TIP642: THE STORY OF STARBUCKS: BUILDING AN ICONIC BRAND

W/ CLAY FINCK

04 July 2024

On today’s episode, Clay discusses the early days of Starbucks and Howard Schultz’s book — Pour Your Heart Into It.

Starbucks has been one of the market’s best-performing stocks over the past three decades. Since the IPO in 1992, Starbucks stock has had an average annual return of 18.6% relative to the S&P 500 returning 10.4% over that same period (with dividends reinvested). Clay unveils the fascinating story of how Howard fended off endless competition to build an iconic brand that’s built to last.

Subscribe through iTunes
Subscribe through Castbox
Subscribe through Spotify
Subscribe through Youtube

SUBSCRIBE

Subscribe through iTunes
Subscribe through Castbox
Subscribe through Spotify
Subscribe through Youtube

IN THIS EPISODE, YOU’LL LEARN:

  • What led Howard Schultz to join and take over Starbucks.
  • The impact of Howard’s visit to Italy, where there were 200,000 coffee bars.
  • How Starbucks was able to dominate big brands in the early days.
  • How Howard aligned the interests of the company with the interests of all employees at Starbucks.
  • Lessons Howard learned in taking Starbucks public.
  • And so much more!

TRANSCRIPT

Disclaimer: The transcript that follows has been generated using artificial intelligence. We strive to be as accurate as possible, but minor errors and slightly off timestamps may be present due to platform differences.

[00:00:00] Clay Finck: Hey, everybody. Welcome to The Investor’s Podcast. I’m your host, Clay Fink. On today’s episode, I’m going to be covering the story of Howard Schultz and the creation of Starbucks. Howard Schultz has a net worth of over 3 billion and led the growth of Starbucks in the early days. He was the CEO of the company from 1986 through 2000 and from 2008 through 2017.

[00:00:22] Clay Finck: Starbucks has been one of the market’s best performing stocks over the past 30 years or so. Since the IPO in 1992, the stock is up over 240 times. This equates to an average annual return of 18. 6 percent excluding dividends relative to the S& P 500’s return of 10. 4 percent even with dividends included.

[00:00:43] Clay Finck: Starbucks is a pioneer in the culture of America and coffee and sits alongside top well-known American made brands like McDonald’s, Apple, Coca Cola, Nike, and Amazon. Today, Starbucks has over 16, 000 stores in the United States alone and 38, 000 stores globally. Howard has an incredibly inspiring story as he grew up in the projects in New York and he really rose from nothing to create this behemoth of a company.

[00:01:09] Clay Finck: He did this by focusing on creating a great place to work that attracted high quality people that could create a unique experience within the Starbucks stores. There are some really surprising aspects to this story that I think you’ll enjoy and find inspiring. So with that, let’s get right into today’s episode, covering the story of Howard Schultz and Starbucks.

[00:01:32] Intro: Celebrating 10 years and more than 150 million downloads. You are listening to The Investor’s Podcast Network. Since 2014, we studied the financial markets and read the books that influence self-made billionaires the most. We keep you informed and prepared for the unexpected. Now for your host, Clay Finck.

[00:02:01] Clay Finck: So today I’m going to be reviewing a book called Pour Your Heart Into It by Howard Schultz. I always enjoy reading these stories of a founder led company and how they paved their way to success, especially one like Starbucks, where essentially they created an entirely new industry that thousands of companies would replicate in one way or another.

[00:02:20] Clay Finck: So again, Howard wrote this book in 1997 and he also published another book called Onward in 2012, which tells the story of how Starbucks was in a decline in 2008 until Howard rejoined the company as CEO and really started to turn things around. I’ll also mention that since this book was written in 1997, this episode really includes the first 25 ish years of Starbucks history, and leaves out much of what happened in the 25 plus years that followed.

Read More
[00:02:47] Clay Finck: At the start of Pour Your Heart Into It, Howard writes, I quote, The Story of Starbucks is not just a record of growth and success. It’s about how a company can be built in a different way. It’s living proof that a company can lead with its heart and nurture its soul and still make money. It shows that a company can provide long term value for shareholders without sacrificing its core belief in treating its employees with dignity and respect.

[00:03:11] Clay Finck: Both because we have a team of leaders who believe it’s right and because it’s the best way to do business. I personally believe that all great companies sell much more than just a product or service. With regards to Starbucks, they do more than just make great coffee. Howard sought out to provide a quality experience driven by the baristas who custom make each drink and have bought into the company’s vision.

[00:03:35] Clay Finck: So before we get to the start of the story, Howard explains that he wrote the book to inspire people to pursue their dreams. He came from common roots, and he really dreamed big. He writes that my ultimate aim in writing Pour Your Heart Into It is to reassure people to have the courage to persevere, to keep following their hearts even when others scoff.

[00:03:56] Clay Finck: Don’t be beaten down by naysayers. Don’t let the odds scare you from even trying. A company can grow big without losing the passion and personality that built it. But only if it’s driven not by profits, but by values and by people. The key is heart. I pour my heart into every cup of coffee and so do my partners at Starbucks.

[00:04:17] Clay Finck: When customers sense that, they respond in kind. If you pour your heart into your work or into any worthy enterprise, you can achieve dreams other may think impossible. That’s what makes life rewarding. End quote. So diving in here from the beginning of the story, Howard described Starbucks as a child of two parents, one being the original Starbucks, which was founded in 1971 and was dedicated to providing world class coffee and educating consumers one on one about what great coffee could be.

[00:04:47] Clay Finck: The second is the vision and values that Howard brought to the company. The combination of a competitive drive and a profound desire to make sure that everyone in the company could win together. So Howard jumping to the start of his story. He was born in 1953 and he was raised in a working class family in the projects of New York.

[00:05:06] Clay Finck: He described how he grew up in a tiny apartment building with 150 other families. All sharing just one tiny elevator together. It wasn’t until later that Howard realized just how tight of a ship his parents had to run financially. He recalls when they went into a Chinese restaurant and they had to pick what was on the menu simply based on how much cash his dad had during that day.

[00:05:29] Clay Finck: Like we see with a lot of billionaires we’ve studied on the show, Howard developed a really strong work ethic from an early age. At age 12, he was running his own paper route. At age 16, he had an after school job at a garment company, stretching animal skins. Definitely not easy work. In realizing the position his parents were in, he always gave a part of his income to his parents to try and help them out.

[00:05:51] Clay Finck: They didn’t make him do this. He just felt a little bit obligated to do so. He tells another story how he just loved playing American football and he made the high school team, which was really just a symbol of honor to him. The students had agreed upon a day to wear their Leatherman jackets, and Howard’s parents just couldn’t afford the jacket to pay for it until their next paycheck at least.

[00:06:13] Clay Finck: It costed 29. And Howard said this is just not acceptable. He knew he couldn’t miss the day that everyone would be wearing their jackets at school. So he ended up borrowing money from a friend and then hid the jacket from his parents until they gave him the 29 to pay back his friend. So it’s just a situation where He just had a really tough upbringing financially, at least Howard became the quarterback of his high school football team, which had over 5, 000 students and the school was actually so poor financially that they didn’t even have a football field, which is just insane for me to think about given some of the schools I’ve seen that are able to have football fields that are much, much smaller than this school here in the projects.

[00:06:56] Clay Finck: He managed to get one scholarship offer for football from Northern Michigan. So he went and he visited the campus and this was actually the first time he’s ever been outside New York around his senior year of high school. So he ended up going to Northern Michigan, but he didn’t play football because it turned out that he wasn’t quite as good as he thought he was.

[00:07:15] Clay Finck: He majored in communications, he got average grades and he became the first college graduate in his family. And He writes that, quote, To my parents, I had attained the big prize, a diploma, but I had no direction. No one ever helped me see the value in the knowledge I was gaining. I’ve often joked since that if someone had provided me with direction and guidance, I really could have been somebody, end quote.

[00:07:39] Clay Finck: And you really get the sense from him that growing up in the projects and having the parents that, you know, really believed in him, they encouraged him. It helps sow the seeds for greatness because he always had that upbringing in the back of his mind. And he just never wanted to return back to that. So out of school, he ended up getting a job at Xerox and the sales training program.

[00:08:00] Clay Finck: And he learned, you know, great skills such as sales, marketing, presentation skills. And these were really a lot more valuable than the things he was getting from college. So he got his footing in the world of sales, and then he went and worked for a different sales job at a houseware company. He moved to New York city and he really got established in his career and leading a sales team.

[00:08:22] Clay Finck: He had a really good job. And if you zoom out, he really had everything most people from the projects could have ever dreamed of. A successful career, high salary, an apartment that he owned himself, but he ended up deciding that he wanted to control his own destiny. So in 1981, he had noticed this little retailer in Seattle.

[00:08:44] Clay Finck: So this little tiny retailer, the name was Starbucks, and it was buying these coffee makers in large quantities, larger quantities than Macy’s. So for one reason or another, whenever Howard was out West, I think he was in California. He decided he wanted to make a stop in Seattle as well and visit that Starbucks location.

[00:09:09] Clay Finck: And to my knowledge, he had no interest in coffee. I mean, New York City, there was no coffee culture and it just wasn’t a thing that people drank at that time. He said that when he went and saw this Starbucks location in Seattle, it was like a temple for the worship of coffee. At the time, this shop only sold whole bean coffee and was located in the Pike Place Market in Seattle.

[00:09:33] Clay Finck: So I’ll mention here, there’s no drinks being sold at this location, which is also just crazy to me. Using the machines that Howard’s company had sent them, they actually did pour a cup for Howard to savor, to just taste the coffee. And once he tasted this Starbucks coffee, he was just, blown away totally hooked on it.

[00:09:52] Clay Finck: He felt as though he had discovered a whole new continent I think back to one of my favorite movies It’s called the founder where Ray Kroc first discovers McDonald’s and he believed he had just come across the most amazing Enterprise on the planet and once he saw it, he just couldn’t get it off his mind.

[00:10:09] Clay Finck: And that’s the same way Howard felt Howard then met the two owners that started Starbucks ten years prior. Their names were Gerald Baldwin and Gordon Bowker. Howard realized just how amazing this world of high quality coffee was, and he called his girlfriend Sherry and let her know he had found where he wanted to live.

[00:10:27] Clay Finck: Of course, Seattle, Starbucks was started for the sole reason that the founders just loved coffee and they loved tea and they wanted access to the best of the best. I believe they’re big fans of Pete’s coffee, which was based in California at the time. What’s interesting though, is coffee consumption in America was actually in a decline and the big players were really competing on price and sacrificing quality.

[00:10:52] Clay Finck: So opening a shop to sell high quality coffee wasn’t exactly hopping on an emerging trend. It was very, very niche and hardly existed. Even in those early days, all the founders of Starbucks cared about was the quality of the coffee they were selling. So they did have a few stores, but in no way were they trying to go all the way across the country or try and grow their business to something amazing.

[00:11:15] Clay Finck: These people were just obsessed with high quality coffee. So while the big companies were working to make the best bang for their buck, electing for the light roast coffees, Starbucks understood that the dark roast brought out that full flavor of the coffee they really wanted to bring to customers. And Howard was just enamored with the whole idea and the whole concept.

[00:11:34] Clay Finck: And eventually he came to realize that every company must stand for something. Starbucks stood for not only quality coffee, but specifically for the dark roast flavor profile that the founders were so passionate about and then would educate their loyal customers on. The second thing Howard realized was that if you give your customers something they aren’t accustomed to that is so far superior, it can take a while for them to develop that taste for it.

[00:12:00] Clay Finck: And you can create a sense of discovery, excitement, and loyalty that will bond them with you. They might not get it right away, but as you educate them, they can really come around to appreciate it. Howard writes here, we can innovate. We can reinvent almost every aspect of the business except one.

[00:12:17] Clay Finck: Starbucks will always sell the highest quality, fresh roasted whole bean coffee. That’s our legacy. End quote. So Howard experienced the magic at Starbucks and he had decided he wanted to be a part of it. Over the next year, he spent time with Jerry bouncing countless ideas off him, developing a relationship with them, and then helping him create that vision for Starbucks.

[00:12:38] Clay Finck: Howard eventually had dinner with the third silent partner who would need convinced you had to get approval from him to allow Howard to work with Starbucks and then, you know, get a piece of the equity in the business. He had told the three owners that they really had a crown jewel on their hands and it deserved to not just be in Seattle, but also in Chicago and New York and Washington and Boston and everywhere else.

[00:13:01] Clay Finck: So when Howard went back home to New York, he got a call from Jerry and Jerry let him know that they wouldn’t be bringing him on with Starbucks. They thought that he might shake things up too much. He wasn’t a good cultural fit. Howard almost had two bigger dreams relative to these founders and philosophically they just didn’t align very well, but Howard did not accept no for an answer.

[00:13:22] Clay Finck: So he told Jerry he’s just making a terrible mistake and he actually managed to talk them into giving him a chance. So Howard let go of his successful career that paid 75, 000 and he left the prestige he had built for a massive pay cut and a small equity stake in Starbucks at this tiny store selling coffee.

[00:13:42] Clay Finck: You know, to most people, this is totally crazy. This decision Howard had to push for what he really wanted, I think speaks to his personality. He really believes in seizing opportunities and accepting responsibility for his future. Pursuing your vision for yourself, even when others don’t agree with you or try to tell you differently.

[00:14:02] Clay Finck: I think that takes a ton of courage. So off Howard and his now wife, Sherry went to Seattle to start their new life. Howard explained how when he starts something, he just becomes totally immersed in it. He writes that he spent all of his waking hours in the stores, whether that be working behind the counter, meeting the Starbucks employees, tasting different kinds of coffee, speaking with customers.

[00:14:24] Clay Finck: He just became you know, just totally immersed in this. And then one year in, in the spring of 1983, Howard found a new source of inspiration when he visited Italy. So visiting that Starbucks location for the very first time, in addition to visiting Italy, are two things that really changed everything for him.

[00:14:45] Clay Finck: So, Italy was the inspiration that led Starbucks from going from a quiet little Seattle company to national prominence. He writes that Italians embraced everything with passion. The food’s incredible, the architecture’s breathtaking. He writes, Italians treat every detail of retail and food preparation with reverence and an insistence that nothing less than the best will do.

[00:15:11] Clay Finck: So, he visited Milan and couldn’t help but notice that there were espresso bars everywhere and they’re all crowded, they’re all busy. He especially couldn’t help but notice the role of the barista. They crafted their shots of espresso and cappuccinos like it was a piece of art. And oftentimes, he greeted each customer by name since they were regulars.

[00:15:31] Clay Finck: At the time, there were 200, 000 coffee bars in Italy, and then there were 1, 500 in the city of Milan alone. The coffee bar is really an extension of the home, and it’s a part of people’s daily routine during the day. So in America, coffee bars didn’t exist. If people drank coffee, they would buy the beans by the grounds at the store, usually the grocery store, and then just made the coffee in their own home.

[00:15:55] Clay Finck: Howard writes, what we had to do was unlock the romance and mystery of coffee first hand in the coffee bars. The Italians understood the personal relationship that people could have to coffee, the social aspect. I couldn’t believe that Starbucks was in the coffee business, yet was overlooking a central element of it. End quote.

[00:16:14] Clay Finck: So, Howard realized that Starbucks could be a great experience instead of a great retail store. While in one of the coffee bars, he heard someone in front of him order a cafe latte, so he ended up ordering the same, not knowing what to expect really. He probably thought it was going to be mediocre and he loved it.

[00:16:32] Clay Finck: He thought it was just, you know, coffee and milk, but it was much more than that. It was a perfect balance between steamed milk and espresso. And then it had a hint of sweetness from the milk being steamed, made it, you know, really into the perfect drink. Then he realized he had spoken with all these coffee experts over the past year, and none of them have ever mentioned a cafe latte, and now nobody in America knows about this spectacular product.

[00:16:58] Clay Finck: So after visiting Italy, Howard knew that the coffee bar was a business that Starbucks just absolutely had to be in. It was a total no brainer. Not too long after though, Starbucks had acquired Pete’s Coffee based out of San Francisco, and it was around the same size with five stores. Starbucks went deeply into debt to make this acquisition and they had a debt to equity ratio of six to one.

[00:17:22] Clay Finck: Now this just made Howard so angry. He just hated this idea because now they were so strapped for cash and all their cash that they would produce would be going towards, you know, servicing this loan. And now they had so little flexibility. The amount of debt also led to discontent among employees as they weren’t receiving the bonuses they were accustomed to and they were not receiving what they believed was equitable compensation.

[00:17:48] Clay Finck: So all of a sudden, all this trust was lost with their employees to these were some early lessons for Howard, you know, not knowing that one day he would be the leader of Starbucks. He truly believed in taking great care of his employees and preferring the issuance of equity. If you ever need additional capital to fund an acquisition, and that’s what you would see in the early nineties.

[00:18:09] Clay Finck: And even in the IPO, he would issue equity to fund that future growth that was so successful. It took a year for Jerry to eventually come around to the idea of the espresso bar and after being fully occupied with the acquisition of Pete’s and it was Starbucks sixth store with that copy bar that was opened in the heart of downtown Seattle, Howard wasn’t given any marketing spin, no media buzz.

[00:18:33] Clay Finck: He just opened the doors. He had this tiny little space. And curious customers just happened to wander in on that first day, having no idea what they were getting into. And as far as Howard knows, that day in 1984 would be the first time a cafe latte would be served in the United States. So on day one, 400 customers placed an order, and then two months in, they were already serving 800 customers a day, while the other legacy Starbucks stores that just sold bagged coffee were doing 250 customers a day.

[00:19:05] Clay Finck: So, while Howard saw the opportunity of a lifetime, Jerry felt that it was really stepping away from Starbucks roots and he didn’t want to be in what he called the restaurant business. The two saw the world of coffee just totally differently. Howard was torn between the loyalty to Starbucks and the confidence in his vision in opening Italian style espresso bars everywhere.

[00:19:30] Clay Finck: Howard knew that this was really his shot, that he had to seize this opportunity one way or another. So since Jerry wasn’t on board with the espresso bar idea, Howard felt just really forced to go and start his own company to pursue his vision. And this was 1985. I loved this quote from Henry Wadsworth Longfellow, Howard shared a quote from him at the start of one of the chapters.

[00:19:59] Clay Finck: We judge ourselves by what we feel capable of doing, while others judge us by what we have already done. So while a lot of Howard’s friends and their family, they thought he was really just insane for moving to Seattle. He saw the opportunity of what could be in the future, and he wasn’t content with what he had accomplished up to that day.

[00:20:21] Clay Finck: Robert Woodruff had said that the world really belongs to the discontented without discontentment Howard would have never dropped a successful career to step into the unknown in the obscure world of coffee And then the same thing applies when he leaves Starbucks to go start his own company. So having the courage to do something new and step into the unknown, you know that just requires So much confidence in yourself, so much courage, and a level of discontentment that really forces one to not accept their current situation for what it is.

[00:20:56] Clay Finck: Howard was now trying to raise money for this new venture, and Jerry, to his surprise, wanted to invest 150, 000 into the new enterprise. So in doing the research to design the first coffee bar, Howard and Gordon visited 500 coffee bars in Italy, really just learning everything they could. So the name of this new coffee bar was Il Giornale.

[00:21:21] Clay Finck: I really struggle with that pronunciation. He needed to raise 400, 000 for the new enterprise to launch that first coffee bar to really show others that the concept worked in America, but Howard, he had no money and he knew next to nothing about venture capital. So he got connected with a physician who expressed interest in investing in startups and he knew who Howard was.

[00:21:44] Clay Finck: Howard explained the concept to him, how Italians drink espresso every day. He described the flair, the artistry, and how he wanted to model the Italian concept and apply it to America, starting with Seattle. So the physician was named Ron Marjolis. He decided to invest 100, 000 with Howard. Ron, he really didn’t understand the financials behind the company, but he just trusted Howard and he could really sense the honesty, sincerity.

[00:22:12] Clay Finck: And the passion behind his vision. So it would take four years before the company would start making any money. So it was really a big risk what they were doing here, just because opening these new stores was so capital intensive. It was in April of 1986 that. Howard opened his first store on his own, and at the time Howard was 32 years old, he had spent the majority of his time trying to raise another 1. 2 million dollars to open more stores, and he had plenty of experience selling, but no experience with raising capital, which he described as the roughest period of his life. He had explained how countless people were just incredibly rude. They thought the idea of a coffee bar was just ridiculous. Over the course of a year, he spoke with 242 people trying to raise money from them and then 217 of them told him no.

[00:23:05] Clay Finck: So just for reference, that’s a 90 percent failure rate. Said another way, 90 percent of the people that Howard spoke with told him that his idea was just not worth investing in. Despite that, he always believed that his idea was certainly going to work. He had honed his pitch over time, and he anticipated the questions, concerns, objections, He knew he had to get better at raising capital because that initial store wasn’t making any money starting out and he needed the capital to pay rents, pay employees.

[00:23:38] Clay Finck: And he had said that the odds of pulling it off were incredibly slim. One of the groups that Howard approached was called Capital Resource Corp. And they invested in early stage startups. The investor who did the due diligence on them wanted to make a sizable investment, but the group declined because they wanted to stick with technology startups, which were likely much more popular at that time.

[00:24:03] Clay Finck: The group wanted to find, you know, the next Apple, Intel, Microsoft that had a proprietary idea or technology, and they just saw coffee really as a commodity. Howard wrote, our company didn’t fit any of these paradigms, nor does Starbucks today. We had no lock on the world supply of fine coffee, no patent on the dark roast, no claim to the world’s cafe latte, apart from the fact that we popularized the drink in America.

[00:24:30] Clay Finck: Yeah. You could start up in a neighborhood espresso bar and compete against us tomorrow if you haven’t done so already. And then continued here, I heard all the arguments about why coffee could never be a growth industry. It was the second most widely traded commodity in the world after oil. Consumption of coffee had been falling in America since the mid 1960s, as soft drinks surpassed it as the country’s favorite beverage.

[00:24:56] Clay Finck: And this is a good reminder that sometimes conventional wisdom and the models that were applied in the past may not apply to a new idea that is really shaking things up, especially when you have an extremely passionate entrepreneur sort of driving this trend. I’m reminded of Chris Mayer talking about labels and how we can throw a label on something and tell ourselves that an idea just simply won’t work.

[00:25:20] Clay Finck: Sometimes the best investments requires a new lens or maybe a new way of thinking about or viewing the world. And that’s not to really fault those that turned Howard down. He was really trying to totally recreate the way some people viewed and consumed coffee, something that just wasn’t being done in America at the time.

[00:25:43] Clay Finck: Coffee was a commodity that Howard really wanted to reinvent and weave a sense of elegance and community around it. He wanted to enchant customers with an atmosphere of sophistication and style and knowledge. He had compared Starbucks to Nike. Sneakers were also his commodity that were generally not very good.

[00:26:03] Clay Finck: Then came along Nike to create a world class running shoe that was associated with top athletic performance. Although Capital Resource Corp had turned down Howard, a number of the investors that worked within the company personally put money behind them on their own. They didn’t let that conventional business wisdom or a common way of doing things stop them from taking advantage of the opportunity and the potential they saw in Howard.

[00:26:29] Clay Finck: Howard was starting to run out of 1986, and he really needed to raise more capital soon to fund that second store opening. He had met with three of Seattle’s most prominent business leaders who oftentimes would get in on deals together, and the pitch was a home run. Howard ended up raising 750, 000 from them, hitting his initial goal of just over 1 million in funding to get those initial stores going.

[00:26:58] Clay Finck: Howard writes that if you ask any of those initial investors why they took the risk to invest with him He said that almost all of them will tell you that they invested in Howard himself and not the idea. One key addition to the team early on was Dave Olson Dave was extremely passionate about coffee, and he didn’t need convincing for the power of the coffee bar experience.

[00:27:22] Clay Finck: He considered opening his own coffee bar in downtown Seattle, but he decided that he would rather work with Howard. Dave Olson agreed to work for a small salary of 12, 000 and he would be rewarded with equity that would eventually be worth, you know, crazy amounts of money down the road. Howard and Dave, they just really made a good team.

[00:27:44] Clay Finck: Dave had this intense passion for coffee and he grew up in a small town in Montana and it seemed that he was fine not being the head honcho and being the center of attention. He was just Love being immersed in his passion. Howard speaks very highly of Dave Olson in the book, and he would eventually become the senior vice president at Starbucks later down the road after a lot of early mistakes and adapting the coffee bar concepts to the American lifestyle.

[00:28:14] Clay Finck: The first store was serving more than 1, 000 customers per day. One thing they came to realize was the importance of speed. Many customers, you know, they were walking the streets and they were in a hurry to get to their job or whatnot in this busy area in downtown Seattle. They had opened three stores by mid 1987.

[00:28:34] Clay Finck: That was around one year in. And Il Giornale was already doing $500,000 in annualized revenue for each store. So they had three stores that’s a $1.5 million run rate. In early 1987, the Starbucks stores were having issues. So remember Howard was outside of Starbucks at this time. Gordon wanted to cash out of his position and take a break from the coffee business.

[00:29:00] Clay Finck: Jerry wanted to concentrate on the Pete’s assets. And as soon as Howard heard about these issues at Starbucks, he knew he had to go and try and buy them. His own company didn’t have a roastery, but the problem was that Starbucks was a bigger company than his own at the time. So Howard gave everything he had to get that initial million and now he needed to find another 4 million to try and purchase Starbucks.

[00:29:25] Clay Finck: Within weeks, he was actually able to raise the money from existing investors who had seen the success of the first three stores in the level of execution that they had achieved already. So in August of 1987, Howard purchased Starbucks, the brand he fell in love with back in 1981. And then in 1987, he changed the name of his company to Starbucks corporation.

[00:29:49] Clay Finck: And then Jerry and Gordon kept the assets under Pete’s, which is a brand I believe I still see on the grocery shelves today. So one issue that Howard quickly realized while he was away from Starbucks for around 20 months was that there was some division in the company and the culture. The culture was really damaged.

[00:30:07] Clay Finck: Essentially, many people were unhappy with the way the company was being managed. So Howard really came to this realization that you can have the best business plan in the world, but it doesn’t matter if you don’t have the right people on board that are on board with that vision as well. So after many employees had lost trust with the previous management, Howard had to spend the time and energy to really regain that trust with employees, to let them know that their efforts would be recognized and would be valued with the future success of Starbucks.

[00:30:39] Clay Finck: He writes, the only way to win the confidence of Starbucks employees was to be honest with them, to share my plans and excitement with them and then follow through and keep my word delivering exactly what I promised. If not more, no one would follow me until I showed them with my own actions that my promises were not empty end quote.

[00:31:00] Clay Finck: So there’s an early indication that he really wanted to lead by example within the organization. He had promised investors that they would open 125 new stores within the next five years. And they had no one on the management team with any experience that would suggest that this is even remotely possible.

[00:31:21] Clay Finck: Howard would hire Lawrence Maltz, who invested in Starbucks and joined the company in late 1987. And he brought 20 years of valuable business experience to the firm. He had served as the president of a public beverage company for eight years prior to that. So in reading this book, I really believe that one of the enduring competitive advantages that Howard built within Starbucks was creating a great culture and really, really taking care of his people.

[00:31:48] Clay Finck: When you listen to a number of interviews that Howard’s done, he talks a lot about empowering his employees. And he also covers this in the book, pour your heart into it. He believed in taking care of his people, inspiring them, sharing the rewards with those who really create the longterm shareholder value.

[00:32:07] Clay Finck: Employees are not only the heart and soul of the organization, but they’re also the face of it. Every single dollar that passed through Starbucks, you know, started with passing through an employee’s hands. And the customer experience is absolutely vital. If you have one bad encounter, then you may have just lost a customer for life.

[00:32:26] Clay Finck: Howard sought to create an employer of choice at Starbucks, so they offered to pay a young worker an amount that they really couldn’t get elsewhere in paying them more than certainly the restaurants and retail stores in the area. So in late 1988, Starbucks expanded their benefits package to include full healthcare benefits for all part time employees.

[00:32:46] Clay Finck: And to his knowledge, Starbucks was the only private company to do this and eventually would be the only public company as well. Instead of viewing this as a cost line item, Howard viewed it as an investment. Retailers and fast food chains had turnover of anywhere between 150 percent and 400 percent per year.

[00:33:04] Clay Finck: And turnover at Starbucks at the barista level was around 60%. For store managers, Starbucks had half the rate of turnover. This meant that they spent less on needing to hire and train employees than most other companies. As the Starbucks engine gained steam, more people hopped on board with the vision and the initial doubts of some of those early employees began to fade away.

[00:33:27] Clay Finck: So it’s sort of this flywheel of having that great culture. This was a key factor in not only opening 125 profitable stores, but creating a brand name that people just see as high quality coffee in a well run operation. So starting from the original 11 stores, Starbucks went on to open 150 stores over the next five years, exceeding Howard’s initial promise of 125.

[00:33:54] Clay Finck: As I’ve heard from a number of successful entrepreneurs I’ve spoken with, what keeps them going is fear. For Howard, the fear was that big packaged companies with substantially more capital would open similar stores and then just surround the Starbucks locations to put them out of business. These brands had a strong reputation throughout the country.

[00:34:15] Clay Finck: And as far as Howard was concerned, Starbucks was a nobody. The company’s strategy was really to win over customers by offering the best coffee, the best customer service, and also an inviting atmosphere. The initial markets they started with were Portland, Seattle, Vancouver, and then they eventually expanded to Chicago and then California.

[00:34:37] Clay Finck: After the initial doubters were proven wrong on the success of Starbucks, the doubt from other specialty coffee businesses remain. They believe that product quality would have to be sacrificed if the stores were not close to the roasteries. So their initial roasteries in Seattle and they would ship that coffee to locations outside of Seattle and they believe that that would be their downfall in quality.

[00:35:01] Clay Finck: It was in 1989 that Starbucks solved this issue by creating flavor lock bags that had sort of a vacuum packaging. And it was a one way valve that allowed carbon dioxide gases to escape without allowing harmful air or moisture to enter the bag. So this allowed Starbucks to ensure that their coffee would remain high quality thousands of miles away from the roastery.

[00:35:25] Clay Finck: And it also meant that they didn’t need to build a roastery in every city that they entered. So Starbucks massive success across many different cities led Howard to question why had it been so successful? What were people responding to? Why did Starbucks and similar cafes strike a chord in so many disparate places?

[00:35:44] Clay Finck: What need are they really fulfilling? Why are customers willing to wait in such long lines, and why do many linger afterward even with a to go cup in their hands? At first he thought it’s because the coffee is just so great, but he had a theory that Starbucks had become a third place that allowed people a 5 or 10 minute break from their daily routine.

[00:36:04] Clay Finck: Given the smell of the coffee shop and the great tasting coffee, he described it as a taste of romance. He writes, Where else can you go to get a whiff of Kenya or Costa Rica? Where else can you get a taste of Verona or Milan? Just having the chance to order a drink as exotic as an espresso macchiato adds a spark of romance to an otherwise unremarkable day.

[00:36:25] Clay Finck: And I just thought that was sort of a funny line there. Then he explains how it’s an affordable luxury as you’ll find policemen, utility workers, lots of different types of people in the coffee shops. It’s an oasis where baristas give you a smile, serve you quickly, and don’t harass you so you can have a small escape during the day.

[00:36:44] Clay Finck: It’s a casual social interaction to meet with a friend or soak in the social environment. And it’s interesting, despite less than 10 percent of customers speaking to anyone outside of the cashier, Starbucks felt like a very social setting to step away from the familiar faces at work. Ray Oldenburg outlined the need for an informal third place for people to get away from their work.

[00:37:06] Clay Finck: And get away from their home and put aside the stresses of their days. Oldenburg explains that without such places, the urban area fails to nourish the kinds of relationships and the diversity of human contact that are the essence of the city. Deprived of these settings, people remain lonely within their crowds.

[00:37:25] Clay Finck: However, Starbucks isn’t necessarily a place to meet people. If none of the customers are speaking with each other, and there oftentimes isn’t a lot of seating in the stores, but. Americans still hunger for that sense of community. Some people even today who work remotely often stop at a coffee shop as a comfortable and somewhat quiet place to work, which I myself sometimes find myself doing if I need to stop by somewhere for a couple hours to do some work between various things I do.

[00:37:51] Clay Finck: Howard writes, People didn’t know they needed a safe, comfortable neighborhood gathering place. They didn’t know they would like Italian espresso drinks, but when we gave it to them, the fervor of their response overwhelmed us. That’s why our expansion, as gutsy as it was, succeeded even better than we imagined.

[00:38:10] Clay Finck: So the minute someone walks into a Starbucks store, customers really form an impression of the brand. The store layout and the stylish and enriching environment is part of what made the Starbucks brand. Howard cared about everything in the store, the smell, the aroma, the artwork, the music, the seating available, how the employees engage with customers.

[00:38:30] Clay Finck: He cared about literally everything. So earlier I spoke a bit about Howard’s focus on employees. In 1990, Howard was pleased that the company was going to have their first profitable year and he wanted to figure out the best way for employees to benefit from the success of Starbucks. Ideally, he’d like to link the creation of shareholder value with the rewards that the employees would receive.

[00:38:53] Clay Finck: So as a private company, they started to grant stock options to every employee company wide from the top managers down to the baristas in proportion to their base compensation. He figured that if Starbucks someday went public, then those would pay off handsomely, which of course he was right on. So he had given everyone the opportunity to contribute to the company through their work and then receive a direct benefit in the value of the shares down the road.

[00:39:19] Clay Finck: To the best of Howard’s knowledge, no other company had put together such an ambitious and widespread stock option plan, which was given to over 700 employees when they were still private. This plan was rolled out in late 1991, and then from then on, instead of referring to their people as employees, he referred to them as partners, as they all had a shared ownership in the company.

[00:39:41] Clay Finck: The level of ownership, it started out at a 12 percent of base pay. It’d be paid out every year. So if an employee say they earned 20, 000, they would get 2, 400 in stock options. And then they’re really good financial results allowed them to increase this to 14 percent instead of 12. You know, again, this was paid out every year and as the value of the company grew each year, these stock options would grow in tandem and to help illustrate the power of this plan and how it worked out for employees.

[00:40:09] Clay Finck: The value of the equity increased by 22 times from late 1991 to the fall of 1996. So in this example I gave, let’s say someone got 2, 400 worth of stock options in 1991 by late 1996, this would have been worth over 50, 000, you know, again, a 22 X increase. So he was a big believer that having employees who are passionate and devoted to the company would be Starbucks number one competitive advantage.

[00:40:39] Clay Finck: That passion could be fostered with ownership, trust, and loyalty. During Starbucks early and rapid growth phase, Howard had reached out to Jeff Brotman for his advice and mentorship. Brotman was 11 years older than Howard, and he was the co founder of Costco. In 1989, Brotman had joined the board of directors and he helped ease the board’s concerns around the sustainability of the business model because in those early years, Starbucks was raising millions of dollars in capital and equity oftentimes, and they were reporting substantial losses before turning profitable in 1990.

[00:41:15] Clay Finck: Howard did a good job of really surrounding himself with the right people, including Brotman, and also attracting the right managers who had experience in doing what he wanted to do. For example, in 1989, he hired Howard Behar, who had 25 years of previous experience in opening and running multiple stores at once.

[00:41:34] Clay Finck: In 1990, he hired Oren Smith as the CEO, who had experience managing a far larger and far more complex organization. Both were older, they saw the potential in Starbucks, and they really bought into the vision. Oren Smith helped create, you know, more discipline and more processes within the organization with that, which at the time was very entrepreneurial, kind of did things on the fly.

[00:41:57] Clay Finck: Starbucks needed both that visionary side that Howard brought in that professional side that he surrounded himself with to show that the company was mature and could grow in a thoughtful manner and had those systems and processes in place. Howard has a chapter here on the value of dogmatism and flexibility that I really liked.

[00:42:16] Clay Finck: He believes that every business must stand for something, and he recognized that good retailers went out of their way to please customers, but you have to draw the line somewhere on what you say yes to and what you refuse to do. So while other brands really went the franchising route and allowed them to grow really, really fast, Starbucks insisted on having the company owned stores to keep, you know, the fate in their own hands.

[00:42:41] Clay Finck: Jack Rogers, who was the senior vice president, was one of the early franchisees for McDonald’s. And he had told Howard all about the opportunity, how, you know, they could grow really quickly and, you know, do it in a sustainable way through franchising. But Howard just refused to go that route to ensure that he had control over the quality of the experience.

[00:43:03] Clay Finck: So here’s an example here of Howard being flexible in the way he does business. So initially he was pretty adamant on only using whole milk in Starbucks drinks and not allowing for nonfat 2 percent or skim milk. And he had seen customers walk up, order a drink with nonfat milk, which they didn’t have.

[00:43:22] Clay Finck: And then they just walk out and go to a place across the street that offered it. And he says that a lost customer is the most powerful argument you can make to a retailer. It goes to the point that you shouldn’t be telling a customer what drink is right for them. Let them choose the drink they want to have.

[00:43:39] Clay Finck: You know, as long as it doesn’t include low quality coffee, then that’s absolutely fine in Howard’s book. Early on, it’s easy to set a high bar in terms of standards when it’s just you as the owner and you have very few influences, maybe just a handful of employees. But when you take on investors and you get a board and you have so many people relying on the performance of the company, it really becomes harder and harder to keep those standards is so easy to just tow a little bit closer to the line or just bring down the quality just a little bit.

[00:44:11] Clay Finck: Another concession they made was opening up in airports, for example, which they knew would make for a really great business. Airports were a hard environment for Starbucks to operate in. Oftentimes you couldn’t get as good of employees. The lines were really long. The prices were higher. The service was sometimes slow and unfriendly.

[00:44:29] Clay Finck: And you know, that’s one example where they made a compromise to continue the expansion of their business, but hopefully not hurt the brand too much in doing so. So next we’re going to transition here to the phase of Starbucks going public. He writes a bit here about the investment in banking industry.

[00:44:47] Clay Finck: He really vetted each of them really well, and he ultimately found one that understood how special of a company Starbucks was and the vision he was working towards. It was a hard sell for the investment bankers because a lot of these guys were from New York City and, you know, coffee just wasn’t popular there.

[00:45:06] Clay Finck: So it was sort of a foreign concept. So he really wanted to find someone that just really understood what they were doing and what they were creating. So Starbucks went public on June 26, 1992 on the NASDAQ exchange, making him the first ever coffee company to go public. The initial IPO price was $17 a share, and this was trading at 60 times previous year’s Earnings, the stock on the first day jumps up to $21 and Starbucks raised $29 million in equity in the IPO, and then in just three months, the stock had risen to $33 a share, making the company worth $420 million.

[00:45:44] Clay Finck: Howard talks about how Starbucks’s stock always traded at a high PE multiple. Despite the stock being a ripe target for Wall Street pundits who wanted to write short reports, this talk is up by over 240 times since the day of the IPO. Wall Street liked to look at the comps that Starbucks released, which would compare their sales of the existing stores to the prior year.

[00:46:09] Clay Finck: And this can be a distorted figure, because when one store is really successful, They oftentimes release a store down the street or a store nearby, and then that new store would steal share from the first existing store, and it really points to this need to, you can’t just look at the reported numbers and come to a quick conclusion.

[00:46:28] Clay Finck: You really need to understand the business and what’s happening with their growth. Howard quickly realized that he needed to detach his view of the company from the stock price. For example, in December of 1995, the stock reached a record high. And then they reported disappointing comps and a 5 million shortfall in their sales.

[00:46:50] Clay Finck: The company’s market value declined by 300 million total. And people started to ask Howard why Starbucks was doing so poorly. And Howard would just shake his head because the company was actually doing really well. You know, sales were at a record high. They were up by nearly 50 percent in one year. And then three months later, of course, the stock rebounds and hits new highs.

[00:47:13] Clay Finck: Once wall street likes the comps that they were releasing again. After going public, Starbucks exceeded their internal growth targets each year. They had more than 50 new store openings in 1992 than a hundred store openings in 1993. And it’s no secret that coffee shops at this point were going to grow enormously over the coming 10 years.

[00:47:34] Clay Finck: Since Starbucks hadn’t yet expanded to the East Coast, they decided that the best way to get a strong footprint would be to buy a competitor. So in June of 1994, they purchased the Coffee Connection for 23 million in stock. They had 25 stores and they also had ambitious plans to expand. During 1994 and 1995, Howard had said that opening new stores was going as smooth as pouring shots of espresso.

[00:48:01] Clay Finck: During 1994, they were ready to expand their business outside of the walls of their own store. So this gets into some of the other aspects of their business. So they invented the Frappuccino and they did a joint venture with Pepsi. And when I hear Frappuccino, I just think of a drink that’s full of sugar, terrible for you.

[00:48:18] Clay Finck: But I had to look up how it’s made. It’s of course it has coffee, milk, it’s sweetened up to taste delicious. And then it’s also topped with whipped cream. Starbucks had seen the success of similar drinks at other locations, and initially there are a bunch of cases in this story where Howard just sort of hates an idea, but then sometimes he sees the success of it and, you know, they develop the product, make it better, and then he eventually comes to like it.

[00:48:47] Clay Finck: So he hated the taste of the beverage initially. And it used a powder base, but customers really wanted this type of drink. So they developed the product, they tested it in the stores and it ended up being amazingly popular. So Howard thought the release version of the drink was actually great after they worked on developing it.

[00:49:07] Clay Finck: So the Frappuccino was rolled out in all stores in 1994. And then in fiscal year 1996, Starbucks sold 52 million worth of them, which represented 7 percent of sales. And then business week also named it one of the best products of the year in light of this amazing growth Howard found himself too busy with the day to day operation So we decided to take a step back and focus his attention on the vision of Starbucks Really looking to the future and experimenting with new and creative ideas so Oren Smith helped with that transition and took the title of president and CEO and Well, Howard was the chairman and CEO.

[00:49:48] Clay Finck: Sometimes when the leader is so immersed in the day to day operations, they can become sideswiped by competition or maybe just take their eyes off the road of the direction the company is heading over the longterm. It’s as if, you know, the ship is starting to get so large and he needs to be sure that that ship is being steered in the right direction and foresee any competitive threats coming their way.

[00:50:13] Clay Finck: So I had mentioned the collaboration with Pepsi on the Frappuccino. Pepsi doesn’t seem like a natural fit for Starbucks to work with, you know, they’re a large company worth tens of billions of dollars, which one would think is largely bureaucratic. But to Howard’s surprise, When he met Craig Weatherup, who was one of their presidents, he was very personable and genuine.

[00:50:35] Clay Finck: So he, he thought he’d be a good person to work with. The power in working with Pepsi was really the tremendous distribution power in getting brands on the retail shelves globally. So in 1991, Japan had been consuming these popular cold ready to drink coffee based beverages. And they were spending a total of 8 billion a year on these types of drinks.

[00:50:57] Clay Finck: So if Starbucks were to go this route in the U S Pepsi was absolutely the perfect partner to make that happen. So Starbucks and Pepsi, they negotiated a 50, 50 joint venture in 1994, which meant now Starbucks had entered the field of selling products under their brand name, but the product wouldn’t be sold in Starbucks stores directly.

[00:51:18] Clay Finck: So the product is sold by somebody else, essentially. After testing out a few of these products on the shelves, the Frappuccino was a surprise hit that attracted tens of thousands of customers who weren’t normally coffee drinkers. So it ended up being a big win for Starbucks. And then they were selling 10 times the amount that they originally anticipated.

[00:51:39] Clay Finck: So they invested millions of dollars to build three bottling facilities just for this one product, which would make their largest single investment to date. And this product release is interesting because if they wanted to, Starbucks could have just kept doing what they’ve always done. Focus on the stores, reinvest in the core product.

[00:51:57] Clay Finck: But Howard believes that Starbucks needed to continue to reinvent itself if they were going to continue to remain successful. And I just think most people are not wired like that. When things are going well. I think a lot of people just don’t see a need to change the formula, which is also understandable to some degree, but only so many people have the capability and the vision to build a company like Starbucks.

[00:52:22] Clay Finck: So the way Howard sees it, the world’s always changing. Every year, customers needs change, their tastes change, and competition gets more and more intense. So Howard explains that nothing can stay the same forever, whether it’s in business or in life. You know, counting on the status quo can only lead to grief.

[00:52:40] Clay Finck: There’s a chapter here on how Starbucks reacted to the price spike of coffee in 1994. There had been a massive shortfall of production of coffee in Brazil, which led to coffee prices soaring and this was bad news for Starbucks as they were already paying more for coffee than most of their competitors since they were buying at the premium end of the market.

[00:53:00] Clay Finck: They ended up weathering through just fine, but I liked how they didn’t opt for the easy solutions. You know, the easy solution would have been to just raise their prices or, you know, use a lower quality alternative in the short run. This would have been a really easy fix. But over the long run, Howard knew that this would really diminish the Starbucks brand and make them, you know, not much different than a host of competitors.

[00:53:25] Clay Finck: And then, you know, the additional downstream effects are that your best people are going to leave because Starbucks, you know, lost what made it unique and authentic and then morale within the company would fall and then that edge would be lost. So it’s sort of this unforeseen consequences that I think a lot of people overlook.

[00:53:42] Clay Finck: So Howard saw this as a price that really couldn’t be paid in dealing with a crisis like this. And this is part of what made Starbucks such a great brand. Starbucks is a company that didn’t really need to spend much on marketing because whatever market they ended up opening in, it just turned out to be a big success and they didn’t need to market.

[00:54:01] Clay Finck: Customers would just flock to the store from day one. So with that said, they did have a unique strategy in launching in each city and then working with local firms that would help them cater to that particular market. So Howard explained how they never set out to build a great brand. They sought to build a great company and a great company is one that stood for something, one that valued the authenticity of its product and the passion of its people.

[00:54:29] Clay Finck: Starbucks people served as their brand ambassadors, which reminds me of the Lululemon episode Kyle Grieve and I recorded back on episode 627. When your employees have a personal attachment to the product and a personal attachment to the brand, and they have that connection with the brand that’s authentic, then they’re able to effectively communicate that feeling and that connection to the customers, and then customers can then sense if it’s real or not.

[00:54:57] Clay Finck: So it was really critical that as Starbucks expanded, they were able to effectively train employees and get them bought into what Starbucks was all about. You know, this is much easier said than done. It’s one thing to motivate employees within one store. You know, you control who’s hired much easier process, but it’s a whole different ball game.

[00:55:16] Clay Finck: When you’re hiring hundreds of baristas a month, Howard believed that giving employees those stock options was the best step that they could take to help keep the company personal and caring. People, I think, tend to feel that sense of connection when they have a vested interest in the success of what they’re doing.

[00:55:34] Clay Finck: He claims to also have tried to keep wages higher than the industry average and offer good benefits. And I’m not necessarily sure how true this is today. I know Starbucks is again, facing headwinds as they have many times in their history. So he outlines the three critical ingredients to building the great brand that Starbucks had.

[00:55:52] Clay Finck: So the first was the coffee. Second is the people. And third is the experience in the stores. And it’s sort of amazing what they did because most great brands in America are really driven by marketing. So from 1987 to 1998, Starbucks spent less than 10 million on advertising. That’s not to say they didn’t believe in advertising.

[00:56:14] Clay Finck: They just really believed more in investing in the product and investing in their people. And Starbucks, they created their own category. Most coffee in the U. S. was purchased in supermarkets and, you know, supermarkets are non verbal, they’re impersonal. And in a Starbucks store, you encountered real people who were informed and excited about the product.

[00:56:37] Clay Finck: You’re much more likely to remember the brand if there’s really passionate people behind it. And, you know, you can sort of put a face on it too when you’re interacting with a barista. Since the average sale at Starbucks was only 3. 50, They really needed repeat recurring customers. On average, Starbucks customers visited their stores 18 times a month.

[00:57:02] Clay Finck: In 1995, Howard got another all star hire in Scott Bedbury. He was the head of marketing. Scott had been a Nike’s director of advertising from 87 to 94, and he was only 37 years old. So Scott was just amazed. It’s that Starbucks was not only a great brand, but there were a number of things. They were an importer of products.

[00:57:25] Clay Finck: They were a manufacturer, they were a retailer, they were a wholesaler, and then they also had a direct mail business, which I don’t think I’ve mentioned. He had never heard of a company doing all five of these things and surviving. Similar to Nike, Starbucks had entered a low margin commodity industry.

[00:57:42] Clay Finck: And transformed it into a product that’s really a cultural symbol. They had to play this delicate balance of being a successful corporate giant while at the same time, coming across as a personal and authentic brand that interacts with their customers. And every single time they enter a store, Howard was just hell bent on assuring that Starbucks wouldn’t become another soulless chain that was impersonal.

[00:58:10] Clay Finck: You know, think about a Walmart, for example. Given the value of the Starbucks brand, many companies wanted to partner with them, obviously, which is a very good position to be in. And Howard thought really critically about which partners they should end up taking on, because each partner you take on, you sort of take on this inherent risk of preserving the brand’s integrity.

[00:58:33] Clay Finck: For example, if Starbucks starts being served on flights, for example, then you need to ensure that the experience and the product quality isn’t sacrificed in exchange for higher sales, higher profits in the short term. And as a result, they only wanted to partner with companies that really had a strong brand recognition and they had a good reputation in their field.

[00:58:52] Clay Finck: And I think Barnes and Noble is a really good example of this, of many. As Starbucks kept expanding, they received some pushback from local communities. Some feared that Starbucks would push out local competitors and just steal their business, or simply have the ability to pay a higher rent than the local shops that can’t afford the most popular areas of the city.

[00:59:14] Clay Finck: So, other people feared that their town would sort of become homogenized like other cities and they would lose what made them unique. But I think there’s a difference between somebody like a Starbucks entering your local town and somebody like a Walmart. Walmart, you know, has massive economies of scale and they’re generally undercutting their competition on price.

[00:59:34] Clay Finck: Starbucks, on the other hand, is often charging a higher price for a higher quality product. Howard would argue that they’re expanding the market of coffee. So by entering a local area, they’re actually getting more people interested in that specialty coffee. So the pie’s expanding for all coffee bars to benefit.

[00:59:53] Clay Finck: And many people tend to have this sort of negative connotation with big businesses entering small local areas. But I think when a lot of people, when they saw the Starbucks stores early on, they were like just blown away by how well run they were, how clean and efficient they were. So it, it didn’t seem like a big soulless business when they came across a Starbucks in the nineties.

[01:00:15] Clay Finck: Howard believed that Starbucks really enhanced the coffee category so that other players would actually benefit from their existence. Because Starbucks is such a big and important player, some competitors have actually openly admitted to waiting for Starbucks to enter a market to educate the consumer base before the competitor enters that market across the street or in the same area to capture market share.

[01:00:41] Clay Finck: And Howard doesn’t seem to have, you know, this predatory line of thinking and dominating these markets. He wants to enter markets that welcome Starbucks with open arms. Howard has a chapter here towards the end on how he avoids being a cookie cutter chain. The last thing he wanted was to be compared to someone like Walmart or McDonald’s.

[01:01:01] Clay Finck: And I think these concepts can carry over for many of us in our own lives. He has a quote here at the beginning of the chapter, art is an adventure into the unknown world, which can be explored only by those willing to take risks. That’s by Mark Rothko. In this capitalistic world, it can be tempting to make things almost too robotic and lack that creative aspect.

[01:01:23] Clay Finck: In the case of Starbucks, they can try and make each store the same, or they can try and customize the stores to some degree to really appeal to specific markets, specific Flexibility was also an important attribute that Howard had learned over the years. For example, when Starbucks started, they sold zero cold drinks today here in 2024, 70 percent of their sales come from cold beverages.

[01:01:48] Clay Finck: If you aren’t flexible and aren’t open minded towards new ideas, you’re likely letting incredible opportunities pass you by. He writes here, I would never allow Starbucks to sacrifice or downgrade its elegance and style for the sake of growth. In fact, we’ve been quietly heading in the opposite direction.

[01:02:06] Clay Finck: As we grow bigger, we can afford to invest in the creative, innovative design that pushes the envelope. That’s how we’ll maintain the edge of surprise and delight that has always been a hallmark of the Starbucks experience. I’ve always loved the design aspect of Starbucks. I consider graphics and store design to be a differentiating factor, a way to show our customers that Starbucks is one step ahead.

[01:02:30] Clay Finck: Many of our customers are sophisticated and discriminating, and they expect us to do everything with taste. Not only our coffee preparation, but also the aesthetic design of our stores and packaging. When they come into our stores, they’re after an affordable luxury. And if the setting doesn’t feel luxurious, why come back?

[01:02:49] Clay Finck: It’s a good reminder in business that you can’t just have a great product and expect it to sell well. In the case of Starbucks, selling just great coffee is not enough. For Howard, everything matters. When someone buys from Starbucks, he really wants them to feel that, you know, they’re participating in affordable luxury.

[01:03:09] Clay Finck: When designing the stores in the early days, Howard had made the gutsy decision to hire his own architects and his own designers to design the stores to ensure that they were unique and they were aligned with the Starbucks brand image. So the first 100 stores were designed by hand, in house, and they were actually approved by Howard himself.

[01:03:31] Clay Finck: Now, eventually when you’re opening thousands of stores per year, there’s sort of limits on the level of customization they could do, but to stay ahead of the curve, Howard really believed in investing in creativity to the point that David Fagan and I were talking about a couple of weeks ago, back on episode six 39, you can’t rest on your laurels and you need to keep taking new risks and figuring out new and better ways of doing things.

[01:03:57] Clay Finck: The 1995 holiday season was well below the company’s expectations, and it’s easy as a leader to sort of display this false sense of confidence that just everything’s gonna be okay. But Howard, he approached it in a way where he would communicate his worries openly about the company. You know, what it means for the employees if things continue to go wrong, and what it means for Starbucks is future and so on.

[01:04:21] Clay Finck: So he sort of just lays it all out there and I think that helps build a lot of trust with the people you work with. So we talk about what would happen if things continue to go wrong and what that would mean for the company and their employees. So he reminded them that success is not an entitlement.

[01:04:39] Clay Finck: And the future of a company isn’t determined solely based on what they did in the past. That future success must always be earned. What was really happening during that time was a slower economy and a flood of retailers entering the market, making it more difficult for them to compete. And at a high level, Starbucks was executing really well, but just because they weren’t hitting these short term targets.

[01:05:04] Clay Finck: Wall Street punished them and the share price fell in the years that followed Starbucks is growth and execution was really flawless. And the stock headed much, much higher in the years that followed, at least until the great financial crisis. And then the final chapter here is titled lead with your heart.

[01:05:20] Clay Finck: And here he talks about how he envisioned Starbucks to grow for much, much longer than the 25 years that they existed at the time. He was excited about the future given that the average adult consumption of coffee was two cups per day, but the quality of the coffee tended to be really bad. Looking at Starbucks’s revenue here in fiscal year 1996, it was just under 700 million.

[01:05:44] Clay Finck: In fiscal year 2023, they produced just shy of 36 billion in revenue. That’s a 51 X increase or a 15. 7 percent compounded annual growth rate over a 27 year time period. When looking at the store counts, they had a thousand stores in 1996. Today, they have over 38, 000. I have an excerpt here from Howard that I want to read here, but our plans go far beyond the numbers.

[01:06:10] Clay Finck: The underlying foundation of this company is not about growth. It’s about the passionate soulful connection we have with our people, our customers, and our shareholders. No matter how many avenues Starbucks pursues, and no matter how much we grow, our fundamental core values and purpose will not change. I want Starbucks to be admired not only for what we have achieved, but for how we have achieved it.

[01:06:34] Clay Finck: I believe we can defy conventional wisdom by maintaining our passion, style, entrepreneurial drive and personal connection even as we become a global company. It’s imperative that Starbucks people at all levels share in the success of the company in terms of both pride and financial rewards, and if by our conduct and principles we can inspire individuals and leaders of other companies to aim higher, that would be cause for rejoicing.

[01:07:02] Clay Finck: So, you know, Howard is not driven solely by profits, sales, number of stores, or hitting these arbitrary Wall Street targets. For him, he pours his heart into pursuing a dream others think you can’t achieve. In giving back to the people he surrounded himself with, his employees, his customers, his communities, he references Jim Collins’s framework of having a big, hairy, audacious goal.

[01:07:28] Clay Finck: Howard’s ambitious goal was for Starbucks to become a great company with the most recognized and respected brand in the world. Known for inspiring and nurturing the human spirit. According to visual capitalist Starbucks today has the 15th most valuable brand and the number one brand in the food and beverage industry.

[01:07:49] Clay Finck: This sits well above Coca Cola, which is listed at number 47 and above McDonald’s, which is listed at number 39. And then Howard has another book, which I mentioned earlier, it’s titled onward. That’s a book that Preston Pysh and Stig Brodersen covered here on the show back in 2017. That was episode 144.

[01:08:07] Clay Finck: If you’re in the mood to tune into a blast from the past, I’ll be sure to get that linked in the show notes. Onward, it covers the story of how Howard returned as CEO of Starbucks to really save them from the disaster of the great financial crisis. He left the company as the CEO in 2000, and then Starbucks just really sort of strayed away from their core values, focused too much on growth and not enough on customers and efficient operations.

[01:08:32] Clay Finck: Since I discussed Starbucks during this episode, I’m reminded of William Green talking about Will Danoff in his book, Richer, Wiser, Happier. Will Danoff, he was really an all star investor from Fidelity, and he actually invested in the Starbucks IPO, and he made multiples of his money hanging onto the stock.

[01:08:51] Clay Finck: Danoff invested on this simple principle that I really like. It’s this principle that stocks follow earnings. So if you expect earnings to double, say over the next five years, then generally he would expect that the stock price is going to double as well. Of course, there are exceptions to this, but Just as a general rule.

[01:09:11] Clay Finck: So for a long time Danoff had held these really amazing businesses think businesses like Berkshire Hathaway Microsoft Alphabet Amazon Facebook He believed in owning the best of the best companies with Starbucks being another great example One of his favorite mementos and studying tens of thousands of companies Was the handwritten notes from his meeting with Howard Schultz one week before the company went public Danoff had told William Green, everything you needed to know was laid out here.

[01:09:40] Clay Finck: There was a huge opportunity. So Italy alone had 200, 000 coffee bars, Starbucks at the time had just 139 when they went public, and they were aggressively expanding to new cities. Opening a new cafe cost them 250, 000, and then that cafe’s third year, it would generate 150, 000 in profits, which equates to a 60 percent return on the original investment in that first year.

[01:10:06] Clay Finck: Danoff stated the key is that the return on each store was quite high, so the company could grow at a fast pace without needing external financing. And I think Will Danoff really invests in a pretty similar way to myself, trying to find these unusual cases where a business can grow at an above average rate for a really long period of time.

[01:10:26] Clay Finck: In two decades, Starbucks grew earnings by 27 percent per year. The stock grew by 21 percent on average. And then when you compare that to the index, the index is growing earnings and the share price is also growing at 8%. I also admire that Danoff doesn’t try to make investing more complicated than it needs to be.

[01:10:47] Clay Finck: He saw an unusually talented and passionate CEO in Howard Schultz. The business is simple to understand, and then he really just believed in the longterm. The stock price is going to follow the growth and earnings. Danoff had once said, look, I’m not that smart. And there’s a lot of information out there.

[01:11:03] Clay Finck: So when I look at a company, I just ask myself, are things getting better or getting worse? If they’re getting better, then I want to understand what’s going on. I really enjoyed doing these episodes covering, you know, the story of how these amazing brands got started. I did one on Bezos’s shareholder letters earlier, and I’ve covered Amazon prior.

[01:11:23] Clay Finck: Earlier this year, I did an episode on Kopar and how Willis Johnson built them. It’s another amazing compounder of the last 30 or so years. All right. So that wraps up today’s episode covering Starbucks and Howard Schultz. Thanks a lot for tuning in. And I hope to see you all again next week.

[01:11:39] Outro: Thank you for listening to TIP. Make sure to follow We Study Billionaires on your favorite podcast app and never miss out on episodes. To access our show notes, transcripts, or courses, go to theinvestorspodcast.com. This show is for entertainment purposes only. Before making any decision, consult a professional. This show is copyrighted by The Investor’s Podcast Network. Written permission must be granted before syndication or rebroadcasting.

HELP US OUT!

Help us reach new listeners by leaving us a rating and review on Apple Podcasts! It takes less than 30 seconds, and really helps our show grow, which allows us to bring on even better guests for you all! Thank you – we really appreciate it!

BOOKS AND RESOURCES

NEW TO THE SHOW?

SPONSORS

Support our free podcast by supporting our sponsors:

Disclosure: The Investor’s Podcast Network is an Amazon Associate. We may earn commission from qualifying purchases made through our affiliate links.

CONNECT WITH CLAY

PROMOTIONS

Check out our latest offer for all The Investor’s Podcast Network listeners!

WSB Promotions

We Study Markets