Nespresso and the U.S. Market

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NESPRESSO AND THE U.S. MARKET

Edward Boon, Colin Campbell and Leyland Pitt wrote this case solely to provide material for class discussion. The authors do not intend to illustrate either effective or ineffective handling of a managerial situation. The authors may have disguised certain names and other identifying information to protect confidentiality.

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You shouldn’t force things. It’s very easy to go out and sell machines, but we don’t sell machines, we sell coffee. [If] you have big sales of machines, people buy coffee at the beginning and then they taste it once or twice and then they stop. That’s the worst thing you can do. So you should make sure the people who buy your machines are entering a pattern of ongoing coffee consumption.1

Jean-Marc Duvoisin, CEO Nestlé Nespresso S.A., 2013

At the beginning of 2012, as they looked back at another year of steady expansion in the United States, Nespresso’s management team was confident that U.S. consumers were finally catching on to the idea of high-quality home-brewed espresso. Although the debt crisis had hit Starbucks and other coffee vendors hard, the sales of single-serve coffee had grown by 66.1 per cent in a single year.2

Yet there were reasons to be concerned. Existing competitors such as Keurig and Senseo were increasing their marketing investment, and several other companies were entering the booming home-brewing segment, including Starbucks with its Verismo line of home-brewing machines and capsules. In addition, paralleling what happened when Nespresso’s patents on its machines and capsules expired in Europe, several supermarkets were starting to sell capsules that could be used in Nespresso machines. This undermined Nespresso’s business model, which focused on developing a long-term relationship with its customers.

In previous years, Nespresso had relied on its flagship stores and partnerships with select department stores to persuade consumers of the convenience of its machines and the quality of its coffee. However, there was a risk that the continuation of this strategy would cause Nespresso to fall behind the competition as U.S. consumers were changing their coffee-drinking habits. There were two issues that needed to be addressed. First, although Nespresso had avoided TV advertising to keep investment low and maintain the brand’s luxury positioning, it was possible that the medium could no longer be avoided.

1 http://online.wsj.com/news/articles/SB10001424127887323463704578497350657159118, accessed October 27, 2013. 2 www.nytimes.com/2012/04/30/business/media/nespresso-espresso-machine-maker-plans-tv-ads-in-us.html?_r=0, accessed October 27, 2013.

This document is authorized for use only by mansour algoblan in Strategic Marketing Planning taught by YASSER MAHFOOZ, King Saud University from Feb 2021 to Jun 2021. For the exclusive use of m. algoblan, 2021.

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However, a 30-second commercial could never replicate the experience that consumers had when they entered a Nespresso boutique. Second, in order to avoid losing market share, should Nespresso expand its reach by seeking new distribution channels for its machines and capsules?

BACKGROUND

Nestlé Nespresso

Nespresso was launched in 1986 as a subsidiary of Nestlé Business Group, the Swiss food giant known for brands such as Perrier, Maggi, Felix and of course Nestlé chocolate. Nestlé held a dominant position in the 1970s and 1980s with its coffee brand Nescafe and launched Nespresso to target the premium coffee segment.

Henk Kwakman, Nespresso’s former CEO, described the brand as “the Armani of coffee.” When he took over in 1997, he recruited a management team from luxury houses such as LVMH (Luis Vuitton, Moët and Hennessey) and Richemont (best known for Cartier and Mont Blanc).3 He moved advertising from TV to print and started a program that offered Nespresso to first-class airline passengers. Research showed that consumers were more likely to buy a machine after they had tested it, so Nespresso began asking retailers to give them 200 square feet for in-store demonstrations. The first department store to accept was the famous Galeries Lafayette in Paris; sales increased from 50 machines per year to more than 700, and other major retail chains followed soon after.4

Following this in-store success, in 1999, Nespresso opened its first branded retail store on the Champs- Élysées in Paris. This led to a phase of heavy growth, with 35 per cent average annual growth between 2001 and 2005. In 2006, Nespresso returned to TV with commercials that featured actor George Clooney, and the boost in store trials that this generated led to another five years of better than 30 per cent annual growth (from 2006 to 2010).5

In 2012, Nespresso was Nestlé’s fastest-growing brand, representing 20 per cent of its overall growth. Nespresso’s 2011 global revenue was 3.5 billion Swiss francs (US$3.9 billion). It had 300 boutiques in major cities worldwide and sold its products in almost 60 countries. Nespresso’s online boutique had 180,000 unique visitors daily, and its Facebook page reached 1.8 million fans. Exhibit 1 shows a timeline of key moments in Nespresso’s history.

Nespresso machines were manufactured by a number of different licensees, including Krups, Turmix and Delonghi. Although there was some variation between them, they were typically well-designed and compact in size. Capsules could be inserted into the machine from the top; when the machine was activated (by pushing a single button), it punctured the capsule and pumped hot water through it under high pressure. The coffee was poured within 10 to 15 seconds, and the used capsule was collected in a small container that could be emptied periodically.

Capsules contained about five grams of ground coffee and produced either a 40 millilitre (ml) espresso shot or a 110 ml lungo (long) shot. Nespresso machines did not produce milk-based coffee, although consumers could add milk and/or sugar after the coffee was poured. In 2011, Nespresso launched the Maestria, a machine that included a steaming/frothing wand, which could be used to make cappuccino.

3 www.businessweek.com/globalbiz/content/mar2009/gb20090324_886251.htm, accessed October 27, 2013. 4 www.fastcompany.com/1781304/triggering-demand-how-coffee-maker-nespresso-turned-drips-gushers, accessed October 27, 2013. 5 Ibid.

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However, this came at the expense of convenience, as it took several minutes to steam milk and the machine required more effort to clean. The Nespresso Maestria was also more expensive — it cost approximately US$600 versus US$200 for the base model.

Brand Positioning

Nespresso positioned itself as a luxury coffee brand. It advertised in premium magazines, sponsored prestigious events such as yachting cups and the Cannes film festival and located its boutiques in fashionable areas of major cities, such as the Champs-Élysées in Paris and Union Square in San Francisco. The coffee varieties (or “grand cru”) had names such as Arpeggio, Capriccio and Rosabaya de Colombia, and the brand also regularly featured limited edition varieties. According to Nespresso CEO Duvoisin, George Clooney was the ideal spokesperson for the brand, as “[Clooney] brings a kind of humoristic distance. People see him as a real person.”6

Possibly the most important aspect of Nespresso’s brand identity was the quality of its coffee, and the company spent much of its communication efforts emphasizing that its machines brewed “the perfect cup of coffee, time after time, cup after cup.” This claim seemed to be substantiated: many airlines served Nespresso to their business and first-class passengers, and several Michelin-starred restaurants used Nespresso machines, including Heston Blumenthal’s Fat Duck in the United Kingdom and L’Arpège in France.7

Equally important for Nespresso were technology and design, sometimes eliciting comparisons to similarly design-conscious brands such as Apple.8 Its machines might be easy to operate, but its technology, which enabled Nespresso machines to brew coffee under much higher pressure than those of competitors, was protected by 1,700 patents. The machines were designed to look good on a kitchen counter, as were the shiny aluminum capsules and the various holders for them. This emphasis on design could also be found in Nespresso’s flagship boutiques, which acted as physical expressions of the brand.9 Exhibit 2 shows photographs of various design elements.

Nespresso distributed its capsules through a closed system. Capsules could only be purchased through its online shop (and at its flagship stores), and when customers made their first purchase, they automatically became members of the Nespresso Club. This program provided Nespresso with valuable feedback, and members who signed up were given access to special offers such as limited edition blends and a range of accessories such as cups, tableware and candles.

Finally, in line with its premium positioning and its Swiss heritage, Nespresso emphasized environmental protection, sustainable farming and fair trade. Seventy-five per cent of its capsules worldwide were recycled, and in Switzerland there were even special disposal containers for Nespresso capsules.

EXPANSION OF U.S. COFFEE CULTURE SKIRTS NESPRESSO

When Nespresso entered the U.S. market in 1991, Starbucks was going through a phase of rapid expansion and was changing U.S. coffee consumption. Starbucks successfully cultivated a café culture in a country that had never experienced the phenomenon. Before the 1990s, Americans at home would

6 http://online.wsj.com/news/articles/SB10001424127887323463704578497350657159118, accessed October 27, 2013. 7 www.aeonmagazine.com/being-human/julian-baggini-coffee-artisans/, accessed October 27, 2013. 8 http://pandodaily.com/2013/06/01/meet-the-apple-of-the-coffee-world-nespresso/, accessed October 27, 2013. 9 www.marketingmagazine.co.uk/article/1174921/champions-design-nespresso, accessed October 27, 2013.

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normally drink either instant or filtered coffee bought from the supermarket. They were no more adventurous outside the home, with most diners and restaurants serving only filtered coffee. Put simply, Starbucks elevated coffee from a commodity to an everyday luxury for Americans.

As Starbucks grew from six outlets in 1986 to 140 in 1992, Americans started acquiring a taste for higher quality coffee. Richard Girandot, former CEO of Nespresso, believed that Starbucks opened up the U.S. coffee market for other premium coffee brands: “I would like to say thank you to [companies such as Starbucks], who made the pedagogy of coffee taste. Now people everywhere want quality, especially in the [United States].” 10

Despite these words, Nespresso did not see such coffee brands as competitors since they did not serve the home consumption market. Frederic Levy, president of Nespresso USA, said, “We are not putting ourselves in the same category [as Starbucks and Dunkin Donuts coffee] because we are talking about drinking Nespresso at home. What we are offering is a revolution compared to before. It’s the first time that you can really have this kind of quality at home.”11

While Nespresso arguably produced the most sophisticated machines, able to produce the same 19 bars of pressure of professional machines, such adherence to quality presented some limitations. Since each Nespresso machine was, in essence, a miniature espresso machine, it could only brew espresso, and thus Nespresso pods only contained coffee. In parts of the world where consumers largely opted to drink straight espresso, this was not a problem. However, consumers in the United States tended to prefer more milk-based and sweeter beverages such as lattes and mochas. Since Nespresso only produced pods to make espresso, creating such beverages with one of their machines required some effort. While inferior in terms of quality, simpler and cheaper machines that merely heated water could be used to reinstate powdered or condensed milk, making creation of milk-based beverages more convenient for consumers. If Nespresso were to succeed in this market, convincing consumers of the difference in the quality of its espresso and fresh steamed milk was paramount.

Initially, Nespresso sold its machines only through partnerships with five department and kitchen goods stores: Williams-Sonoma, Bloomingdale’s, Macy’s, Sur La Table and Crate & Barrel. These stores were selected because they were trusted brands for U.S. consumers, and this would help position Nespresso as “the best of the best.” It was not until 2004 that Nespresso opened its first flagship store in the United States, in Upper Manhattan, New York.

Nespresso’s decision to rely on organic growth through its retail channels also meant that advertising was limited to infrequent print ads in regional editions of magazines and newspapers, including Food & Drink, Town & Country, Esquire and The Wall Street Journal.

The 2008 financial crisis had a marked effect on Americans’ taste for premium coffee. Market pioneer Starbucks experienced its first-ever slump; an 8 per cent drop in sales forced it to close more than 900 stores and to lay off thousands of employees. However, as Americans shied away from cafes, they seemed to return to home brewing, as both Nespresso and its primary competitor Keurig experienced a period of rapid growth.12

10 http://money.cnn.com/2010/09/28/news/companies/Nespresso_coffee_CEO.fortune/, accessed October 27, 2013. 11 Ibid. 12 www.businessweek.com/globalbiz/content/mar2009/gb20090324_886251.htm, accessed October 27, 2013.

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IS A FRESHLY BOOMING CAPSULE MARKET A SECOND CHANCE FOR NESPRESSO?

In 2011, the capsule coffee market in the United States saw the fourth consecutive year of double-digit growth, jumping an unprecedented 66.1 per cent.13 As demand for portioned home-brewed coffee increased, Nespresso’s existing competitors increased their investment to capture a larger share of the market. Market leader Green Mountain Coffee Roasters increased advertising expenditure for its Keurig brand and started collaborating with Italian premium coffee maker Luigi Lavazza. At the same time, Mars increased investment in its coffee brand Flavia, and Kraft Foods did the same for its Tassimo brand. The booming market also attracted a number of new entrants, including Starbucks’ Verismo single-serve espresso machine and a collaboration between Cuisinart and Illycaffé. See Exhibits 3 to 6 for comparisons with competitors.

A second change in Nespresso’s competitive landscape came after Nespresso lost a number of court cases in Europe to extend the patents for its system beyond 2012. This opened up the opportunity for supermarkets and other retailers to offer cheaper capsules, which could not only hurt Nespresso’s immediate revenue but could also jeopardize the connection it had with its club members. However, Nespresso CEO Duvoisin did not consider this to be a major risk: “Competition has existed for many years. There are about 50 different capsules that are compatible with our machines . . . We offer better coffee quality. At the end of the day, it’s what you have in the capsule that counts.”14

CAN NESPRESSO LEARN FROM PAST EXPERIENCES?

With consumer demand for capsule coffee surging and with competition scrambling for a bigger portion of the market, Nespresso’s management was considering whether to respond. So far, organic growth and promotion through a limited number of flagship shops and department stores had worked well for Nespresso, since this allowed consumers to test the product before they bought it and helped the company to build a long-term relationship with its club members. However, if Nespresso stayed with this approach, it could fail to capture a relevant part of the booming market.

This raised a number of questions. Were average Americans ready to be introduced to top quality home- brewed coffee? Was this the right moment for Nespresso to increase its investment in the U.S. market? If so, how?

Starting with its distribution, how important was it for Nespresso to find new channels through which to sell its machines and capsules? The flagship stores and high-end department stores offered consumers the right environment to experience the Nespresso brand but seriously limited the number of consumers that could be exposed to its products. One possibility was for Nespresso to ramp up its development of new boutiques, but finding locations for these stores in premium urban areas would take time. If Nespresso were to seek new channels, what criteria should it use to select them?

Another important question was whether Nespresso should continue selling its capsules only at its boutiques and through its website. These channels played a significant role in establishing a long-term relationship with its club members, but supermarkets had already started to sell generic capsules for Nespresso machines at a lower price. Perhaps it would make sense for Nespresso to offer its capsules in a number of premium supermarket chains.

13 www.nytimes.com/2012/04/30/business/media/nespresso-espresso-machine-maker-plans-tv-ads-in-us.html, accessed October 27, 2013. 14 http://online.wsj.com/news/articles/SB10001424127887323463704578497350657159118, accessed October 27, 2013.

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Finally, Nespresso considered whether it should step up its advertising budget and possibly plan TV advertising. TV advertisements would definitely give Nespresso the greatest reach, even if it came at a considerable expense. But the greatest drawback was that many Americans were not familiar with the Nespresso system, and a 30-second commercial would severely limit what Nespresso could communicate. If it were to start advertising, what should be its message: its patented technology, the design of its machines, the quality of its coffee, its luxury brand or something different? In Europe, Nespresso was successful with its George Clooney commercials, but CEO Duvoisin was uncertain if these ads would do as well in the United States: “In Europe, the brand was already very well-known, so we were adding something on top of it. . . . In the [United States], we need to establish the brand.”15

Nespresso’s management team had to make a decision on all these matters soon if they did not want to fall behind their competitors. All they were waiting for to take action was the recommendation from a small team of external consultants on how to proceed.

15 http://online.wsj.com/news/articles/SB10001424127887323463704578497350657159118, accessed October 27, 2013.

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EXHIBIT 1: TIMELINE

1986 Nespresso SA founded, with four coffee variants and two different machines launched in Switzerland, Japan and Italy. 1989 Nespresso System launched in Switzerland with partner Turmix; Nespresso Club started. 1991 Nespresso launched in France and the United States. 1995 Swissair starts offering Nespresso to customers. 1996 Nespresso website created. 1998 Nespresso introduces direct online ordering. 2000 First Nespresso boutique opens in Paris. 2004 Nespresso boutique bar opens in Munich, Germany; Nespresso starts its AAA Sustainable Quality Program to support sustainable farming. 2005 George Clooney becomes ambassador; Nespresso reaches revenue of 1 billion Swiss francs (around US$900 million). 2007 The first Nespresso flagship boutique opens in Paris on the Champs-Élysées. 2010 Nespresso opens its 200th boutique, in Shanghai, China. 2011 Nespresso opens its first airport boutique in Paris-Orly airport, France.

Source: www.nestle-nespresso.com/about-us/key-dates, accessed November 1, 2013

EXHIBIT 2: PHOTOS OF FLAGSHIP STORE, MACHINE AND CAPSULES

Source: www.nestle-nespresso.com/media/library/pictures, accessed November 1, 2013

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EXHIBIT 2 (CONTINUED)

Source: www.nestle-nespresso.com/media/library/pictures, accessed November 1, 2013

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EXHIBIT 3: MULTI-OUTLET SALES OF SINGLE-CUP COFFEE, BY LEADING COMPANIES, 2012 AND 2013

52 weeks ending 52 weeks ending June 17, 2012 June 16, 2013 Sales Market Market change Share Sales Share Sales Share 2012 to change Firm Brand ($M) (%) ($M) (%) 2013 (%) (% point) Green Mountain Coffee Roasters Inc. Green Mountain 320.3 25.9 473.1 23.9 47.7 –2 Donut House Collection 78.5 6.4 152.5 7.7 94.3 1.4 Newman's Own Organics 114.4 9.3 120.1 6.1 5 –3.2 Donut Shop Coffee People 59.5 4.8 85.6 4.3 44 –0.5 Keurig Caribou Coffee 77.3 6.3 77 3.9 –0.3 –2.4 Tully's Coffee 59.6 4.8 65.5 3.3 9.8 –1.5 Keurig Eight O'Clock – – 65.1 3.3 – 3.3 Barista Prima Coffeehouse 18.2 1.5 38.4 1.9 111 0.5 Cafe Escapes 9.3 0.8 33.9 1.7 263 1 Other 83.4 6.8 85.2 4.3 2.1 –2.5 Total 820.5 66.4 1,196.40 60.5 45.8 –6 J.M. Smucker Co. Folgers Gourmet Selections 189.3 15.3 301.5 15.2 59.3 –0.1 Millstone 56.4 4.6 71.2 3.6 26.4 –1 Starbucks Coffee Company 107.5 8.7 286.1 14.5 166 5.8 Starbucks 107.5 8.7 285.1 14.4 165.1 5.7 Other – – 1 – – – Total 245.7 19.9 372.8 18.8 51.7 –1.1 Kraft Foods Inc. Maxwell House Cafe Collection – – 20.2 1 – 1 Tassimo Maxwell House 20.6 1.7 13.7 0.7 –33.7 –1 Tassimo Gevalia 6.3 0.5 6.1 0.3 –2.7 –0.2 Other 0.6 – 4.1 0.2 577.1 0.2 Total 27.5 2.2 44 2.2 60.1 –

Other 33.3 2.7 43 2.2 29.4 –0.5 Private label 0.4 0 35.7 1.8 7,951.00 1.8 Total 1,234.90 100 1,978.00 100 60.2

Notes: Data may not equal totals due to rounding. Figures are based on sales data from Information Resources Inc., InfoScan Reviews and includes the following channels: total U.S. grocery, mass; total U.S. drug, total Walmart, dollar, military and club. Source: http://store.mintel.com/coffee-us-september-2013, accessed November 1, 2013.

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EXHIBIT 4: U.S. SALES AND FORECAST OF COFFEE 2008 TO 2018

U.S. Coffee Sales ($M) 18,000

16,000 15,515

14,665 14,000 13,857 13,106 12,614 12,000 11,699

10,503 10,000 9,362

8,000 7,872 7,332 7,538 in MillionsDollars of 6,000

4,000

2,000

0 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 (est.) (fore.) (fore.) (fore.) (fore.) (fore.)

Source: Based on Information Resources Inc., InfoScan Reviews; U.S. Bureau of Labor Statistics; Consumer Expenditure Survey; BevNet.com/Mintel. Sales at current prices are available at http://store.mintel.com/coffee-us-september-2013, accessed November 1, 2013.

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EXHIBIT 5: CAPSULE PRICE COMPARISON

$1.20 $1.08

$1.00 $0.95

$0.80 $0.76 $0.75 $0.70 $0.65

$0.60 $0.56 $0.50 Cost Per Capsule (Low) $0.39 Price in US Dollars $0.40 Cost Per Capsule (High) $0.33

$0.20

Brand

Sources: www.nespresso.com; www.keurig.com; www.verismo.com; www.senseostore.com; www.tassimodirect.com, accessed November 1, 2013.

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EXHIBIT 6: MACHINE PRICE COMPARISON

$800.00

$699.00 $700.00

$600.00

$500.00

$400.00

Machine Cost (Low) $300.00

Price in US Dollars $249.95 Machine Cost (High) $199.00 $200.00 $179.00 $169.99 $149.00 $89.95 $99.99 $100.00 $31.99 $21.99 $-

Brand

Sources: www.nespresso.com; www.keurig.com; www.verismo.com; www.senseostore.com; www.tassimodirect.com, accessed November 1, 2013.

This document is authorized for use only by mansour algoblan in Strategic Marketing Planning taught by YASSER MAHFOOZ, King Saud University from Feb 2021 to Jun 2021.