions are low.

Therefore, it’s no wonder that Luckin Coffee burned billions of investors’ dollars without meeting the expected success.

Source: International Coffee Organization (ICO) 2018, Per-capita Coffee cups consumed across Asia

Time for a Business turnaround in China

Even if Chinese people only consume 7 coffee cups per year, they do like coffee. Luckin coffee’s scandal does not contradict this. Rather, it highlights the fact that burning billions won’t make people drink coffee even faster. However, if Chinese people won’t drink more coffee, they will drink more tea.

While the number of tea stores demonstrated a continuous growth trend, the number of freshly brewed coffee stores declined from 121,000 stores in 2016 to 105,000 stores in 2018. Hence, the coffee supply network coverage is not the issue. There is just not enough demand yet.

Data source: Meituan, 2019 Chinese Beverage Industry’s Development Trend Report, The growing number of tea stores highlight the strong growth of the tea market in China

Following these observations, Luckin Coffee did try a business turnaround by starting a new type of product called Luckin Tea in May 2019. But business turnaround in China requires more than starting a new range of products.

Daxue Consulting’s China business turnaround expertise

In order to help a client build its business turnaround in China, Daxue Consulting developed a four-step plan, beginning with an audit of the situation. It consists of identifying where the brand had potential improvement and re-orientation needs. It includes distribution screening (data-collection through Store-Checks in China), brand image, and positioning in its competitive frame (through Benchmark). The following steps include consumer research, marketing activation portfolio, and monitoring plan.

It turns out this article briefly tackles step 1 of daxue’s business turnaround consulting service in China. We identified where Luckin has potential improvement – in tea – but we still need to assess its tea competitive frame.

Could Luckin Coffee’s future be with tea products?

Tea is an entirely different market from coffee. Nowadays, the tea market in China is made up of ‘new style tea 新式茶饮’ which is made of fresh tea leaves and concentrated liquid, such as milk or cream. It also includes topping like jellies, tapioca pearls, and fruit. Hence, while demand is not the limiting factor for the tea market in China, the main challenges lie in supply chain management and in-store production.

Source: Daxue Consulting report, The Tea Market in China

Could Luckin Coffee’s future be with Luckin Tea?

Part of a more aggressive turnaround strategy, Luckin Tea was separated from Luckin Coffee as an independently operated brand in September 2019. However, Luckin Tea in-store production and supply chain management is designed for Coffee products, which are fundamentally different from the new-style tea products.

In a China Paradigm podcast interview, Martin Papp, co-founder of PAPP’S TEA told Daxue Consulting young Chinese are going to Starbucks because they can’t find a tea location that fits their lifestyle. They want a more modern, fashionable, and cool tea brand. And while Luckin Coffee and its spin-off brand Luckin Tea are focusing on digital and financial engineering, HEYTEA appears to be focusing on thrilling their customers via its product development.

This new-style tea brand has lines out of doors in China and proven demand for their fresh flavored elaborated teas. While Luckin Tea products are basically made of blended NFC juice, frozen fruits, and artificial pigment, HEYTEA’s products have an uneven texture with distinct layers of tea, fruits, and hand-made cheese milk topping.

Source: Luckin Coffee, HEYTEA, could Luckin Coffee’s future be with Luckin Tea?

HEYTEA also has extensive capabilities in continually refreshing the menu with new product introduction. It is something quite far from Luckin Tea, whose in-store standardization process leaves little room for product customization.

Could Luckin Coffee’s future be with HEYTEA?

Let’s summarize. Luckin Coffee grew up like a tech company using investors’ money to open more than 6,000 outlets – more than Starbucks – without ever reaching profitability.  The company has been accused of faking its financial and operational figures, which turned out to be true. As a result, Luckin Coffee’s stock price plunged and will soon be delisted from the NASDAQ stock exchange. In a last attempt, Luckin Coffee created Luckin Tea, which turns out to be no more than a desperate move to capture new-style tea lovers with a tea that cannot fall in this category of products.  

On the other hand, HEYTEA is thrilling Chinese customers. The brand is growing based on its traffic, not investor capital, just like Starbucks did in China. The brand has 400 stores, regularly taken by storm by tea lovers. In fact, HEYTEA is Starbucks’ most interesting competitor now. Simply because we saw that it has a tailwind that neither Starbucks nor Luckin Coffee has – a significant, proven and enthusiastic demand.

Should HEYTEA buy Luckin Coffee?

Moreover, HEYTEA is recently moving into coffee. They quickly adopted a Chinese new-retail business model as Luckin did, merging pickup stores and their ordering app called “HEYTEA GO.” The brand is now growing on Luckin Coffe’s field, which previously tried to grow on HEYTEA’s one. The strong difference between the two is that HEYTEA succeeded in its ‘home’ market while Luckin Coffee is slowly dying on its.

Source: EqualOcean, HEYTEA GO pickup stores, could Luckin Coffe’s future be with HEYTEA?

Then the question comes naturally: Should HEYTEA buy Luckin Coffee?

HEYTEA is already doing great at creating popular products that thrill Chinese consumers. But unlike Starbucks, it still doesn’t have a quality footprint of good locations across China. Therefore, according to Jeff Towson, “The next logical move is for HEYTEA is to find a partner to scale up on the real estate aspects.”

Could the tea brand buy Luckin? It could. It could get HEYTEA +6,000 locations in a snap. However, according to Mike Vinkenborg, project leader at Daxue Consulting: “Part of HEYTEA’s mystery is their lines. If the brand becomes too mass, it may lose its level of mystery.”

Still, we could easily imagine HEYTEA buying Luckin Coffee. The new-style tea brand could use it as a strong asset to develop its coffee branch by only selecting a few thousand premium quality Luckin Coffee stores to further threaten its biggest rival, Starbucks.

If Luckin Coffee’s future is uncertain, HEYTEA could be interested in buying the broken business. If not, possibilities are endless for other hot drink businesses to take over the brand. And if not again, let’s see if Luckin Coffee’s business turnaround in China can strengthen its capabilities to turn off rumors of bankruptcy.

Author: Maxime Bennehard

Curious to learn more about China’s tea market?

Check out our official report on the tea market in China!

See our China paradigms episode with a tea entrepreneur

This article Business turnaround in China: What is the future for Luckin Coffee? is the first one to appear on Daxue Consulting - Market Research China.

China is also an exporter of coffee. In 2017, China exported $237 million of coffee beans. As of June of 2019, China has exported around 1.4 million 60-kilogram bags of green coffee beans. Export of green coffee beans shows a stable growth, as quality is improving.

Data Source: qianzhan, China’s export of coffee beans

On-trade sales of coffee mainly go through three types of establishments: coffee shops/cafés (independent and chained), Internet cafés and fast food restaurants. Currently, both in the instant coffee market and China’s coffee shops chain market, foreign brands occupied a large amount. It happens due to lack of domestic coffee brand in the coffee bean market in China.

The coffee commodity chain in China is still developing

Dry processing is simple to operate and is the most traditional and cheapest coffee bean processing method. It is the most common method in China. The deep processing of coffee includes roast and ground coffee processing. This way is the most suitable for making espresso, which is the type of bean most used in Chinese coffee culture. With the rapid growth of coffee beverage consumption, many manufacturers across the country are currently actively working on the coffee processing industry. Such companies as Dehong Hougu Coffee Company, Hainan Lishen Company, Baoshan Orchid Company, Yunling Coffee Company are focusing on building commodity chain that will let them to be competitive in the coffee bean industry in China.

The assistance of Nestle and Starbucks

China’s primary coffee growing region is in Yunnan Province, accounting for 98% of production in the coffee bean market in China. Nestle had established agricultural assistance services across Yunnan and has since been the largest single buyer. Another international lead firm, Starbucks, followed Nestle by established its own sourcing operation in Yunnan in 2009. Nestle operated several collection stations across Yunnan, while Starbucks also established a smaller-scale farmer support center.

Source: ResearchGate, China and the changing economic geography of coffee value chains, ‘Main coffee production areas in China’

Starbucks plans on roasting facilities in China

There are few roasters in China compared to in Western coffee-consuming countries. However, their number is growing due to the increasing popularity in coffee and demand for more specialty coffee companies. There are big commercial roasters in China that focus mostly on mass production for instant coffee. Alongside this, there are also single-shop roasters that often aim for higher quality and roast on a small scale.

In 2020 Starbucks China announced that it will invest about $130 million in China to open a roasting facility in 2022. The project is set to handle Starbucks’ largest roasting capacity, including a roasting plant, warehouse, and distribution center. It will strengthen the coffee industry in China. Beyond roasting, once in operation, the park will integrate green coffee bean warehouse management and processing. With plans to co-locate a highly automated and “intelligent” distribution center that will become the heart of the Starbucks distribution network in China. The facility also will serve as a training ground for coffee roasters.

Coffee bean market in China is entering a stage of rapid development

Increased demand for coffee beans

The demand for coffee in the Chinese market grew in the past five years.  At present, the Chinese coffee market is entering a stage of rapid development. According to statistics, the per capita coffee consumption in China was 6.2 cups in 2018. In 2019, China’s per capita coffee consumption was about 7.2 cups. As coffee consumption is rising in China, the demand for coffee beans will also grow.

Data Source: Prospective Industry Research Institute, ‘China’s per capita coffee consumption’

In 2019 the most consumed coffee types among coffee drinkers in China  were single origin, espresso (including espresso drinks like Americanos and lattes), and cold brew. That is why espresso beans in China make up a large part of coffee bean exports to China.

China’s coffee bean imports have been on an upward trend

In the past four years, China’s coffee bean imports have been on an upward trend. From January to November 2017, China imported 110,000 tons of coffeebeans.

QYResearch predicted that coffee bean export to China will grow to 124,000 tons in 2020. In terms of origins, the biggest supplier of coffee to China is Vietnam. In 2018 the export volume of green coffee beans to China was 84,300 tons, and the export volume of roasted coffee beans and instant coffee powder was 28,800 tons. The slight decline happened in 2018 has rebounded in 2019.

Data Source: Zhiyan Consulting, ‘Exports of green coffee bean and roasted coffee bean to China’

Vietnam, Indonesia, Malaysia, Brazil, and the US are the key countries in coffee bean exports to China. In 2017 Vietnam accounted for almost half of all imports. Based on these origins, and information from external sources, Robusta is the most common imported coffee to China. Robusta is also known as espresso beans in China. However, imports from Colombia and Central America have been increasing significantly in recent years, growing at over 25% per annum. Now it makes up around 5% of the total.

Data Source: International Coffee Organization, ‘Coffee bean exporters to China’

Coffee bean industry in China: the quality is improving

China produces 138,000 metric tons of coffee beans annually. However, although China’s coffee production is high, it is difficult to directly associate coffee with China. This is because the coffee beans in Yunnan used to be of low quality, mostly used as raw materials for instant coffee. However, China already can produce good quality coffee beans.

Yunnan coffee plants is the key producer of coffee bean in China

A French missionary brought coffee to Yunnan province in the late 19th century, marking the crop’s introduction to China. Nestlé also arrived early in Yunnan to encourage the cultivation of coffee. Hogood Coffee, the largest domestic instant coffee maker, appeared in 2007. It has been responsible for cultivating much of the coffee in the Dehong region. In 2013, Yunnan Coffee Traders became the region’s first dedicated specialty coffee exporter. In 2018 they were the largest exporter of Yunnan specialty coffee in China. Much of the Yunnan coffee is exported to Germany and Japan.

Other centers of coffee bean market in China are Fujian and Hainan. Fujian and Hainan mainly grow Robusta. However, the domestic production is too small and these espresso beans in China are usually coming from Vietnam.

Coffee bean brands in China

Illy: A market leader in China

Italian roaster illycaffé has been in China for 15 years, in that time establishing itself as a clear market leader in the coffee bean market in China. It accounts for 30 percent of the imported roast and ground coffee segment in China. With a long and celebrated history as an innovator in the coffee industry, illycaffé is perhaps most famous for its signature blend of nine varieties of Arabica coffee selected from the best harvests in the world. Along with the introduction of new products, illycaffé is taking its products to the market through several channels. The company works with more than 1,000 clients in China in the hotel, café, and restaurant segments. In addition to this, the company’s Italian-style café franchise Illy Caffe has three outlets across the country, and there are another nine illycaffé retail outlets providing full range of Illy products – beans, ground coffee, and capsule machines.

Lavazza: Premium coffee grounds in China

Yum China Holdings has entered a joint venture to develop the Lavazza coffee shop concept in China. As the first step, a Lavazza flagship store in Shanghai, has opened its doors to customers in Asia. Recently, the Lavazza Group has embarked upon a process of international development aimed at tapping into new markets. Meanwhile, Yum China has made encouraging advances into China’s coffee market. In 2019, this brand sold 130 million cups of coffee to Chinese consumers. More than just the classic Italian espresso, Lavazza employs a variety of roasting and extraction techniques, introducing unique coffee creations to China for the first time. Bel Paese Coffee is an exclusive line-up created for the Chinese market, offering a “unique journey of tastes from across the different regions of Italy.”

Rwandan coffee enters China’s market

Rwanda was the first African nation to join the Alibaba-led Electronic World Trade Platform. Organized by the Alibaba group, the online event aimed at promoting Rwandan coffee which is available on the Chinese e-commerce market. Event featured coffee from Gorilla Coffee – a brand from Rwanda Coffee Company, promoted to about 20 million fans that were following online. By the time of buying, up to 3000 pieces (about 1.5 tonnes) of the coffee were bought online in a space of about 1 minute. Besides, as a result of the agreement, Rwandan coffee is available on Alibaba’s platforms. Coffee lovers in China also can access the product through Tmall.

Prospects of the coffee bean market in China

Due to growing middle class in China and the popularity of coffee among younger generation, coffee bean industry in China has a great potential. Forecast predicts that the average annual growth rate of coffee consumption in China will reach 15% in 2020. 

Data Source: QYResearch, ‘Annual growth rate of coffee consumption in China’

With the improvement of the living standards in China and the recognition of coffee culture, it may stimulate domestic coffee consumption. Forecast shows that the size of China’s coffee market will reach 217.1 billion yuan in 2025.

Data Source: qianzhan, “China’s coffee industry market size forecast’

As the size of coffee market in China is growing, it offers boundless potential for coffee bean industry. In the future China can become a major coffee-consuming country. Due to the growing gap between supply-demand in domestic coffee market, foreign producers increase a variety of exported coffee beans to China. Furthermore, with the constant improvement of domestic living standard, the consumption and demand of coffee will expand rapidly.

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Overview of China’s coffee market

The Coffee market in China has been steadily climbing for years. In 2019, the market scale of coffee in China reached US $10  billion, which only US $7 per person. Chinese coffee consumers are mostly in tier-1 and tier-2 cities, as lower tier-city consumers become familiar with coffee, the market has potential to explode.  If China’s per-capita coffee consumption matched that of Japan (at US $237 per person annually) China’s coffee market would reach $330 billion US, which is a lot of room to grow. Hence, the coffee market in China is promising to explore.

[Data Source: chyxx “The Market Scale of Coffee in China”]

Since 2006, Costa Coffee, the British coffee shop chain has entered the Chinese market and expanded dramatically. Based on the Starbucks model, with the implementation of Coffee shop just nearby Starbucks stores, its ambition is to make China become its ‘second home’, having one-third of the market share of coffee shop market. Costa Coffee has the particularity to have his own roastery with their proper blend in every store. The giant has since more than 3,800 stores globally.  

However, Costa only has 293 China stores as of mid-2020. The possible reason may be the aggressive competition among those famous chain coffee brands. Starbucks leads the coffee market in China.

See also our piece on the Coffee shop market in China

In 2017, Costa China’s parters of Southern China withdrew its shares. Thus, Costa China and Costa’s parent company were able to totally control China’s southern market, preparing for Costa’s expansion plan. However, in 2018, Costa was adopted by Coca Cola with 3.9 billion pounds (around 5.1US dollars). James Quincey, the CEO of Coca Cola, contended that the company desired to create a drink portfolio catering to customers. Costa can bring Coca Cola to explore the hot drink market and build a robust coffee sale platform, while Coca Cola can create more opportunities for Costa to develop new service. After Coca Cola acquired Costa, Costa started to make some innovations to improve its position in the coffee market in China.

Strategic Approach for Costa Coffee to Enter China’s Market

In order to differentiate Costa Coffee from its strong competitors such as Starbucks, Costa Coffee relies largely on local Chinese retailers. One of the recent moves included an agreement signed with the Beijing Hualian Group, a nationwide retailer. Costa Coffee also gives many authorities to its partners; as more it gives authorities, more the operations are efficient.

Costa Coffee conducts a strong analysis of the local market and is open to change its offer according to its region and the taste of the people in that region. This strategy leads many Chinese consumers to give feedback saying, even in Shanghai and Beijing, Costa coffee tastes slightly different. Ye Xiaobo, the store manager of Costa Coffee 1912, said: “Starbucks are more casual like the way Americans do while as for Costa Coffee, is more traditional, rigorous with more focus on the utensils”.

Costa Coffee also noticed that Chinese customers tend to be more comfortable sitting in a more private space while drinking coffee. Costa Coffee has been focusing on a smart way of arranging tables and chairs so that every customer will feel more at ease.

Like its competitors, Costa also embraced the localization strategy by adding iced green tea to stores in southern China and a hot beverage in northern China.

Overview of its Long-Term Business Plan in China

Compared to Starbucks’ 16-year-presence in China, Costa used only 8 years to reach 25% of the total market share. The only problem is that having too many partners to share its profits can be risky in the future. Thus, how to build an efficient platform where each party has a fixed say and how to create a system to prevent future conflicts remains to be considered.

Costa Coffee Club

Costa coffee in China is directly competing with the American coffee maker “Starbucks” who have seen a lot of success in China with a strong local strategy, with an emphasis on the consumer experience factor.  Such as his main competitor the British Coffee brand is proposing a loyalty card for app or android phones, the member can gain points every time-consuming at the shop in order to get free coffee or other goods.

How to launch a new product in China’s coffee market

In September 2019, Costa initially launched its portable instant coffee in the U.K, gaining 6 percent market share in a short time. Later, on March 25th, 2020, Costa’s instant coffee appeared in China’s coffee market, marking its formal layout in China’s instant coffee market and the beginning of its ‘omi-present’strategy, making products for the home in addition to coffee shops. This coffee is available in online platforms, supermarkets, and other distribution channels, mainly in tier 1 and 2 cities. Costa’s overseas market CEO said China was an essential market for Costa, and considering modern consumers’ fast pace of life, Costa targeted the instant coffee market to adapt to customers’ requirements and develop new growth points for Costa under the competitive coffee market in China.

Image source: sohu.com, Costa Coffee launches instant coffee in China

Cooperation with Onecup to kick-start China’s at-home coffee market

Recently, it is reported that Costa united Onecup to produce customized coffee capsules with Costa’s formulation. Meanwhile, similar coffee will also be accessible in Costa’s stores. Although Costa has many stores in China, it aims to make its products available everywhere. Particularly, NCA’s global data unveiled that the average person consumed 2.06 cups of coffee a day. That comprised 1.37 cups at home, 0.24 cups at workplaces, 0.25 cups at restaurants and cafes, and 0.2 cups at other sites. Most coffee around the world is consumed at home. Their cooperation can allow more people to enjoy Costa’s high-quality coffee, triggering more consumption of its coffee.

Daxue Consulting expertise

With many years of experience in the coffee shop industry, Daxue Consulting can help you enter the Chinese market and develop your brands to reach millions of consumers. From online surveys to mystery shopping, our consultants in China can give you a full tour of the Chinese market and determine what is the best strategy for your brand. To know more about the Chinese coffee market, do not hesitate to contact our dedicated project managers by email at dx@daxueconsulting.com.

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Coffee shop market in China: Growing Competition Threats Starbucks’ Supremacy

Nestlé in China

The very first foreign brand coming to China was Nestlé (雀巢), which has an occupation rate of 28.5% in 2019, ranked first in the instant coffee market in China. Some researchers see Nestlé entering China as the beginning of the coffee market in China.

Starbucks in China

In 1999, Starbucks China opened its first store in the World Trade Building in Beijing. Before the entering of Starbucks in China, most of the Chinese consumers only knew about instant coffee but had no idea about coffee culture. Starbucks China contributed to the popularization of coffee culture. Nowadays, Starbucks has opened over 4,100 stores in 168 cities in mainland China. As of January 2019, China is already the second-largest market after the US for Starbucks in the world.

Unlike Nestlé, Starbucks targets middle and high-income consumers. Its pricing is comparatively much higher than in the US, which caused criticism by CCTV (China Central Television) in 2013.

Starbucks vs. Luckin Coffee

Luckin Coffee is a domestic start-up coffee chain founded in October 2017 in Beijing. The brand opened stores at a fire pace. By the end of 2019, it manages 4,507 locations in China and surpasses the number of Starbucks stores.

The competition from the homegrown coffee shop, Luckin Coffee is catching up with Starbucks at a fast pace in the coffee shop market in China. Luckin Coffee is threatening Starbucks’ supremacy for several reasons. One of them is the opening of a “Relax” Luckin Coffee outlet inside of the Forbidden City, where Starbucks was evicted in 2017 amid protests of western invasion. Luckin Coffee claimed to sue Starbucks in China for monopolistic behaviours as its publicity stunt. Meanwhile, price competition raises a nightmare for Starbucks. Luckin Coffee’s pricing is 20% lower than Starbucks in China. Also, it provides discount coupons on many platforms, such as Meituan (美团) and Dazhong Dianping (大众点评).

Starbucks Reserve Roastery vs. Specialty Cafés in the Coffee Market in China

Other than Luckin Coffee, some small, independent start-ups are stealing the market from Starbucks as well. With the popularization of coffee culture, the coffee brewed by automatic coffee machines is not able to meet their needs anymore. Consumers in the taste pursue personalized. More coffee consumers in China are enthusiastic about hand drip, ice drip, siphon and other high-quality coffee. To meet the consumer needs, the coffee shops in China develop towards the direction of specialty cafés. Shanghai is the representation of regions embraces the considerable coffee culture.

[Source: Dazhongdianping ‘coffee shop ranking in Shanghai’]

Coffee shops ranked top ten on the list of the top taste of coffee shops in Shanghai are all specialty cafés and roasters. To compete with these upscale coffee shops in China, Starbucks launched a Starbucks Reserve Roastery in Shanghai, which is the first Starbucks Reserve Roastery in Asia. It ranked first on the list of the most popular coffee shops in Shanghai.

[Source: Dazhongdianping ‘Starbucks Reserve Roastery in Shanghai’]

Starbucks Reserve Roastery in Shanghai includes a cold brew coffee bar, high-end Princi bakery, bakery counter, full liquor bar and additional brew station, coffee bar and roaster.

[Source: Barrett ‘Shanghai, China: Starbucks Reserve Roastery coffee bar’]

This Starbucks Reserve Roastery is a prime coffee shop to show Starbucks, as an international coffee chain, still focuses on the coffee craft and to win back the hearts of the coffee consumers in China. The Starbucks Reserve Roastery in Shanghai currently provides seven types of brewing methods, including MODBAR precise self-controlled brewing, hand-pour, French pressure, Siphon, Cold Brew, expresso and CLOVER. It can serve a total of more than 100 types of drinks. Additionally, it offers and sells freshly brewed coffee beans, which are not available at traditional Starbucks. As the result shows on Dazhongdianping, Starbucks Reserve Roastery in Shanghai has succeeded in both sales and reputation.

[Source: Weibo ‘Starbucks Reserve Roastery in Shanghai’]

On the other hand, Starbucks still dominates the coffee shop market in China, especially in non-metropolis area. Carol Liu, the co-founder of Big Sur coffee in Shanghai, says the coffee market is not mature in non-metropolis areas. Consumers could not appreciate good quality coffee but were profoundly affected by brand names. Most of them still put Starbucks as their first choice for coffee. Big Sur used to have another coffee shop in Hefei, Anhui Province. Although the salaries and rent are relatively cheaper in Heifei, the Big Sur coffee shop in Hefei still closed.

Key strategies to enter the coffee shop market in China

Compared with more than 4.2 kg of annual coffee consumption for an average American, the average annual coffee consumption in China is  0.09 kg per person. Coffee consumption in China is far too small to be considered a mature market. Even compared to its Asian neighbor Japan, who, like China, has a long history of tea culture , the Chinese per capita coffee consumption is much smaller. Therefore, many other foreign brands are eying this untapped potential coffee market in China. In 2019, Tim Hortons, a Canadian coffee shop brand opened its first coffee shop in Shanghai and projects to launch more than 1,500 coffee shops in China in ten years.

Some key strategies that foreign companies should bear in mind:

Coffee is a social event

Firstly, according to market research in China, Chinese consumers consider having coffee in a coffee shop as a social event; seldom people drink coffee alone, or on the road, they prefer to have coffee in a comfortable environment with friends. Thus, installing a coffee shop needs a more spacious and comfortable environment. Tim Hortons, which has a fast-food-like seating in its domestic market, has adapted with comfortable and aesthetic coffee shops in China.

Must have sweet and fun options

Secondly, coffee without sugar, such as black coffee, Espresso and Americanos are not popular among coffee consumers in China. Starbucks adds fruity taste Frappuccino and other sweet drinks to adapt to the taste of Chinese consumers. New entrants should not be in a rut. Innovation and localization are both necessary elements in the coffee shop market in China.

Espresso over drip coffee

A majority of coffee consumption is espresso drinks. In fact, very few Chinese coffee drinkers order brewed coffee. Even shops like Starbucks in China, often do not have it prepared and will offer an Americano instead. Chinese consumers will expect a menu of drinks made with espresso, like lattes, cappuccinos, affogatos and americanos. However, in tier-1 cities like Shanghai and Beijing, some coffee shops are expanding to include drip coffee for a higher price.

Need a competitive pricing strategy

Lastly, if companies want to launch a business in small cities where the coffee culture is not mature, the pricing strategy is essential. Coffee prices in China are much higher than in the US, and coffee shops must maintain a balance between being unaffordable and being perceived as low quality. However, young white-collar workers in Beijing and Shanghai consume 100 to 150 cups annually. If companies want to enter the coffee shop market in metropolises, they need distinctions other than pricing to compete.

Do the market research necessary to get the most out of China’s coffee market: Contact our project leader at dx@daxueconsulting.com

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This article The Coffee shop market in China is the first one to appear on Daxue Consulting - Market Research China.

Full transcript below:

Matthieu David: Hello everyone and welcome in this new episode of China Paradigm, the China business podcast where we interview entrepreneurs in China. Today I am with Carol Liu, the co-founder of Big Sur Coffee shops in China.

So, you created your Coffee shops chain in China a few years ago, and you are managing coffee shops in Shanghai and obviously today actually you are going to talk about it to us. I know you because you used to study at Conde Nast Center of Fashion and Design when I was teaching consumer journey, consumer preferences and during or after your studies, you started with your husband, that’s why I was saying ‘co-founder’, maybe there are more of you a coffee shop chain in China, because you have more than one, and we already talked about your business one year ago on Daxue Consulting’s blog, and it was very interesting.

Actually, the article where we went in-depth in the numbers of managing your business in the coffee industry in China of investment and very detail, very down to earth, it was very useful actually for the audience, and people liked it a lot. So, it was one year ago; it’s good to have some update, and thank you, Carol, for being with us.

Carol Liu: Hello everybody. I am Carol; now I am running Big Sur Coffee shop in China. Now we have three coffee shops in Shanghai; two are in the downtown area. The other in the Pudong area, it’s very close to the office building. Now we are running very stable, but the competition in the coffee industry in China now for the recent one year is very, very fierce. So, we feel a lot of pressure in the running of the Big Sur coffee now actually.

Matthieu David: You told me before one year ago that you have another coffee shop in another city. Was I correct?

Carol Liu: Yes, we closed that shop already

Matthieu David: Okay. Which city was it in?

Carol Liu: It’s in Hefei, Anhui province.

Matthieu David: Okay just to talk about this experience of being in Hefei, did you close because the coffee market was not mature enough? Because, I guess the rent was cheaper, the salaries were cheaper so is it the market reason why you close it, was it difficult to manage?

Carol Liu: Yes, I think on the one hand it is the market reason. The coffee market is not mature there. They cannot appreciate the very good quality coffee. It is mainly the branding that affects their decision. Maybe Starbucks…. they will go to Starbucks to have a cup of coffee, but for the small… independent, this kind of small coffee, they will not try. I think the consumers, the market there is not mature… and for the other reason, I think the location I chose it is not mature as well. So, for both reasons, it is not successful in that shop. So, we closed maybe one year ago.

Matthieu David: Okay. How cheaper was it to manage it by the way? In terms of rent, in terms of salary, is it much cheaper in Shanghai or basically was it similar or it was…

Carol Liu: I’d say in general definitely it’s much cheaper than in Shanghai. The rent is much cheaper and the salary there is cheap as well. So, in general, I think its 30-40% cheaper than in Shanghai.

Matthieu David: Okay, and the prices you were charging the consumers were the same or cheaper?

Carol Liu: Yes, they were the same. Same price.

Matthieu David: Okay, so same prices but lower cost you could imagine to make more profit but basically you cannot make enough sales, so that was the market issue.

Carol Liu: Yes, the sales cannot reach the point to balance.

Matthieu David:  I see. Talking about your coffee shops in Shanghai, so you have three locations, I know one is in Mengzi Lu one is close to People Square and the other one in Pudong. So, all of them are close to offices…?

Carol Liu:  Sorry the other is in Jiashan Road, in the French Concession.

Matthieu David: You said Pudong

Carol Liu: Pudong. One is in Pudong, one is in Jiashan road, and one is on the Mengzi road. Oh yes, we had one in People Square, but we closed as well.

Matthieu David:  I see. How long did you open the one in People Square?

Carol Liu:  Maybe… also around one year ago.

Matthieu David:  One year, okay

Carol Liu: We closed it last October.

Matthieu David: I see. So basically, you get a commitment for one year, and you see if it goes well or not and then you decide to continue or not continue

Carol Liu:  Yes.

Matthieu David: One year it is difficult to see if it goes well or not.

Carol Liu:              Yes, we try to sustain one year, but it depends on the rent. If the rent is very low, maybe we can continue more time to wait and see, but if the rent is too high, we cannot afford, then the time will be shorter.

Matthieu David: In terms of size now, how many customers do you serve…let in one shop on demand for one day or one year? Do you have some metrics on that? How many cups of coffee basically are you delivering?

Carol Liu: For Mengzi Road every day we deliver about 250 on weekday…on weekends it’s about 150-200.

Matthieu David: I see, so not that much of a cycle… you’re still on the same range and Mengzi road, you are very close to offices like Under Armor and some other offices. Is your main clientele business people who go after lunch or during break taking a coffee?

Carol Liu: Peak time is actually it’s in the morning. It’s around 8:30 to 10:30 and that is the peak time. In lunch, it’s okay. In the 1 pm to 2:30, there is also a lot of consumers come in but not as much as in the morning.

Matthieu David: Okay. How do you manage peak hours, because I feel that’s the most difficult aspect of managing restaurants or a coffee shop chain in China is to manage peak hours… morning, after lunch… do you have people coming for part-time? Is it easy to get people coming for part-time? For two hours… during peak hours? How do you work in those peak hours, firstly the management of people and secondly the machine, you have one-two machine, but when so many people come, they have to wait, and people don’t like to wait. Do you pre-order do you… how… what’s your way of working with peak hours.

Carol Liu: We don’t have a part-time job, we only have full time… because in part-time jobs, the workers they don’t recognize your brand, they don’t recognize your service standard, and for teamwork, they might be not very efficient to be a team member. So, we only have a full-time job, a full-time worker. For a full time, worker, we arrange the working schedule for different people. Because the peak time is starting around 8 o’clock so may be the first person comes at 7.30 and the second and third people come at 8 o’clock to serve our consumers.

Matthieu David:  I see.

Carol Liu: Yes, and they work until 2.30, and then they go off, only one people left in the shop after the…

Matthieu David: after 2:30?

Carol Liu: Yes. We use this kind of way to manage it.

Matthieu David:  Three people then?

Carol Liu: No, at peak time we have four actually. Because now we have poured over coffee, it’s kind of you to know… hand whip it’s not machine-based coffee… so we have to arrange other people to be responsible for this pour over coffee.

Matthieu David: Okay, I understand. In terms… yes

Carol Liu: On the other hand, we continue to strengthen the working efficiency on making coffee and especially when there is three or four people work together…  which one to do what… to be very high efficiency in the whole team, so this area… we continue to strengthen on this.

Matthieu David: I see. Have you thought about a way to pre-order for coffee drinkers in China, for your clients? For example, they are in the office, and they can pre-order and come and pick the coffee. Have you thought about… also delivery at offices? Do you offer those services to deliver?

Carol Liu:  Yes, we have. Actually, now you can use our chat…what account to get it delivered. You can pre-order on what, and then you can go to our store to pick up at a certain time. But this technology, we are now using is not very mature now…but already some consumers are using this.

Matthieu David: Okay. We’ll go back on technology later on. You talked about the size of the business; I guess we have a good idea of the business you are managing and to try as well new locations on… as you said, People’s Square and Hefei. I went one time to your coffee shop in Shanghai, actually at Mengzi road and I found out…I think early this year, it was closed for like two or three months… Could you tell us more about what happened and you told me that it was a Chinese business license renewal? Could you tell us what was the reason that it takes so long…first? Secondly, how did you manage it? Do you still need to pay the rent? Do you still need to pay to people? Do you still need to do all this and you had to take off your logo… you had to take off so many things and re-put on it…? Could you explain the context and how you manage it?

Carol Liu: You know it’s a very difficult time for us. Yes, because for Mengzi Road Road actually, we don’t have the business license of drink… of this shop. So, when the government is scrutinizing on this, they will ask us to close the door because we have no proper business license. In this case, when you have to face the government, you have to do whatever they ask you to do. So, we have to close for two to three months… In the meantime, we asked our owner, the shop owner, to help us, to you know to negotiate… to get the business license. I think, fortunately, because the owner has some relationships in the government, so even though it was very difficult, but in the end, he helped us to get the Chinese business license.

Matthieu David: Is it hard to get it?

Carol Liu: Yes, it is very hard if there is no relationship with the government; it is… I think it will take much, much longer to get the Chinese business license or you may not get a license.

Matthieu David: Okay.

Carol Liu: Yes, it’s very sensitive.

Matthieu David:  But how did you… so you created before with not the right Chinese business license? You had a license of a shop selling products, but not shops selling drinks?

Carol Liu: Yes. You have to have a Chinese business license to sell drinks if you actually sell drinks.

Matthieu David: Okay and what did you need to offer to them in terms of proof that you can run it? What do you need to do for them to trust you that you can run such a business and get a license? What do you need to prove?

Carol Liu: You mean proof to…?

Matthieu David: Do you need to invest a certain amount of money to get this Chinese business license? Do you need to show that you have all the certifications? Do you need to pass some exams to get such a license or you just process in time and so on?

Carol Liu: Actually, it’s a very complicated process. Because the process is mainly handled by the shop owners, I am not very involved in this. It’s kind of like you have to… how to say…. I don’t know the details of the process, but I can say that it’s very complicated and it’s very difficult.

Matthieu David: Okay, was it about security as well? Was it about security? Safety? How clean is the place?

Carol Liu: Yes, for that area, you have to prove your drinks and your process to make drinks are very clean. You have to prove to them for this area

Matthieu David: Got it. So, did you have to pay still the people you had employed? Did you still have to pay the rent?

Carol Liu: Yes, sure. During that period, we have to manage, arrange our people to our other shops. Even though our other shops don’t need this manpower, I will still have to arrange them to work and pay salary to them. We cannot just fire them because it’s not fair to them and also when we are back to our business, we still need them to serve our consumers.

Matthieu David: Okay. About the quality control, you talked about the Chinese business license. We’ve seen in other shops, restaurant, coffee shops in China, the smiling face, the face which is not smiling about how clean the place is? How good is the product? Do you see those criteria’s in the restaurant? The face… the…

Carol Liu: Yes, yes….

Matthieu David: Do you have to go through this kind of regulation test.

Carol Liu: Yes, actually we have to.

Matthieu David:  How does it work? I never understood how the counter is working? How do you move from one stand out to another one? What are the criteria?

Carol Liu: Actually, the government people will come to your shop and they will check out the whole shop, the back side and also the kitchen area and then they will decide which face they will give you. I don’t know the actual standard about it; it depends on…our shop gets the smiling face. It’s not key for you; it doesn’t seem to be key for you.

Carol Liu: Yes. Sure.

Matthieu David: It’s not key.

Carol Liu: It’s not key actually. Yes, it’s not very key, but to get a smiling face is very good for us, but I don’t think the consumers perceive this very carefully.

Matthieu David: Okay. So, in terms of…you talked a bit about, a bit about third parties, like some tech’s report you got. Could you tell us more so in terms of how much you use tech into your shop? I went several times to your shop, and in the past, you were using a personal account to invoice in WeChat, and now it seems that you have a device to scan the QR code on WeChat. It seems like you go through the more common way of invoicing people than the personal account in the past. Could you explain to us why it took so much time for you to move from… on WeChat…? Because on Alipay you already ready for a long time I feel… but from WeChat why did you hesitate so long to move from a personal account to actually use a company account, an invoice with the device to scan the QR code? Was it a problem of fees? Was it a problem of regulations?

Carol Liu: Actually, there are a lot of reasons. One reason is that at first, we use Cashersoft company. It’s the provider of the cashier system. That company did not support WeChat, so, for that reason, we continued to use Alipay. But we find that more and more of our consumers are asking to use WeChat account, so we changed the cashier provider to another provider. That provider supported both Alipay and WeChat account.

The other reason is that… actually, this is the main reason for the WeChat. The other reason… now actually WeChat, you have to use the company account and Alipay actually you can use the personal account, or you can use the company account. For us, because our goal is to run this brand to be a very professional, to grow bigger and bigger… we want to run our company and our brand to be a very professional company, so we decided to transfer to the company account, not to a personal account. But you know the tax, the VAT is quite different. We have to pay the tax for the government.

Matthieu David:  What is the VAT tax? Is it 17%?

Carol Liu: No, it’s 6%.

Matthieu David: 6% because you are in the service business. I see.

Carol Liu: Yes.

Matthieu David: Okay, actually we didn’t talk about your other location, Mengzi Road, so it’s the biggest, is it the more successful one? And then you have another one in the French Concession and then Pudong… but totally speaking, every day you are serving like 500 cups every day totally? Like 200- 250 on Mengzi Road and…?

Carol Liu: Yes, around 500 every day.

Matthieu David: About 500 okay. So how do you integrate technology into your business? So, people can pay with WeChat; people can pay with Alipay so with Weixin pay and Zhifubao and do you go further with technology? You have implemented pre-order, you have implemented delivery to people, how do you implement that technology into your shop? Because I guess you don’t have your own people to deliver, you work with third parties. So how do implement those different services? And how do you work with those third parties which deliver your coffee from your coffee shops in Shanghai? How much margin do they take you? What’s the cost of working with them? Do they pay you quickly or do they pay you 30 days after? Could you tell us a bit, some ideas of how to work with them?

Carol Liu: Now for the third parties we cooperate with Ele.me and Meituan and also, we’re running our own WeChat account to delivery… for Ele.me and Meituan actually, they charge a lot. They charge around 15 to 18 percent of the charge, that is pretty… very high, so we prefer our consumers to use our own platform to deliver them… to order the products. In that way, in order to encourage them to order through our own platform, every time they consume, they can have points, and the points can be used as some cash.

Matthieu David: Okay, I understand, but how do you deliver then? You have someone from your coffee shop in Shanghai to deliver then…?

Carol Liu: No. We work with a third party called DaDa.

Matthieu David: And the business model is different then? You pay them how much? Is it cheaper, than…?

Carol Liu:  Dada it’s not… it’s different from Ele.me and Meituan, it’s only a delivery company, not a platform, but Ele.me and Meituan, is a platform and they can also help you to deliver, but Dada is only a company that provides delivering service so…

Matthieu David: Okay so each one is finding clients for you, we can say finding coffee drinkers in China, but Dada is not finding clients for you. Dada is only providing the service of delivery, and you pay them as pay order you don’t pay them as a commission, right? You pay them to pay the order. Okay, how much do you pay for pay order?

Carol Liu:  Yes. Actually, it’s very low. If it’s raining, yes, it’s raining, it’s high may be for poor order they charge 6UN, 7UN, 8UN, 9UN that is very possible, but in the normal days in the normal condition, it’s around 4 UN to 5 UN per order.

Matthieu David: Okay, so 4UN is like 0.5 Euros for the order to deliver anywhere. Anywhere in Shanghai?

Carol Liu: No. It’s actually around within 2kms.

Matthieu David: Okay. I understood.

Carol Liu:  If beyond 2km actually we don’t suggest our consumer’s order because the coffee taste is not good.

Matthieu David:  Okay, so you say like 4 Renminbi, and your average price should be about 20- 25 Renminbi?

Carol Liu: 20. Yes

Matthieu David: 20…The average! Okay.

Carol Liu:  Yes.

Matthieu David: So, it’s taking more than Meituan isn’t it? 4 Renminbi is taking like 20%.

Carol Liu: Because when consumers order the drinks, normally they will order more than one cup.

Matthieu David: I see. Okay, I understand. So then if you have more than two, it’s beginning to become cheaper… I mean more than one Is becoming cheaper than Meituan, but if you have less than one DADA is going to be more expensive.

Carol Liu: Yes.

Matthieu David:  Since you have less than one.

Carol Liu: You can say that.

Matthieu David: Okay. Do you change then? Do you change… go to Meituan when actually it’s only one and go to Dada if it’s more than one?

Carol Liu: No actually it’s consumers who decide Ele.me or Meituan or our own platform.

Matthieu David: You cannot use Meituan and say, we sent you a client, you cannot do that, they bring you, clients.

Carol Liu: Yes

Matthieu David:  Okay. So, you are working with Ele.me, you’re working with Meituan, you’re working with Dada any other thirds parties you work with?

Carol Liu: We used to work with Baidu delivery but Baidu now…less and fewer consumers use Baidu… so now we don’t work with them anymore only Ele.me and Meituan and our own platform.

Matthieu David: Okay. Talking about Baidu, do you use other services of Baidu like Baidu map? Is it something you try to work on…?

Carol Liu: No.

Matthieu David: You don’t use Baidu maps to drive coffee drinkers in China to your shop, who look for coffee. Is it not something you would want to work on?

Carol Liu: No, because actually, Baidu is a company. I don’t like a lot. So, for this kind of company, we don’t want to cooperate with them.

Matthieu David: Interesting. I get that a lot.

Carol Liu:  Because it’s kind of social responsibility, I think…

Matthieu David: Okay. It’s very strange Baidu has a very different image, and Google has… people trust a lot Google but in China people are very reluctant to trust Baidu results.

Carol Liu: Yes. Because it is not available, Google is not available we have to use Baidu, but actually most of my friends most of my people around me they think Baidu is not a very good company.

Matthieu David: You said that the competition was more and more fierce. And of course, we are talking about…  we are thinking about Luckin, we are thinking about Xicha (Hey Tea), of course, we can think about Starbucks. What were you talking about saying that the competition was fiercer and fiercer?

Carol Liu: Yes, maybe two years ago or one years or maybe two years… I think there is not as much more player as now, because of especially recent two years… I think you have heard about Luckin coffee. I don’t know if you have ordered Luckin coffee, Coffee Bucks these are very important players on the delivery coffee area and there are some other very big, big chain store like… of course Starbucks but there are other local players like Xicha coffee, they have very big chains, and they have the investment to back them up, and they have very good resources to have the good locations, to go into the good shopping malls. In addition to that, there are very small players like us, like the independent small coffee shops and recently we find more and more small coffee shops in Shanghai like us are coming into the coffee market in China. If you go to the French Concession, maybe every 5m..500m you can find very small coffee shops. So, the competition now is very fierce, different types, different models, they are competing to win the consumers.

Matthieu David: I feel that your idea was to have very small coffee shops in China, so people take away like is the one on Mengzi Road is really take away. It’s like 20 sq. meters or 15 sq. meters?

Carol Liu: 25

Matthieu David: 25 sq. meters, so it’s very small I think the kitchen, the storage is doing half of it and then you have half of it which is with like 5 or 6 seats, and with this model I think is best to optimize the cash flow and the sale because people take away and don’t stay. I feel that’s part of your strategy. Am I correct?

Carol Liu: Yes, but this kind of strategy is going very popular now like Manner Coffee I don’t know if you heard about this brand…       Manner coffee. Their space is even smaller than us, and their price is also lower than us, and their coffee quality is good and not bad. So, this kind of strategy this kind of model in Shanghai now is very popular and a lot of players come into this area.

Matthieu David: Okay. Yes, there is one thing I wanted to talk about is how you differentiated from the competition? I felt the first time I went to your coffee shop is that you take care a lot about the product itself. It’s for the first time for me. It was not too hot and not too cold neither. It was the very right temperature for me the coffee, and also the taste was very, very special. It was good; it was different from Starbucks and other players.

A few questions on this, how have you worked on it? To differentiate on the product itself, from a small company… because you are still a small company and secondly what are the feedbacks of the clients? Do you get some feedback about the product itself?

Carol Liu: Yes, referring to how do you differentiate of Big Sur from other small players, we focus on the details like you mentioned the temperature and we focus on the service, we focus on the high quality of the coffee. So, on these three dimensions, good quality coffee, details and the service we hope that we can outstand within our competitors and your next question is what I am sorry?

Matthieu David: The feedback of the client, do you feel that the clients come back to you because of the quality of the product or because more of your location?

Carol Liu: I think both.

Matthieu David: Yes, because let’s take Mengzi Road again and let’s take anywhere basically, like French Concession, you have so many coffee shops in China, so if people come back to you, it’s not because of the location because they just need to do like 20m more or 30m more and they find other coffee shops. So, it’s certainly something with the service and the product, what do they value do you think?

Carol Liu: I think the location is first and then the good quality. For the white collars, they can’t go a long way to get a cup of coffee. I think convenience is very important for them. So that’s why the location is a key factor for us, and then it’s good quality. If the quality is not good even if you are very convenient, they will not come as well. So, I think the location is first and then good quality.

Matthieu David: So, because we are still talking about the competition, could you tell us a bit more about how you analyze the success of all the competitors besides an investment. How do you analyze the success of Luckin coffee? How do you analyze the success of Xicha or GreyBox? And I guess there are different reasons for each of them. What’s your point of view on the success of those players?

Carol Liu: I think for Luckin Coffee, I think the key factor of their success is their marketing, it’s their advertisement and the marketing and their promotion.

Matthieu David: Promotion you mean discount you mean delivery?

Carol Liu: Yes. The promotion of and their marketing they combine very well because they use the marketing tool to give a discount to their consumers.

Matthieu David: Could you give some examples?

Carol Liu: You know they have their app. Luckin app and they have their WeChat account.

Matthieu David: Application.

Carol Liu: Yes.

Matthieu David: They have their own application, and they have a mini program on WeChat.

Carol Liu: Yes, they have their… I mean the WeChat account, they can publish their add course every week. So, through these tools, they continue to give their discounts through these tools, to accumulate their members… their memberships and to ask their consumers to invite their friends, and continue to invite another friend…it’s like a kind of you know how to say…

Matthieu David: Yeah, a little bit like Pinduoduo.

Carol Liu: Yes, it’s kind of….

Matthieu David: It’s like a network effect.

Carol Liu: Yes, networking marketing tools. So, I think this is their key factor and how they are successful and how so many members now they have.

Matthieu David: What about the other one Xicha and GreyBox?

Carol Liu: For Xicha and GreyBox, I think their key… how to say… I think it’s just their base and the location

Matthieu David: You mean the environment how they design the environment?

Carol Liu: Yes, how they design the environment and the location because the location is if you see GreyBox and Xicha, the location is a very good location on the very hot shopping mall, and the design and space is very modern, it’s very comfortable. It’s very nice to sit there, to have a talk, to work there.

Matthieu David:  Yes, because people stay in their coffee shop. So, have you ever tried to know how many cups of coffee do they sell in the day, because it may not be actually that different sometimes from your results, because you have a lot of takeaways? And they don’t have… people stay, and when people stay, they may not consume like five coffees, they consume one… they just stay for two hours. Have you tried to compare a little bit with the coffee shop which is close to you, Starbucks coffee shop or other coffee shops how many cups of coffee they may sell? And if it is actually much higher than you actually similar, with a bigger space. Did you have this thinking before?

Carol Liu: Yes, I have this kind of thinking. But I actually don’t know the exact figure; you know how many more coffees do they sell because of space. I think there is a Starbucks near the (37:59) road. Actually, I don’t know the exact figure how many cups they sell every day. But I think for at least one (inaudible 38:19) is because of their space.

Matthieu David: Okay. Talking about how to scale, because you said like some coffee shop chains in China like Luckin, Star bucks of course, but Luckin, Xicha, GreyBox, they have a lot of money. In terms of opening a coffee shop, what amount of money do we talk about in terms of initial investment before operating? Could you share it a bit of a range of money you need to?

Carol Liu: You mean like our coffee shop? This kind of small coffee shops in China?

Matthieu David: Yes. Roughly

Carol Liu: At least 500 thousand.

Matthieu David: 500 thousand so 50万RMB

Carol Liu: Yes

Matthieu David: 500 thousand renminbi, which is about nearly 60,000 Euros – 70,000 Euros.

Carol Liu: Yes

Matthieu David: Where does it go this money? It goes in… so do you have to pay upfront, like three months of rent plus deposit? Where does the money go?

Carol Liu: One big part is the coffee machine.

Matthieu David: Oh, yes. How much is it?

Carol Liu: Our coffee machine is La Marzocco it’s a from Italy, it’s very expensive, but it’s a kind of high-end machine brand in the coffee industry in China. It cost around 75,000 RMB. 75,000 RMB for one coffee machine.

Matthieu David: Okay so about 10 thousand Euros nearly. Okay

Carol Liu:  Yes, and that’s not only in the coffee machine, but there is also a grinder to have the coffee powder, the coffee beans to the coffee powder. This grinder also cost around 20,000 RMB.

Matthieu David: I see.

Carol Liu: Normally we have two kinds of grinders because one is for the espresso coffee and the other is for the pour over coffee. So, you have at least two grinders.

Matthieu David: Okay. Then the other part because this is…

Carol Liu: The other part is normally we pay rent. We have to have a three-month deposit.

Matthieu David: Three months deposit and do you need to pay three months in advance as well so six months total when you begin?

Carol Liu: Yes.

Matthieu David:  Six months total when you begin. Right?  Okay, so that’s a big amount.

Carol Liu: But in some occasion, it’s two and two.

Matthieu David: Okay. Talking about the future, how do you think you can scale? How do you think you can move from three coffee shops in China to twenty? To then let’s say, even ten, what do you think could be the drivers for you to scale? What’s your analysis on that?

Carol Liu: Actually, now our strategy is quite different from the strategy of the last two years. Last year we wanted to expand very fast, but we experienced these two failures, the Hefei shop and the shop in the Peoples Square, so now we review our inside management, our qualities, our service, our details. I think that we have to do some… the basic sense, the ground, we want to hunt the ground, very solid, and then we expand. The roots, the ground… we have not built it very well if we planned to expand it will be a failure for us. So now, on the one hand, we strengthen the professionalism of our baristas, and we launched our secret guest project to strengthen our surveys, our…

Matthieu David: Mystery shopping?

Carol Liu: Yes. To strengthen our customer service and the consumer’s experience in our coffee shops in China, and then we focus a lot on the quality of our coffee, of our coffee beans. As I mentioned in the last article, first of all, our strategy is post coffee and tea, but now we think this strategy is not very good because even our coffee is good but the consumer will perceive our coffee is not professional because we have tea. So now we focus more and more on the coffee and reduce the tea products a lot. And also, we focus on the coffee beans; we want to work with the origin of the coffee beans like the South African like the African countries who farm and harvest the cherry, the coffee beans because we think only if we have very good coffee beans, then we can have very good quality coffee.

Matthieu David: Understand.

Carol Liu: So now we focus our more time on this area the good quality coffee beans, the experience, the customer service, the details and the professionalism of our baristas, and when we do very perfect outstanding of all these areas, then we will expand to our… to be bigger.

Matthieu David: I understand, thank you very much for your time Carol, so you are managing the coffee shop chain in China, Big Sur and you are based on three locations in Pudong, Mengzi Road and in French Concession.

Carol Liu: Jiashan Road.

Matthieu David:        Jiashan road, so anyone listening to us in this China marketing podcast episode, tries Big Sur coffee shops on these locations. Thank you very much for being China Paradigm’s guest.

Carol Liu:              Thank you, Matthieu, bye.

China paradigm is a China business podcast sponsored by Daxue Consulting where we interview successful entrepreneurs about their businesses in China. You can access all available episodes from the China paradigm Youtube page.

This article Podcast transcript #15: The challenging Chinese coffee industry is the first one to appear on Daxue Consulting - Market Research China.

China paradigm is a China business podcast sponsored by Daxue Consulting where we interview successful entrepreneurs about their businesses in China. You can access all available episodes from the China paradigm Youtube page.

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This article [Podcast] China paradigm #15: How to successfully run a coffee shop chain in China is the first one to appear on Daxue Consulting - Market Research China.

China is becoming a nation of coffee drinkers; Shanghai and Beijing are influencing the rest of China by shifting from drinking tea to coffee, in particular through coffee shops. Speciality beverage industry is growing at a very strong pace and sales are projected to grow at the rate of 40% per year for some categories. (Find our more market research upon coffee shops in China). In the last few years, coffee shop implantation in Shanghai have been booming. The city is ranked as the largest coffee market of China with the largest concentration of coffee shops in China.

A fierce competition over a high potential market

Starbucks, Nestle and Costa Coffee are particularly active at implanting themselves in the region, currently there are more than 300 stores in Shanghai, those represent nearly a quarter of all Starbuck in China, but this tremendous pace is far from stopping: in December 2014 Starbucks decided to accelerate it’s expansion, Costa Coffee planed to at least double its implantation in China by 2017 byincreasing the number of cafes by 400 in the next few years. (more about Costa Coffee’s strategy in China). Market reports are projecting that China’s per capita annual consumption of coffee is going to go from three to four cups, to seven cups. This amount can be considered as ridiculously low compared to the 400 cups consumed daily by Americans however, most investment are now turned towards the Chinese market since it’s upcoming increase with lead to fabulous performances. Caffe Bene, Zoo Coffee, Hong Kong’s Pacific Coffee, Britain’s Costa Coffee are also aspiring to expand at impressive speed in Shanghai but across the China too.

While those big chains fight for the largest market shares, many individual shops are trying the market out by implanting specific style and original marketing to experience Coffee. Coffee is considered as something new, for young dynamic people and relatively wealthy. Chinese people consider drinking coffee as a social activity consumed in coffee shops and the consumption in households remains quite low in Shanghai. For this reason, Nespresso has been putting efforts in trying to change those habits to boost their sales and performance.

Implanting a coffee shop in Shanghai environment

The strong pace for the foreseeable future of coffee shops is once again illustrated by DTS8 Coffee Company, Ltd. A joint venture was established in the Shanghai Tax free Zone for DTS8 to operate under the famous branded coffee shop of Café De La Don Manuel.  This was formed before their first coffee shop situated in Shanghai in September 2014.

By analysing the distribution of Coffee shops implantation in Shanghai, Starbuck coverage is the largest with a leading amount of stores and fastest increase. 320 stores are currently implemented and 20 were established in the last months. DTS8 positioning is interesting since it is persisting in selling fresh, artisan roasted gourmet coffee in the growing.

The omnipresence of Starbucks in China could be creating an opportunity to offer to the Chinese getting bored of always drinking the same drink, with the same decoration and environment. Implanting coffee shops in the optic of expanding the horizons and experiences when drinking a coffee must be analysed. Despite the existence of many unique independently owned cafes in Shanghai, many niche markets are waiting to be exploited and created in Shanghai. For example, Hongkou district is populated by large amounts of foreigners that are interested by new experiences and adore Coffee.

New coffee experiences and taste will be successful in China.  As well, since the Chinese enjoy coffees in coffee shops where they can have conversations, sign contracts, hold meetings or study, delivering spacious and comfortable environment is very important. The recent trend of searching for environmental friendliness on a daily basis in China could embody an ideal positioning for new ventures. In order to reach maximised implantation, bitter taste coffees must be avoided. Innovating concepts are favoured by the Chinese, clever localisations are also embarrassed and price competition must be well analysed. Daxue Consulting offer a wide range of services that could lead to more intensive reports upon a specific segment in Shanghai.

More market research in Shanghai

See also :

www.dts8coffee.com.

http://www.shanghaidaily.com/feature/news-feature/Coffee-shops-sprouting-like-beans-across-Shanghai-and-rest-of-China/shdaily.shtml

http://www.shanghaidaily.com/feature/ideal/Cafes-offer-break-from-chain-store-grind/shdaily.shtml

This article Coffee shop implantation in Shanghai is the first one to appear on Daxue Consulting - Market Research China.

Overview of the coffee market in China

According to data from China Coffee Association Beijing, the coffee consumption growth is increasing at an annual rate of 15 percent. Even if the population individuals drink an average of 5 cups of coffee per year, compared to the world’s average of 240 cups, the annual growth in China nowadays represents 7 times the world’s annual growth.  However, local coffee brands in China are not taking full advantage of this trend and mainly are not the pioneer. The development of this market started in the 1980’s with the arrival of foreign brands in China. The current leaders on the market, Starbucks and Nestle, have played a significant role in spreading the coffee culture in China.

The Western culture of coffee in China was for long considered a trend, which was mostly affordable for high-middle class customers. Indeed, coffee is expensive in China, whether bought as instant coffee or in a café.

On the Chinese coffee market, it is most likely to find instant coffee which represents 80 percent of the coffee consumed in China. Often called 3-in-1 coffee, the solid drink is composed of coffee, powdered milk and sugar. Even if Chinese tend to drink more traditional black coffee nowadays, milk coffee remains people’s most appreciated beverage.

Its development and the competition with local coffee brands in China start to spread its consumption to other classes.

Chinese brands of coffee

At the end of the 19^th century, coffee bushes where first introduced in China in the Yunnan Province by French missionaries, a region mainly dedicated to tea plantations. However, coffee growing truly started in 1980 with a plan on coffee farming established between the Chinese government and the United Nations Development Program. Thank to their local production with famers from the Yunnan and Hainan Provinces, where coffee plantations are mainly located, local coffee brands started to gain ground on the coffee market competition, even if they still own very little of the market share.

The local coffee brands mentioned below are the most represented on the Chinese coffee market at local scale.

• Lisun力神

Founded in 1987 in Hainan Province, Lisun is the first company to introduce instant coffee in China. It became famous for its Coconut Coffee and Milk Sugar Coffee. The company possesses its own coffee plantation on Hainan Island.  It diversified its range of products by developing different coffee flavors, drinks and by selling roasted coffee.

• Hogood后谷

Hogood is a Yunnan based company which was founded in 2007. It is one of China’s biggest home-grown coffee processors and one of the top selling local coffee brands in China. Hogood produces and sells roasted coffee, including whole bean, ground coffee and instant. It also exports its products to Europe and Korea.

• Nanguo南国

Established in 1992, Nanguo uses distinctive products of Hainan such as coconut and coffee in order to develop its products. Its coffee based products are mainly sold as solid drinks including coconut coffee and “Tan Shao coffee”, a powdered one.

• Fushan Coffee福山咖啡

Fushan Coffee was founded in the 1980s in Hainan Province and its business is focused on growing, transforming and selling coffee. The company is one of the leaders on coffee culture on Hainan Island and one of the main local coffee brands in China.

Chun Guang春光

Founded in 1996 in Hainan, Chun Guang growscoconut and coffee that are used to develop sweets, beverages or biscuits. The products are sold in China but also exported to about 30 countries. Chun Guangsells roasted powder coffee and instant coffee.

The bright future of the coffee market in China

Despite the expansion of coffee on Chinese market, it is unlikely that coffee will replace tea as part of the Chinese culture. However, more and more Chinese are enjoying drinking a cup of coffee once in a while. With the development of local brands and especially the Chinese production of coffee, the market has a great development potential which is estimated to reach an annual rate up to 20 percent. Apart from coffee retails; coffee shop in China and foreign café branches, countless independent coffee are now opening is every small to mid-range cities enabling people to learn more about this beverage so popular for Westerners.

Matthieu David

Source :

http://www.forbes.com/2010/04/28/starbucks-china-consumers-markets-economy-coffee.html

http://www.china.org.cn/business/2014-06/13/content_32658468.htm

http://legacy.intracen.org/publications/Free-publications/China-Coffee-Overview-Tech-Paper-Aug-2010.pdf

This article Local coffee brands in China is the first one to appear on Daxue Consulting - Market Research China.

However, China’s coffee market has grown with an annual rate of 10% to 15%. In 2006, coffee consumption in China was roughly 45,000 tons. It is predicted that this figure could reach 300,000 tons annually by 2020.

The growth of the market of coffee in China

According to China market research, the number of coffee shops in China has doubled from 15,898 to 31,283 from 2007 to 2012, demonstrating a rapidly increasing coffee consumption level in China. And many Chinese coffee consumers place greater value on the coffee shop experience and environment, rather than on the quality of the coffee itself.

In 2010, Starbucks ruled Chinese coffee sales with a 66 percent market share in the coffee retail sector. While Starbucks maintains the standard for coffee sellers in China, new forces in the coffee retail space have recently emerged in the form of coffee chains and numerous independent coffee shops.

The new trend of coffee shop in China

British coffee chain Costa Coffee entered China in 2006 and currently has over 250 stores in China with the goal of a total of 500 stores by 2016 – accounting for 8.9 percent of the coffee retail market.

Further, Taiwanese bakery/coffee shop chain 85 Degrees has penetrated the market with a total of 350 stores throughout China and plans to add another 100 stores by 2017. 85 Degrees stores offer not just coffee-based beverages at lower prices than the typical coffee shop, but also freshly baked breads and pastries – something Chinese consumers commonly pair with their coffee.

This success of coffee shop in China can be attributed to their recognition of the Chinese as unique consumers with different tastes and habits than those of American or European consumers. These coffee pioneers recognized that Chinese consumers did not like the bitter taste associated with black coffee or espresso, and have tailored their beverages accordingly. For example, Nestlé’s Nescoffee shop packets include sugar and powdered milk, and Starbucks emphasizes milk-based drinks like frappucinos, lattes and mochas in their China practice.

Strategy of coffee chain in China

Starbucks localized their outlets by emphasizing large seating areas since Chinese may be not willing to take their drinks away with them. Local Chinese customers now value the “Starbucks experience” – i.e. preferring to sit with friends and have something to eat with their coffee. Starbucks’ Chinese menus also reflect local flavor, with choices like green tea tiramisu and Chinese moon cakes available at their stores.

Given the average Chinese consumer’s lack of experience with coffee and limited knowledge on varying coffee quality, coffee shops in China often use this method to increase their appeal. That being said, some coffee shops, especially in China’s first tier cities such as Shanghai and Beijing, have started to recognize that a certain market of Chinese consumers are beginning to demand higher quality coffee. These coffee shops have even begun to offer more specialty coffees of a higher quality – paying close attention to the beans’ specific place of origin, roasting the beans locally on premises, and offering a variety of brewing methods. These specialty coffee retailers not only provide a product of the highest quality, but can also offer an educational consumer experience. For example, Shanghai-based Seesaw Coffee shop has an impressive on-site facility known as the “coffee academy” which functions as a comprehensive barista training program that also hosts classes open to the public.

See also : coffee market China

http://www.telegraph.co.uk/finance/commodities/10582803/Commodities-China-gets-taste-for-caffe-latte-but-investors-must-wait-for-returns-to-stir.html

http://www.bloomberg.com/news/2012-04-01/starbucks-heads-for-smaller-china-cities-as-coffee-shops-triple.html

This article Coffee shop in China is the first one to appear on Daxue Consulting - Market Research China.

As of July 2013, Starbucks owned 878 company-operated and license stores in China. This US-based coffee chain operator aims open another 700 stores by 2015. Starbucks success in a country with a strong tea culture can mainly be attributed to the company’s effort to remain localized. For example, Starbucks offers its Chinese customers Biluochun green tea and Mudan White Tea. During traditional Chinese festivals, Starbucks will promote special-edition products, such as moon cakes and glutinous rice dumplings. This localization strategy has been working well in China.

Potential challenges that might slow growth

Although China is a tea-drinking country, tea houses find it difficult to formalize a well-organized chain. In general, tea houses are regarded as places for the elderly to spend time chatting and playing cards. Starbucks’ real competition comes from Costa, a UK-based company, which is expanding rapidly in China. Costa’s strategy is quite aggressive: the company opens new stores close to Starbucks, or occupy the stores where Starbucks just ended the contract. It entered into China’s market in 2006 hoping to open 2500 stores in total in 2015.

Will higher rent costs hurt Starbucks as they try to expand?

According to the latest earning release by Starbucks, the Chinese market witnessed the largest increase of total net revenues. The figure was $661.4 million, a 26.4% increase compared to quarter 3 last year. However, if the total net revenues is divided by the number of stores, the increase in revenues is not as impressive. In the first three quarters of fiscal year 2013, stores in America and EMEA earned $0.63 million and $0.45 million on average, but stores in China only earned $0.18 million.

Why do stores in China have such a relative low profitability? The cost of sales including occupancy costs in the financial report, takes up nearly 60% of total operating expense in China. Starbucks recently closed its first store in Beijing due to the high rent costs. Savills reveals its latest research report concerning retail shops in Beijing, showing that the average rent of ground floors of middle- and high-end shopping malls increases 0.8% in Q2 2013 from Q1, reaching 882.7 RMB/month/square meter. The amount of increase in business districts, such as Xidan, Dongzhimen, Sanlitun and CBD, go up to 5.6%, 5.4%, 2.7% and 2.6% respectively. The vacancy rate of several business districts saw a slight increase, around 2~3%.

Starbucks has experienced similar difficulties in other first-tier cities in China. Starbucks must face this problem while implementing its expanding strategy. Opening new stores in second-tier or third-tier cities, especially in travelling sites, is not as costly, but Starbucks must also consider whether these locations are suitable for building its brand.

Daxue Consulting Market Research in China

Market Research in China

Sources:

• Reuters
• Yahoo
• Bloomberg
• Euromonitor International

Picture: Starbucks China

This article Marketing research: Coffee shops and teahouses in China (Focus on Starbucks) is the first one to appear on Daxue Consulting - Market Research China.