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Is coffee a great business to be in?

May 09, 2008 Business Daily, Strategy

“For coffee farmers in Meru Central, every waking moment is a constant reminder of the good old days when the berries were synonymous with wealth. In the late 1970s…during the so-called “coffee boom”, many millionaires were made as the region, which lies at the foot of Mt Kenya, benefited from coffee sales. Coffee was to the area, nostalgic farmers say, what oil is to (the) Middle East.”

Smart Company (Daily Nation, May 6th 2008)

Smart Company was waxing nostalgic this week about Kenya’s famous coffee boom: that legendary time in the 1970s when the coffee price spiked and anyone fortunate enough to have bushes in the ground became, momentarily, a rich person. Kenya, too, benefited: in 1977 the economy grew at 8 per cent.

It didn’t last, though. And it is important to understand why not. What caused Kenya’s coffee boom? Brazil’s coffee bust. An unexpected frost in 1975 destroyed more than half of Brazil’s bushes, causing a sharp rise in the worldwide price of coffee. That was it: an act of nature. There was nothing Kenyans did to deserve the boom; it just fell out of the sky. Nor did we do anything particularly clever during and after the boom. So the party soon fizzled out.

The comparison between coffee and oil that is apparently made by ‘nostalgic farmers’ is ludicrous. The only thing the two commodities have in common is that they are in great demand by consumers. At the customer end, they are great businesses because the user apparently cannot live without them. At the producer end, however, things are very different.

Oil is a scarce commodity, found in precious few places and controlled by very few countries. Coffee is produced by tens of millions of farmers in fifty-plus countries in all corners of the world. This is the fundamental point: economic (and business) power comes from scarcity. What is scarce brings large rewards; what is commonplace gets a pittance. This seemingly obvious observation is ignored by a surprising number of people – not least the many Kenyans who, since the 1970s, seem to want to own a coffee farm.

Is there ‘scarcity’ in the coffee industry? Yes there is – but it’s not at the farm level. The people who can build scarcity are the importers, processors and retailers of coffee. If you are a global trading house, you use your consciously developed business capabilities – supply chains, logistical expertise – to build uniqueness. And it counts: just five importers control around half the coffee trade. If you are a roaster – such as Nestle or Kraft – you use your brand name and marketing architecture to develop uniqueness. Again, ten such names control two-thirds of the processed coffee market. And if you’re a Starbucks, your ability to develop a unique global brand brings massive reward: you charge between three and five dollars for a cup of coffee which costs less than a dollar to bring to the table. All the way from Kenya.

So is coffee a great business? For Starbucks and Nestle, who understand uniqueness, yes. For the poor Kenyan farmer, not at all. We must learn to understand something about money: it is not made in the crowd.

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