Daybreak - Why young coffee chains like Third Wave cluster around Starbucks

Episode Date: June 23, 2024

More than a decade has passed since Starbucks came to India. But the world’d biggest coffee chain has been struggling to achieve profitability. In the latest financials,  the company saw its slowest sales growth in India since the pandemic.So far, Starbucks has managed to open around 400 outlets across the country. Meanwhile, Third Wave, a much smaller specialty coffee startup that started around eight years ago, already has more than 100 stores around the country. Its new CEO Rajat Luthra recently announced that that chain plans to open 50 new outlets in existing markets. Third Wave has more than doubled its operating revenue in the last financial year. In the year before that, it saw its revenue grew more than fourfold. It raised $35 million in a funding round led by private equity firm Creaegis in September last year.How far can a startup like Third Wave go against a a 50 year-old global coffee powerhouse with the backing of Tata?Tune in.Daybreak is produced from the newsroom of The Ken, India’s first subscriber-only business news platform. Subscribe for more exclusive, deeply-reported, and analytical business stories.

Hi, this is Rohan Dharma Kumar. If you've heard any of the Ken's podcasts, you've probably heard me, my interruptions, my analogies, and my contrarian takes on most topics. And you might rightly be wondering why am I interrupting this episode too. It's for a special announcement. For the last few months, I and Sita Ramon Ganeshan, my colleague and the Ken's deputy editor, have been working on an ambitious new podcast. It's called Intermission.

We want to tell the secret sauce stories of India's greatest companies. Stories of how they were born, how they fought to survive, how they build their organizations and culture, how they manage to innovate and thrive over decades, and most importantly, how they're poised today. To do that, Sita and I have been reading books, poring over reports, going through financial statements, digging up archives, and talking to dozens of people. And if that wasn't enough, we also decided to throw in video into the mix. Yes, you heard that right. Intermission has also had to find its footing in the world of multi-camera shoots in professional studios, laborious editing, and extensive post-production. Sita and I are still reeling from the intensity of our first studio recording.

Intermission launches on March 23rd. To get an alert as soon as we release our first episode, please follow Intermission on Spotify and Apple Podcasts or subscribe to the Ken's YouTube channel. You can find all of the links at the ken.com slash I am. With that, back to your episode. More than a decade has passed since Starbucks came to India. But the world's biggest coffee chain has been struggling to achieve profitability here.

In the latest financials, the company saw its slowest sales growth, in India since the pandemic. It is quite a stark contrast to the time when it opened its first tour in India in Mumbai. I don't know if you remember, but people had gone nuts. For most Indians at the time, it was something that they'd seen in Hollywood movies. So, of course, everybody wanted a couple up. There were never-ending hues of people outside the outlet, hot and sweating in the crowd, but ready to wait as long as it took.

Similar scenes also played out in Delhi when a few months later, another Starbucks opened in Kinnott Place. Pictures of people posing with Starbucks cups inscribed with their names on it, often misspelled, were all over social media. At the launch of the event, Howard Schulz, the then-CEO of the company, had proudly declared how, in its 40-year history, India was the first location where Starbucks was sourcing and roasting its coffee locally. He said it was a part of being respectful to the country and taking advantage of the huge coffee plantation heritage of the Tartas. Ever since, in the more than 10 years that have passed, Starbucks has managed to open around 400 outlets across the country.

Meanwhile, Third Wave, a much smaller specialty coffee startup that started around 8 years ago, already has more than 100 stores around the country. In fact, Third Wave was one of the first back. The Anglo culture thinks that I was introduced to when I moved here two years ago. Apparently, all the tech bros and girls with their MacBooks and Apple Watches go to work from Third Wave. Anyway, if everything does go according to plan, Third Wave will match Starbucks in terms of the number

of outlets this year. Its new India CEO, Rajat Lutra, recently announced that the chain plans to open 50 new outlets in existing markets. Third Wave has more than doubled its operating revenue in the last financial year. In the year before that, it saw its revenue grow more than fourfold. It also raised around $35 million in a funding round led by private equity firm, Craigis, in September last year. On the other hand, Starbucks, like I told you, is yet to achieve profitability here,

despite being a 50-year-old global coffee powerhouse with the packing of Tata. So how far can a startup like third wave go? And the bigger question is, who is going to win the coffee war in India? Welcome to Daybreak, a business podcast from The Ken. I'm your host, Nagda Sharma, and I don't chase the new cycle. Instead, every day of the week, my colleague, Rahal Philippos and I will come to you with one business story that is worth understanding and worth your time. Today is Monday, the 24th of June.

My colleague and the Ken reporter Noha noticed something quite interesting while reporting the story. All Starbucks cafes in the primest of the prime locations of Bangalore, Mumbai and Delhi have something in common. I'm talking about the Church Street outlet in Bangalore, the Khan market one in Delhi and the chop party one in Mumbai. Each one of them happens to have a third wave outlet very close to it. And this, my dear listeners, is not by chance. It is a very conscious choice. And the reason actually makes sense. Chains like third wave and blue tokyi believe in the concept of Nash Equilibrium or Clustering.

Nash Equilibrium is a situation where no one can benefit by changing only their own strategy. If any changes are to be made, they have to be done by all the players. Basically, the idea is that being near competitor, means more potential customers around, and moving away from them could mean missing out on these customers. Matt Chittaranjan, the co-founder and CEO of Blue Tokai Coffee Roasters, which is a specialty coffee startup just like Third Wave, told again that there is a rationale behind why these young chains are clustering around Starbucks.

He said, and I'm quoting, our sales increase when these other brands move in and vice versa. He said that their data shows that having a Starbucks nearby actually helps them. Take Third Wave's outlet in 17th main HsR layout in Bangalore, for example. It makes 40 lakh rupees in monthly sales on an average, and this is despite having around 10 other cafes within a 300-meter radius. So what else is behind the rise of Third Wave as a Starbucks competitor? Stay tuned to find out. Who was the OG pioneer of the Bean to Cup concept in India?

No, it was in Starbucks. Any other guesses? CCD or Cafe Coffee Day. This was back in the mid-90s, way before Starbucks. By 2016, CCD had more than 2,000 outlets across the country. It was the undisputed champion of coffee chains in India. But we all know the story of its downfall, financial troubles and then the mysterious death of its founder, Viji Siddhartha, in 2019. A former manager with the direct-to-c customer or D2C coffee firm Sleepy Owl told Noha, and I'm quoting,

When Starbucks came in, it had a free run because CCD was on its way down. Now, Third Wave has entered the scene and it is trying to turn the table. From having one outlet for every four Starbucks stores a year ago, Third Wave now has one for every three. And it plans on opening 250 more outlets by 2024. And how is it planning to do this? The answer again has something to do with CCD. Since September 2022, Third Wave has added 35 new stores and some of these new stores used to be old CCDs. If you remember, CCTV outlets were always in prime locations. In the last five years, CCD has cut down the number of its cafes to 469.

Remember, I told you, in 2016, they had more than 2000. So you do the maths. Kunal Ross, the assistant general manager of operations and sales with Arakou coffee, told the Kent that Third Wave has actually taken advantage of CCD reducing their footprint and moved into those spaces. So, not only is Third Wave getting these prime hotspots, it is also getting the CCD customer base. So what drove these people to CCTV-turned-ThirdWave cafes? A former manager at Sleepy Owl told us that it was all about the pricing. He said, and I'm quoting, it was absolutely perfect.

you can term it as a better Starbucks, end quote. Stay tuned for more on Birdwave's pricing strategy. In 2021, Starbucks wanted to understand the Indian market better, so it hired the Boston Consulting Group, and they recommended three things to appeal to the budget-conscious consumers here. Lower-priced menus, localized bite-sized food varieties, and smaller-sized beverage. In July last year, Starbucks launched its smallest-sized drink, PICO, which was 180ml, and the price started at 180 rupees.

But Amrit Anjou Prasad, an executive at Third Wave, told us that he believes Starbucks brought in PICO looking at Third Wave's beverage pricing structure, which was 25% cheaper. But now, Third Wave is also working on the smallest beverage size based on customer feedback. Also, about localized menus, Starbucks revamps its menu eight times a year. Blue Tokai does it four times. But Third Wave refreshes its offerings every two months and also launches new products occasionally. But is that enough? Not really. Prasad told us that a lot of Starbucks is really.

regular customers are switching to third wave stores and that they see almost a 60% customer retention. Also, Prasad and a Starbucks store manager told the Ken that a Starbucks store on an average would get about 450 orders in a day. But once third wave came into the picture, the number dropped to about 300 a day. The matter became so serious that Starbucks actually signed a lease agreement with a Bangalore mall that says that no premium coffee chain can operate on the same floor as Starbucks.

As you can see, the competition is heating up and we don't exactly know how it will end. But there's one thing that we know for sure, and this is what a Starbucks manager told us. The war is being won by coffee. Daybreak is produced from the newsroom

of the Ken, India's first subscriber-focused business news platform. What you're listening to is just a small sample of our subscriber-only offerings. A full subscription unlocks daily long-form feature stories, newsletters and podcast extras. To subscribe, head to the ken.com and click on the red subscribe button on top of the Ken website. Today's episode was hosted by Snigda Sharma and edited by Rajiv Sien.