News Item

COFFEE MARKETS

Today's Imbalance in Global Supply and Demand

by Richard J. Schlesinger

EVERYONE IN THE COFFEE INDUSTRY—from producers to consumers—is impacted by the current imbalance in the global supply and demand of coffee. With demand growth outpacing supply growth, the industry faces continued pricing pressures on coffee. In order to succeed, it is imperative for coffee roasters to be aware of these global supply and demand changes and to anticipate the pricing impact on their customers.
As you may already know, the coffee market is expected to run a large deficit for 2005–2006. Global output for 2005–2006 is short by eight to 10 million 60–kilogram bags of coffee, bringing total production down to 92 percent of what is annually consumed worldwide.
     This year, Brazil, which grows 43 percent of the world’s arabica, is expected to generate six million fewer bags than it did in 2004. This decrease of 16 percent accounts for the majority of the expected deficit. Brazil’s Agriculture Ministry blames the decline on drought and a harvest cycle that reduces the crop in alternate years while coffee bushes recover.
     Coffee crops from Vietnam, the world’s second largest coffee producer, have also been hit hard. The country is facing its worst drought since 1975, prompting the Vietnam Coffee and Cocoa Association to forecast a 25-percent drop in the crop this year.
      Although supply is down, per capita coffee consumption in the United States alone is up six percent to 4.24 kilograms in 2003 compared to the previous three years1. The consumption per capita is likely to have grown in 2004 and 2005 as well. Coffee demand continues to increase as coffeehouses and convenience stores (C-stores) open new coffee locations. In addition, national restaurant chain accounts, which have been experiencing a drop in breakfast sales, are beginning to get into the specialty coffee mix to defend their turf.
     In 2004, Wyoming Research interviewed 2,250 respondents for its fall Foodservice Intelligence Tracking (FIT) study of specialty coffees (flavored, gourmet and specialty). The national chain specialty segment showed a six percent consumption increase, with Starbucks and Dunkin’ Donuts leading that growth. Starbucks, the coffee giant that operates more than 6,400 stores, showed a 30 percent sales growth last year and plans to open 1,000 additional stores in 2005 alone.
     Following in Starbucks’ footsteps, Dunkin’ Donuts is fast becoming one of the hottest foodservice chain accounts, thanks to a seven percent jump in same-store sales last year and a new line of Americanized espressos. The company, which benefited from an image-boosting Consumer Report “Best Buy” rating, expects to open approximately 500 new Dunkin’ Donuts annually as the company continues to expand outside of its Northeastern U.S. stronghold.
     Wyoming Research estimates that the C-store segment is responsible for 68 percent of total U.S. specialty coffee sales measured in weight. This is no surprise as there are over 125,000 C-stores in the U.S., most of which are located in the South. Of all C-stores, 88 percent sell specialty coffee, three times more than other foodservice segments, which average 27 percent.
     Like coffeehouses, C-store operators expect further growth in 2005. According to Bill Douglass, chairman of the National Association of C-stores, the number of C-stores in the U.S. is up 5.7 percent. This is in line with the 6 percent specialty coffee growth forecasted by Wyoming Research. Flavored coffee consumption by C-store customers is growing at an average annual rate of eight percent as more accounts, such as 7-Eleven, Inc., are installing self-serve coffee bars that offer flavored syrups and spices for their javas. Sales of flavored coffee at 7-Eleven were up 10 percent in 2004.
     National fast food chain accounts have traditionally had a low incidence of specialty coffee drinkers. Even today, it is estimated that only four percent of all Quick Serve Restaurants (QSRs) sell specialty coffees. However, this is changing, as coffeehouses such as Starbucks move into sandwiches, stealing customers away from QSR accounts, especially McDonald’s, whose breakfast market share is declining. In response, McDonald’s is testing a premium-roasted coffee in several geographic areas and expects a full rollout in its 13,000 stores later this year. The national launch by McDonald’s is expected to impact total U.S. coffee demand and drive more consumers into the specialty coffee market.
     Finally, coffee demand in emerging markets is up, as consumers in countries such as Russia switch to coffee drinks. In 1999, the ratio of Russian tea drinkers to coffee drinkers was five to one. In 2005, the ratio is roughly two to one. Two years ago, Nestlé made its largest single biggest investment ever in Russia, building a full-cycle coffee factory to produce its Nescafé brand. While Russian coffee consumption averages one cup per person per two days, it still lags behind the U.S. average consumption of three cups per person per day.
     With coffee demand growing and supply down, it comes as no surprise that market pricing is up dramatically. New York stock market pricing for Brazil’s arabica coffee reached $1.32 per pound for July 2004 compared to the average price of 54 cents per pound since 2001. In a recent survey, the median forecast of 16 traders and analysts was that the market price of coffee may reach a seven-year high of $1.50 a pound in New York by December 2, 20052. To protect earnings, coffee roasters such as Proctor & Gamble and Kraft increased their retail prices by 14 percent in December 2004, shortly after Starbucks raised their beverage prices on average to three percent in October. Last month, Sara Lee announced that higher prices for beans and other raw materials contributed to a 50 percent plunge in third-quarter earnings.
     This trend toward higher coffee prices may not be a bad thing for the specialty coffee industry. Provided roasters stay on top of the supply and demand issues and include cost increases in their coffee pricing, it may even help boost profits in the short run.

Richard J. Schlesinger, president of Wyoming Research Associates, has more than 25 years of foodservice research experience. In addition to custom proprietary studies, Schlesinger has introduced several syndicated studies such as the C-store Monitor, Office Service Study, On-premise Adult Beverages and the Foodservice Intelligence Tracking (FIT) study. Visit www.wyomingresearch.com for more information.

Footnotes

[1] Source: International Coffee Organization. March 2005. Horticultural and Tropical Products Division, FAS/USDA.

[2] Bloomberg News survey of 16 traders and analysts in New York, London and Singapore.