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How To Avoid Being A Victim Of Your Own Innovation

Coffee giant Starbucks almost put itself out of business with its own innovation. Here’s how CEO Howard Schultz saved the day.

How To Avoid Being A Victim Of Your Own Innovation
[Photo: Flickr user Faye]

Starbucks was nearly a victim of its own innovation.

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The ubiquitous coffee chain was growing at a phenomenal pace through much of the last decade. In 1987, the company had only 17 stores, but by 1999 the number had grown to 2,500. That total doubled and redoubled until 2007.

Then, with more than 15,000 company-operated coffee shops worldwide, the company’s growth hit a wall. Day-to-day store traffic stalled for the first time in the company’s forty-year history, and Starbucks began closing locations (mostly in the U.S.) at roughly the same pace it was opening them.

By the end of 2007, the company’s stock had lost more than 40% of its value, and legendary CEO Howard Schultz returned to rescue the company he had built. Schultz set to work refocusing the stores on providing a premium experience to match its premium prices. The former, he thought, had been lost in all the growth.

Loss Of The Human Element

The source of much of the company’s troubles was disruptive technology–technology pioneered and championed by Starbucks itself. As U.S. consumers embraced the idea of daily lattes in the 1980s, the company first standardized on a largely manual European espresso machine known as the Linea, a high-tech, low-profile work-horse with room to make six drinks at a time. (The company still has a version at its original location in Seattle.)

The Linea was an artisan’s machine, requiring extensive training and plenty of practice before it could deliver a consistently superior beverage. As the company’s success led to faster expansion, however, handmade espresso drinks became a bottleneck, leading to long waits and vast differences in quality from one barista to the next.

So in 2000, near the end of Schultz’s original tenure, the company began switching out its 20,000 Linea machines, replacing them with the semiautomatic Verismo 801. The Verismo ground the beans and pressed the coffee automatically and used the latest electronic sensors to control such sensitive variables as temperature, humidity, and even barometric pressure. The Verismo offered fast, consistent performance with minimal training, helping to fuel the company’s explosive growth.

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But if a quality espresso drink could be made by a machine, why would consumers continue to pay for handcrafting?

Amazed by the margins Starbucks was earning on its products, fast-food giants including McDonald’s and Dunkin’ Donuts adopted similar technology, producing espresso drinks that, according to some reviewers, were just as good but considerably cheaper.

In 2007, McDonald’s announced plans to expand McCafé, its café within a restaurant, by adding espresso machines to the majority of its 14,000 U.S. locations. McDonald’s uses super-automated espresso makers that not only grind the beans, but also tamp them to the proper density, run water through at the perfect temperature, and then steam the milk and add it to the drink. These “bean to cup” machines, as one vending operator bluntly put it, “replicate a barista providing a varied coffee menu, without the cost of actually hiring one.”

Imitation Isn’t Always Flattering

Starbucks responded to its new competitors by imitating them, increasing its menu of breakfast sandwiches and installing even more drive-through windows.

That was enough to make Schultz’s blood boil. He had opposed the breakfast sandwiches all along, and he particularly hated the smell of singed cheddar cheese that had come to permeate the stores.

“Where was the magic in burnt cheese?” he wrote in a scathing memo to the Starbucks board. The stores, he said, had squandered their “romance and theater,” and the company had “lost its soul.”

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While Schultz acknowledged that many of the company’s decisions were necessary to achieve scale, they had inadvertently commoditized the idea of high-end coffee and made it easy for others with the same technology to undercut Starbucks. When the memo went public, the board surrendered, and asked Schultz to save its floundering empire.

Innovating By Scaling Back

Schultz refocused the company on innovation. His seven-point transformational agenda included closing 600 U.S. stores, and retraining each of the company’s 135,000 employees. Store layouts were varied to give them “the warm feeling of a neighborhood store.” Expansion was scaled back.

Most visibly, Schultz threw out the Verismos, replacing them with a modernist-designed machine with a soft-colored metal finish and a giant flying saucer top where the premium beans are prominently visible. There is less automation in the new technology, giving baristas control over grind size, pour time, and the steaming of the milk. At seven inches shorter than its predecessor, the new machine also makes it possible once again for customers to watch their drinks being made and to interact with the barista.

Schultz’s plan appears to have saved the company. Starbucks has reestablished itself as a premium brand, selling not just its coffee but the experience of its locations, the artistry of its employees, and the strength of its constant innovation. Though the number of company-operated stores has largely flattened since his return, revenue is rising at the same pace it was before the crisis.

Starbucks narrowly escaped the natural tendency of successful innovators to be smothered by their own success. Many once high-flying companies aren’t so fortunate.

Start-ups and incumbents alike are frequently caught unprepared for the rapid market saturation that occurs when near-perfect market information brings every interested customer to their door all at once, to be quickly served either by them or aggressive imitators.

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In their exuberance they also often overlook the unpredictable tastes of increasingly faddish consumers, whose preferences can shift overnight in the opposite direction.

With the arrival of a better and cheaper alternative, abandonment can be spontaneous, even immediate. Markets that once took years and even decades to saturate can now reach their natural capacity in months or weeks.

Adapted from Big Bang Disruption: Strategy in an Age of Devastating Innovation by Larry Downes and Paul Nunes, in agreement with Portfolio, an imprint of Penguin Random House. Copyright (c) Larry Downes and Paul Nunes, 2013.

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