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Case Group A - Market Opportunity Analysis

TEACHING NOTES FOR MARKETING MANAGEMENT CASES

CASE GROUP AMARKET OPPORTUNITY ANALYSIS

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1. McDonald’s in the New Millennium

Teaching Notes

Synopsis

This case discusses McDonald’s Corporation and the situation it faced in 2001. After many years of double-digit growth in sales and net revenue, the company’s sales grew only 1.12 percent and net revenue dropped 17.2 percent from 2000 to 2001. The company is the market leader in the burger segment of the fast food industry and is closely identified with burgers and fries, foods that are no longer considered healthy.

Most students will be very familiar with McDonald’s and many of its competitors. Discussion of the case is generally quite lively. The discussion could begin by asking the class if anyone has ever worked at McDonald’s and to describe the experience.

Teaching Objectives

1. To help students recognize how the changing environment impacts companies, even market leaders like McDonald’s.

2. To give students the opportunity to develop strategy in a mature market with strong competitors.

3. To help students understand how changing customer tastes are reflected in changes in industries.

4. To demonstrate limitations on a company’s ability to adapt to changes in customer tastes and preferences.

5. To offer students the opportunity to analyze how company strategies impact their tastes and preferences.

Teaching Suggestions

This case can be taught in a variety of ways:

1. Taught in the traditional manner where the questions at the end of the case are assigned for discussion in class;

2. It can be assigned to a team of students for a written report and presentation to the class;

3. Each of the major competitors in the case can be assigned to a student team for presentation of a SWOT analysis and recommendations. This can be done before class so teams can do research on their assigned company. Alternatively, students can be put in teams in class, meet to do the assignment for a half hour, and then present their analysis and recommendations of the assigned competitor to the class. The instructor can then draw conclusions about the state of the industry after the presentations.

Discussion Questions

1. How are customer tastes changing in the fast-food industry? What impact do these changes have on McDonald’s sales and net income?

It is useful to start discussion of this question with information from the case which suggests that many customers, both younger and older adults, are seeking better quality, healthier food and are willing to pay more for it. The case also states that consumers are eating out less often. These trends obviously are not favorable for McDonald’s since it has a reputation for serving inexpensive, tasty food that is not

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especially healthy. However, it is also useful to examine company sales and net income shown in the case exhibit and below:

2001 2000 1999 1998 1997Total Systemwide Sales (in millions) $40,630 $40,181 $38,491 $35,979 $33,638Net Income (in millions) $1,637 $1,977 $1,948 $1,550 $1,642

Clearly, while these trends are against the company, somebody is still eating nearly $40 billion worth of McDonald’s food! It is useful now to discuss whether and how often students eat at McDonald’s and what their attitudes are toward eating there. Likely, many of them will say that they want to eat healthier food but they are busy and the convenience, low prices and tasty food at McDonald’s and other fast food restaurants still keeps them going there. It is also useful to ask what they order when they go. Likely, many will say they order chicken sandwiches or salads because of their concerns about eating healthier foods. Students can also be asked about how much they know about nutrition. Likely, many students know very little about it but assume that McDonald’s food is bad for health. (Some nutritionists feel McDonald’s food is not as unhealthy as many people believe, but it does contain high levels of fat.)

It is also useful to look at the percentage changes in system-wide sales and net income across the years in the exhibit to see what impact consumer trends are having on McDonald’s (students can calculate these from the exhibit, e.g., 2001 sales minus 2000 sales divided by 2000 sales equals percentage change in sales).

Percentage Changes Sales Net Income

2000 to 2001 1.12% -17.20%1999 to 2000 4.39% 1.49%1998 to 1999 6.98% 25.68%1997 to 1998 6.96% -5.60%

Clearly, while McDonald’s total sales are growing, its percentage growth is slowing down. Also, its net income percentage decreased in two of the last four years, significantly in the last year. Thus, changes in customer tastes, among other things, are adversely affecting McDonald’s sales and bottom line. This is a major issue in the case. What should McDonald’s do to grow and prosper as it did for many years previously? Of course, it is worth discussing whether the company should be expected to grow and profit as it did previously, given the maturity of the industry and changes in the market.

2. How well are these changes in customer tastes and preferences being reflected in competitive strategies in the industry?

While many of the strategies are the same across segments, it is useful to break the industry down into the groups and strategies listed below. Each strategy can be discussed with the class to evaluate whether it is consistent with changes in customer trends and whether it is likely to be effective in generating sales and profits. Students can be asked whether or not they buy the new products offered and whether the strategies affect them.

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Hamburger Segment

increased effort to sell chicken sandwiches, chicken strips, chicken nuggets (e.g., McDonald’s Chicken Select, Burger King Chicken Whopper)

increased effort to sell salads (e.g., Wendy’s Garden Sensations) increased emphasis on promoting the image of healthy food development of larger, higher-priced burgers to increase meal size and average check size frequent promotional deals including value meals, coupons, discounts, give-aways, contests,

games, sweepstakes to create selective demand frequent new product offerings, both permanent and limited time updating the external and internal appearance of the restaurants to look more attractive speeding up delivery at drive-throughs to take advantage of faster growth in this market

Traditional Non-hamburger Segment (Pizza Hut, KFC, Taco Bell)

advertising and promotional products designed to appeal to families and kids (e.g., KFC’s new “Kids Laptop Pack” meal program)

offering new products and new tastes to attract burger-weary customers (e.g., Pizza Hut’s very successful P’Zone)

offering more high-priced, better ingredient items (e.g., Taco Bell’s Grilled Stuffed Burrito, Chicken Quesadilla)

Newer Fast-Casual Segment

offering better quality food at higher prices than traditional fast food offering better ambience and surroundings in the restaurants offering faster service than traditional sit down restaurants offering more trendy image than other fast-food restaurants

Other Fast Foods Segment (deli sandwiches at supermarkets, convenience stores, gas stations as well as microwave and oven ready foods)

offering better quality sandwiches and other foods, in some cases offering greater convenience since sandwiches can be purchased while buying other products microwave and oven ready foods offer convenience and better quality at reasonable prices for

people at home when they do not want to go out for food

Conclusion

Overall, the industry is responding well to customer tastes and preferences. However, the industry is mature and some competitors, such as Hardee’s, appear vulnerable. Fierce competition for market share leads to difficulty in creating competitive advantage as innovations in strategy are quickly matched. Most competitors are doing much the same thing, focusing on new products and promotional deals. However, what else can they do as the market is saturated with fast-food restaurants and advertising alone is not likely to get customers to switch.

3. What are McDonald’s strengths and weaknesses and what conclusions do you draw about its future?

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Many of these are referred to in the case. However, some of them are not and require students to think about the company and its position.

Strengths

the number one company in market share with $40 billion in sales! a reputation for consistency of product offering, tasty food, reasonably priced, quickly served

(NOTE: Although not mentioned in the case, McDonald’s French fries are consistently rated by customers as the best in the fast-food industry)

30,093 restaurants throughout the world (in exhibit) in some of the best possible locations a preferred position with many children and families when they seek fast-food quality management that adapted to the market with emphasis on chicken sandwiches and salads,

updating and improving the appearance of its restaurants a positive corporate image from Ronald McDonald House and Charity Christmas Parade

Weaknesses

the slowdown in sales and profit growth threatens the company’s value to investors the company is not well positioned to compete in the healthy food market given its identity with

burgers and fries the company is not well positioned to compete in the fast growing, fast-casual market given its

identity as the top fast-food chain, McDonald’s is a frequent target for nutritionist and environmentalist

attacks it is competing in a fiercely competitive industry it is competing in an industry with high employee turnover, often over 100% per year

Conclusion

McDonald’s is at the top of the burger segment of the fast food industry, has had a history of strong management, and does many things very well. It is unlikely that its restaurants will be abandoned by customers, yet there is clear evidence that part of the market is concerned about food quality and nutrition and is turning away from McDonald’s fare. It also seems unlikely that McDonald’s, as an icon of burgers and fries, will be able to change customer perceptions that its food is really healthy.

4. Should McDonald’s develop a separate strategy for the heavy user segment of the fast-food industry?

The case indicates that heavy users of fast-food comprise 20 percent of customers but account for 60 percent of all visits. Some of these visit 20 times per month and spend up to $40 per day in them. Heavy users have been described as single males under 30 years of age, who have working class jobs, love loud music, don’t read much, and hang out with friends.

Heavy users are clearly a key for being a successful chain given that they account for a large percentage of sales and profits. However, creating an overt strategy to attract them has huge risks. For example, nutritionists would likely complain that McDonald’s is trying to get people who already eat too much junk food to eat even more of it. In addition, these people may not like being targeted since they may be sensitive about their eating habits, both in terms of the quantity and quality of food they eat, and don’t want to know how frequently they eat junk food. They are also sensitive to society’s negative view of fast-food.

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Burger chains are sensitive to the issue and rather than refer to these customers has heavy users, refer to them as core customers or “most often” customers. Common strategies used are such things as two burgers for two bucks (and multiples thereof), triple-decker burgers, Biggie meals and Supersized meals.

McDonald’s uses these strategies successfully and likely should not promote further specifically to this market with things like frequent patron offers or a free burger for every four purchased. As long as it offers good value to these customers, the company is likely to continue to get its share of this market.

5. What should Jack Greenberg do to grow sales, profits, and market share at McDonald’s?

At this stage, students should have a good understanding of McDonald’s position. It is clearly a giant in the industry and a great company but is in a fiercely competitive, mature market with changing customer tastes.

McDonald’s development of the McCafe’s chain (it also has interest in the Boston Markets chain, but this is not stated in the case) may be a good strategy for taking advantage of a move to more upscale food and beverages and the recent success of coffee houses like Starbucks. However, it should be clear that much of McDonald’s previous sales growth was fueled by the increase in the number of restaurants it opened, both domestically and globally. As shown in the exhibit in the case, it had 22,928 in 1997 and 30,093 in 2001, a 31 percent increase. It is likely reaching market saturation such that this strategy may no longer be effective.

Within the hamburger segment, McDonald’s can continue to offer new products and new promotional deals to attract customers to its restaurants. Students should be asked to list and evaluate at least three new products and three new promotional deals they think would be successful.

There would also seem to be room in the fast-food industry for chains of restaurants that offer other types of food. Students could be asked for their thoughts on fast-food chain concepts such as

a national chain featuring fast pasta and salads a national chain featuring fast Asian food a national chain for fast seafood dishes that could compete with Long John Silvers

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Epilogue

While McDonald’s did have a slowdown at the time of this case, the company successfully recharged its sales and profit growth. In 2002, 2003, and 2004 its total revenue grew to $15.4, $17.1 billion, and $19.06 billion respectively. Although its net income dropped to $893 million in 2002, it rebounded to $1.47 billion in 2003 and $2.28 billion in 2004. The company rebuilt and refurbished a number of its restaurants and added some healthier and more expensive items to its menu. It enhanced convenience by staying open longer—in some cases 24 hours a day, began accepting debit and credit cards in many countries, and offered customers wireless internet access in more than 6,500 restaurants worldwide. It continued to increase its number of system-wide restaurants from 30,093 at the time of the case to 31,461 in 2004, also accounting for sales and profit growth. Its stock price tripled from the time of the case to 2004, and Advertising Age recognized the company as 2004 Marketer of the Year.

One interesting way to illustrate how successful McDonald’s has been in its history is to examine the growth of its stock value. If an investor bought 100 shares of McDonald’s in 1965 for $2,250, the investment’s value would have grown to $2.4 million by December 31, 2004—impressive growth by any standard!

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2. South Delaware Coors, Inc.Teaching Notes*

Synopsis

South Delaware Coors, Inc. represents an interesting marketing case situation for three reasons: The issue in the case is clear-cut while data needed to solve the issue requires conceptualization and insight; The case contains elements common to most feasibility decisions (estimates of industry demand, market share, investments, costs, and resulting performance are required); and the case is ripe with learning potential for the student in terms of developing actionable decisions based on research information.

Two issues are present in the case. The first is a decision on what research should be conducted by Manson and Associates to allow Larry Brownlow to estimate the feasibility of a Coors beer distributorship for a two-county area in Delaware. This issue is evident, even stressed, throughout the case. The second issue is a decision on whether or not the distributorship is feasible or, in other words, a go/no-go decision by Brownlow regarding his application. This issue is largely implicit in the case.

Teaching Objectives

This case is designed to teach students: (1) To make a feasibility decision, the market researcher usually needs estimates of industry demand, market share, investments, costs, and performance; (2) It is important to conceptualize data before marketing research is conducted, i.e., the researcher must anticipate research results and how such results will solve the research problem; (3) Effort spent in the problem formulation stage of marketing research can often reduce later costs of performing research; (4) Secondary data is the appropriate starting point for marketing research; (5) The cost of information is real and usually constrained in most marketing research problems; (6) Cheap information may not be the most economical when quality of information is compared; (7) Breakeven analysis is often a required tool in feasibility studies; (8) Because the research budget has excess funds available is not sufficient reason to conduct extraneous research.

Finally, the case provides the opportunity to stress two other objectives not usually found in conventional case situations. If the first and recommended method of use is utilized by the experience of group decision-making. These experiences should be part of a student’s formal marketing education but are too often lacking in a conventional case.

Teaching Suggestions

Two methods of use are possible. The first begins with the instructor assigning the case in the usual manner. Early in the class discussion, students would be encouraged to analyze the case situation in terms of the consumer, competition, and the relative merits of each of the nine research studies. Some students will likely rush headlong into a decision on which research should be conducted; this should be avoided until the analysis is complete. This step in the classroom usage should take not more than 20 minutes.

When the instructor is satisfied that students understand the case situation, the discussion should be stopped with a statement similar to “All Right. What I want you to do now is quickly divide into groups of three. Assume you are advisers to Larry who must make a decision in the next 15 minutes regarding what research should be conducted. When your group has decided, send a representative to me for further instructions.”

*Prepared by Professor James E. Nelson and Doctoral Student Eric J. Karson. University of Colorado at Boulder.

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When each group’s representative approaches, he or she should be asked to identify which research studies the group has decided Larry should have conducted. The instructor then hands copies of the requested studies’ research results (Exhibit 1 in this note) and charges the group with the responsibility of analyzing the data and recommending whether or not Larry should apply for the distributorship. The representative then returns to the group and members perform analyses they consider appropriate. The instructor should feel free to observe closely the decision process occurring at each group but should provide little or no input if requested. Students must make the decision.

Near the end of the period, the instructor should call for written go/no-go decisions from each group as supported by analyses members see fit to include. The instructor can then evaluate each group’s decision-making process before the next class period, at which time decisions can be returned, discussed, and learning objectives presented. Class periods of 75 minutes minimum would be required to use this method.

An alternative method of use is more conventional and can be accomplished in shorter class periods. Here, the instructor would assign the case and pass out all research results before class discussion. Student analyses would center again about the consumer, competition, and the relative merits of each research study but with full knowledge of research results. Additional discussion would center about feasibility of the distributorship and appropriate methods of analysis.

This second method of use is a far less powerful learning experience for the student. Of the course objectives outlined earlier in this note, only 1, 4, 6, and 7 are likely to be realized with this method.

Areas for Discussion/Analysis

Once students have a framework for analysis, the decision-making process should proceed relatively easily. The framework used in this note is organized about the consumer and estimates of demand, market share, investments, costs and performance. All data references in the following quantitative analyses come from Exhibit 1 in this note.

A. Consumer Analysis

Students should be able to deduce that nearly every beer drinking consumer in the market area will try Coors when it becomes available. Perceived risk is slight, the product will be widely available at competitive premium prices, latent demand likely exists, extensive informative advertising including word-of-mouth will likely occur, and existing brand loyalty is likely low among most present buyers of beer.

However, Coors’ market share will eventually stabilize at a level similar to those at the national or regional level. Students should spend some time identifying this permanent market segment, where it would expect to buy Coors, and what product and other purchase features these consumers would consider important in buying Coors.

The typical purchase will likely occur almost exactly as typical Budweiser, Miller, Busch, or other purchases occur. If a planned purchase, the consumer will buy from the same source as last time unless new stimuli interfere. In the absence of specials, price at all outlets of a given type will be so close as to make comparison shopping meaningless. Impulse or emergency purchasing will occur from the nearest

source with little regard to price or brand, depending on the nature of the consumer and purchase situation. For most consumers, Coors will be purchased as a convenience good, along with groceries and other regularly purchased household consumables. The specialty and unsought good status Coors may presently enjoy will soon disappear after introduction.

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B. Industry Demand

It is possible for students to estimate industry demand in two manners. The first involves results of Studies A and B and could be termed a “per capita” approach. Students need merely take the per capita consumption figures from Table A (for south Delaware) and multiply these data by population estimates from Table B. Their estimates for 1990 should be around 229,000 people living in the two counties, 160,500 of whom are age 21 and over. Multiplying 229,000 people by 24.6 gallons per capita consumption will produce an industry demand total of around 5.6 million gallons in 1990 (multiplying 160,500 people over age 21 by 36 gallons will produce an estimate of 5.8 million gallons).

The second manner of estimating involves study E data and could be termed a “taxes paid” approach. Totaling taxes paid by the six distributors for 1987 and 1988 yields $288,000 and $306,000, respectively. Dividing each of these figures by 6 cents, the tax per gallon, provides consumption estimates of around 4.8 and 5.1 million gallons. Students will need to extend these results to 1990; a range of 5.6 to 5.8 million gallons for their estimates can be expected.

Which method is better? The first study’s sources of data are not identified nor do we know the accuracy of the computer models used to make projections. The second method uses an unbiased source (the Delaware Department of Revenue) but relies on students to extend 1987 and 1988 data to 1990. Their methods of projection may be less accurate than Manson’s computer models. The second is cheaper than the first ($200 vs. $2500). The second provides data specifically for the two-county market area while the first uses consumption averages generated for the entire state. Students frequently take both approaches to estimate industry demand and strike an average between the disparate results. Students might discuss the wisdom of such a strategy—is more information always better?

C. Market Share Projection

Table C, containing market share projections, is straightforward and needs little explanation here. Some evaluation of the accuracy of Manson and Associates’ market share projections could be undertaken if time permits.

Table C data are crucial to making a sales projection for the distributorship.

D. Investments

Larry’s estimates of capital needed to start the business are outlined on page 4 of the case. Little quarrel with the figures as given can be voiced. However, Larry has neglected to estimate what investments in cash and accounts receivable will be required and has, therefore, understated his capital requirements.

Estimates of the additional funds needed can be derived from Table F. Table F shows the typical wholesaler of wine, liquor, and beer examined by Robert Morris Associates had 11.1% of its assets in cash and 14.8% in receivables. Allowing for an efficient operation, Larry had underestimated the needed capital by some 26%. Thus, a better estimate of capital required would be $800,000/.74 or about $1,080,000.

Students will comment and often object to the validity of data in Table F on the bases of the note at the bottom of the table. Certainly the data have the potential for non-representativeness but students should be made to consider what alternative data sources are available given the facts in the case. Larry is too busy to seek out other sources and Coors management will provide no cost or performance information.

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E. Costs

Estimates of fixed costs are reasonably straightforward and are given on page 4 of the case. However, Larry has estimated no expenditures for interest payments, advertising, and travel. No data in the case bear on travel expenditures or advertising; interest costs can be estimated by the student. If total capitalization is $1,000,000 and Larry provides only about $400,000, a first-year interest charge of $70,000 is reasonable. The other first-year expenses are $160,000 for salaries and $90,000 for fixed or semi-fixed expenses. Thus, total fixed costs will be at least $320,000 plus travel and advertising expenses, both of which will be substantial.

To estimate variable costs, Tables F and I are needed. Table F shows the cost of goods sold averages 77.1% of sales; Table I shows an average wholesale price for the seven competing brands of about $3.16 per six pack. Multiplying $3.16 by 1.77 produces a wholesale price of $5.59 per gallon.

In addition to selling beer in bottles and cans, the distributorship will also sell kegs in the ratio of 1 gallon of keg beer to 3 gallons of beer in bottles and cans. The case states (page 4) that keg beer prices at the wholesale level were about 45% of prices for beer in bottles and cans. These two facts can be combined with wholesale costs and prices for beer in bottles and cans to produce an overall weighted average contribution per gallon of .45 cents. Relevant figures appear in the table below.

Estimates of Wholesale Costs and Prices

Beer Weight per Gallon ($) per Gallon($)Bottles and Cans 3 4.31 5.59Kegs 1 1.94 2.52

weighted avg.= 3.72 4.82

F. Performance

To conclude on the feasibility of the distributorship, students should first calculate a breakeven point and compare to industry demand and expected market shares. From data in the case and this note:

Breakeven =

=

Market share = or about 5.0% of the market is needed to breakeven.

Students should also perform similar calculations to determine quantities and market shares based on the operation earning a suitable return on investment and spending, say, $100,000 on advertising and travel. Market shares here should be between 7% and 9%.

Comparison of these market shares with those forecast in Table C show the distributorship to be a feasible operation (How accurate are those forecasts?) However, missing from the present analysis is

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consideration of incentive costs. A five percent incentive based on sales revenues and a narrowing of prices and costs could easily make the distributorship a breakeven operation.

Some students will prepare pro forma income statements for 1990 and later years. Others will calculate cash flows. Many will use spread sheet analyses, with results shown for several scenarios based on varying degrees of optimism in their assumptions.

Analysis Summary

Based on the analysis in this note, Larry would be well advised to apply for the distributorship. Crucial data used to come to this conclusion result from Research Studies C, E, F, and I at a total cost of $4,250. The remaining five studies are not needed. Students are usually interested to learn what was the class average amount spent on marketing research compared to $4,250. The instructor should be able to provide this comparison.

Because the total cost of the required studies is low relative to the budgeted amount and because students will inadequately conceptualize the problem, requests for extraneous research will usually occur. Students may frequently argue that consumer and retailer research, Studies G and H respectively are needed to estimate feasibility. At first glance, this may appear to be so.

However, consumer and retailer data as derived from these studies are largely irrelevant given Coors’ national experience (unless the student has reason to believe Delaware residents or market conditions differ greatly from those of the rest of the U.S.). Restating, extensive research on attitudes and intentions of consumers and retailers will yield less valid data then measures of actual experience of similar groups of people.

Finally, several students may comment on the ethics of Manson and Associates regarding their making a research proposal totaling $18,550 when only $4,250 worth of research was needed. If time permits, a discussion of this topic will be worthwhile. However, there is not sufficient data in the case on which to determine Manson and Associates’ intent in proposing “excess” research. Time also might be spent discussing the ethics of Larry’s taking the proposal and executing several of the studies himself. Often, several students would have Larry conducting studies E, F, and I.

Student Learning Experience

At least two levels of learning are present in business case analysis. The first or lowest level of learning would be called “methods of problem-solving” or something similar. That is, marketing instructors attempt through case analyses to teach students methods of problem-solving applicable to real world situations in which students will find themselves after graduation. South Delaware Coors, Inc. provides this level of learning through introducing students to considerations present in feasibility analyses and, to some degree, in data collection.

A second or higher level of learning is possible. This is the development of “principles” that can be similarly learned and carried over to the business world. Principles that can be learned from the case are

course objectives 1 through 8 listed at the start of this note. To encourage this sort of learning, the instructor should devote a few minutes at the start of the next class session to summarize what was done in the previous meeting and to present objectives for the case as what has hopefully been learned by the student.

Part of the student learning potential with South Delaware Coors, Inc. was also mentioned earlier as the student’s exposure to group decision-making. Groups or committees in marketing make large numbers of

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decisions in the areas of new product development, pricing, marketing strategy, and marketing policy, for examples. Thus, the instructor should also devote discussion or lecture time at the start of the next session to the group aspect of making a decision (if the class used this method in analyzing the case).

The topic could be titled, “What sorts of things happen when, instead of an individual, a group makes a decision?” These things, among others, do happen: (1) The decision takes longer; (2) More variety in reasoning occurs; (3) Conflict and differences of opinion occur; (4) Communication is needed; (5) Feelings toward others in the group develop; (6) A group spirit evolves; (7) Equal participation is difficult to achieve; and (8) Social pressures toward conformity exist. Other things happen in group problem-solving and the instructor should feel free to note and discuss them. For more background on group decision processes, see parts 5-8 of N.R.F. Maier’s Problem Solving and Creativity in Individuals and Groups, Brooks/Cole Publishing Company, Division of Wadsworth Publishing Company, 1970. The instructor can greatly aid the relevancy of the discussion, hereby presenting interpretations of what he or she observed occurring in the groups during the decision-making process.

Final Research Report Tables

Exhibit 1 following presents final report tables for all research Manson and Associates proposed. The instructor should reproduce each table before the class discussion separately in sufficient quantity to satisfy demands of class groups.

Summary Points

A good way to end discussion often has been for the instructor to present the eight learning objectives listed in the second section of this note as a short lecture to students. The eight points noted in the paragraph before last could also serve as a short lecture.

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Exhibit 1 Examples of Final Research Report Tables

Table A National and Delaware Resident Annual Beer Consumption, 1988–1992 (Gallons)

U.S. Consumption Delaware Consumption

Year

Based onEntire

Population

Based onPopulationover Age 21

Based onEntire

Population

Based onPopulation

Over Age 211988 24.1 35.0 26.7 38.31989 24.6 35.9 27.2 39.31990 24.6 36.0 27.2 39.41991 26.1 38.3 28.9 41.91992 25.8 37.9 28.6 46.5

Source: Study A

Table B Population Estimates for 1986–1996 for Two Delaware Counties in Market Area

Entire Population (000)County 1986 1988 1990 1992 1994 1996KENT 106.3 109.5 112.2 114.9 117.8 119.1SUSSEX 110.7 114.0 116.8 119.6 122.6 124.0

Population Age 21 and OverCounty 1986 1988 1990 1992 1994 1996KENT 69.4 72.3 75.2 77.0 78.0 81.0SUSSEX 77.5 81.5 85.3 87.0 90.1 90.1

Source: Study B

Table C Coors Market Share Estimates for 1990–1995*

Year Market Share (%)1990 8.91991 8.71992 8.71993 8.81994 8.81995 8.8

Source: Study C*Includes imports

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Table D Liquor and Beer License Estimates for Market Area for 1990–1995

Type of License 1990 1991 1992 1993 1994 1995

All beverages 330 340 350 365 385 405Retail beer and wine 55 60 60 65 65 70Off-premise beer only 210 220 225 230 235 245Veterans beer and liquor 12 12 13 13 12 12Fraternal 20 20 20 20 20 20Resort beer and liquor 25 25 31 32 34 36

Source: Study D

Table E Beer Taxes Paid by Beer Wholesalers in the Market Area, 1987 and 1988

Wholesaler1987 Tax Paid ($)

1988 Tax Paid ($)

A 40,300 42,840B 31,680 33,660C 40,320 42,840D 83,520 88,740E 60,480 64,260F 31,680 33,660

Source: Study E

Note: Delaware beer tax is 6 cents per gallon

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Table F Financial Statement Summary for 510 Wholesalers of Wine, Liquor, and Beer in Fiscal Year 1986

Assets Percentage

Cash and equivalents 11.1

Accounts and notes receivable net 14.8Inventory 33.6All other current 1.9

Total current 64.1Fixed assets net 24.1Intangibles net 5.3All other noncurrent 9.5

Total 100.0 Ratios %Quick .6Current 1.6Debts/worth 1.6

LiabilitiesNotes payable—short-term 11.8 Sales/receivables 49.2Current maturity long-term debt 3.7 Cost sales/inventory 11.9Accounts and notes payable—trade 15.5 Percentage profitIncome taxes payable 1.1 before taxes basedAll other current 7.7 on total assets 6.3

Total current 39.7Long-term debt 17.6All other noncurrent 2.1Net worth 40.1

Total Liabilities and net worth 100.0Income DataNet sales 100.0Cost of sales 77.1

Gross profit 22.9Operating expenses 20.3Operating profit 2.6All other expenses net .4

Profit before taxes 2.2Source: Study F (Robert Morris Associates, © 1987)

Interpretation of Statement Studies FiguresRMA recommends that Statement Studies data be regarded only as general guidelines and not as absolute industry norms. There are several reasons why the data may not be fully representative of a given industry:1. The financial statements used in the Statement Studies are not selected by any random or statistically reliable

method. RMA member banks voluntarily submit the raw data they have available each year, with these being the only constraints: (a) The fiscal year-ends of the companies reported may not be from April 1 through June 29, and (b) their total assets must be less than $100 million.

2. Many companies have varied product lines; however, the Statement Studies categorize them by their primary product Standard Industrial Classification (SIC) number only.

3. Some of our industry samples are rather small in relation to the total number of firms in a given industry. A relatively small sample can increase the changes that some of our composites do not fully represent an industry.

4. There is the chance that an extreme statement can be present in a sample, causing a disproportionate influence on the industry composite. This is particularly true in a relatively small sample.

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5. Companies within the same industry may differ in their method of operations which in turn can directly influence their financial statements. Since they are included in our sample, too, these statements can significantly affect our composite calculations.

6. Other considerations that can result in variations among different companies engaged in the same general line of business are different labor markets; geographical location; different accounting methods; quality of products handled; sources and methods of financing; and terms of sale.

For these reasons, RMS does not recommend the Statement Studies figures to be considered as absolute norms for a given industry. Rather the figures should be used only as general guidelines and in addition to the other methods of financial analysis. RMA makes no claim as to the representativeness of the figures printed in this book.

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Table G Consumer Questionnaire Results

Yes NoConsumed Coors in the past: 62.1% 37.8% Usually buy beer at: %

Liquor stores 5.7Attitudes toward Coors % Taverns and bars 10.6

Strongly like 10.7 Supermarkets 65.2Like 38.1 Corner grocery 18.5Indifferent/no opinion 18.9 Total 100.0Dislike 18.4Strongly dislike 13.9

Total 100.0 Features considered importantwhen buying beer: %

Weekly beer consumption: % Taste 23.3Less than 1 can 28.8 Brand name 32.61–2 cans 37.2 Price 31.73–4 cans 14.0 Store location 5.55–6 cans 10.4 Advertising 1.07–8 cans 6.8 Carbonation 1.29 cans and over 2.8 Other 4.7

Total 100.0 Total 100.0

Intention to buy Coors: %Certainly will 70.0Maybe will 11.2Not sure 6.9Maybe will not 1.8Certainly will not 10.1

Total 100.0

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Table H Retailer Questionnaire Results

Brands of beer carried: % Beer sales: %Budweiser 99 Budweiser 28.7Miller Lite 99 Miller Lite 12.4Miller 99 Miller 8.2Busch 87 Busch 6.4Bud Light 99 Bud Light 6.1Old Milwaukee 72 Old Milwaukee 6.0Michelob 95 Michelob 5.8Others 91 Others 26.4

Total 100.0

Intention to sell Coors: %Certainly will 88.7Maybe will 5.7Not sure 4.0Maybe will not 1.6Certainly will not 0.0

Total 100.0

Source: Study G

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Table I Retail and Wholesale Prices for Selected Beers in the Market Area

Beer Six-Pack Price (dollars)* Six-Pack Price (dollars)**Budweiser 3.29 3.49Miller Lite 3.29 3.49Miller 3.29 3.49Busch 2.57 2.73Bud Light 3.29 3.49Old Milwaukee 2.68 2.85Michelob 3.68 3.91

Source: Study I*Price that the wholesaler sold to retailers.**Price that the retailer sold to consumers.

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3. Ruth Chris: The High Stakes of International ExpansionTeaching Notes

SYNOPSISThe first critical question facing a company’s ability to grow its business internationally is where it should go next; this question is followed quickly by what mode of entry it should use and which partners it should take on. One company facing these important questions was Ruth’s Chris Steak House (Ruth’s Chris), the largest fine dining steak house in the United States. Ruth Fertel started Ruth’s Chris in 1965 and over the next 40 years the company grew to more than 90 restaurants, about half of them franchises. Of these restaurants, only 10 were international locations.

The case describes the challenges facing Dan Hannah, vice-president for business development for Ruth’s Chris, as the company starts to grow its international presence following a successful initial public offering (IPO) in 2005. With restaurants in just five countries including the United States, the challenge for Hannah was to decide where to go to next.

TEACHING OBJECTIVESThis case is appropriate for use in an international business course to introduce market entry strategy. It provides a practical example for students to take quantitative (e.g. per capita gross domestic product (GDP), population and urbanization rates) and non-quantitative variables (e.g. political and social issues) to create a short list of potential new markets. It can also be used in sessions on international marketing, global franchising and business strategy. The case can help achieve these objectives as it:

1. Allows students to familiarize themselves with relevant procedures for short-listing possible new markets via identifying critical variables;

2. Encourages students to discuss the primary problems confronting the franchisor in balancing quantitative and non-quantitative data;

3. Provides an illustrative example of an experienced company venturing out of its comfort zone;4. Asks students to create a list of countries — and the methodology employed to create that list — to

answer the question, where do we go next?

STUDY QUESTIONS1. What did Hannah do to make a first cut in the list of potential countries? How did he get from 200 to

less than 35 potential new markets? Which variables seemed more important in his decision-making? Which unused variables might have been useful?

2. What would be your choice for the top five opportunities? The top 10? What equation did you use to reach that conclusion and why?

3. Hannah was focused on franchising as his mode of entry. Do the critical variables change if a different mode of entry is employed?

4. What are some of the internal and external challenges Hannah will face in moving from a list to actually opening restaurants?

ANALYSIS1. What did Hannah do to make a first cut in the list of potential countries? How did he get

from 200 to less than 35 potential new markets? Which variables seemed more important in his decision-making? Which unused variables might have been useful?

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Hannah wanted his short list to have countries in Asia, Europe and South America. He quickly eliminated countries that were very small and very poor. Countries that were small but not poor (e.g. Bahamas) or big and poor (e.g. Vietnam) made the short list.

He nominally chose the following variables to further whittle down his list:

Beef-eaters Legal to import U.S. beef Population/high urbanization rates High disposable income Do people go out to eat? Affinity for U.S. brands

But failing to find data on “Do people go out to eat?” or “Affinity for U.S. brands,” he largely dismissed these. One measure for “Affinity for U.S. brands” might be to see how other beef-serving restaurants are doing in that country. Outback Steakhouse, for example, has this on their website (http://www.outbacksteakhouse.com/ourlocations/international.asp) and clicking on a specific country will reveal all of its Outback restaurants.

2. What would be your choice for the top five opportunities? The top 10? What equation did you use to reach that conclusion and why?

If this is done as an in-class group exercise, give the students about 20-30 minutes in class to create their respective Top 5 and Top 10 lists and their methodology. Ask each team to read their Top 5 out loud and write the results on the board. Alternatively, this can be assigned as out-of-class homework.

Look at the different lists of names. If the lists vary widely, ask the class to explain why people using the same data drew such widely different conclusions. If the lists are similar (which has been our experience), ask the students to explain why their different equations still yielded roughly the same results.

3. Hannah was focused on franchising as his mode of entry. Do the critical variables change if a different mode of entry is employed?

Good market selection followed by the wrong mode of entry is a recipe for disaster. Likewise, poor market selection can rarely, if ever, be fixed by a good mode of entry strategy. The variables that must be considered if moving from franchising to either a joint venture or company-owned stores are largely legal issues. Students can be asked to list all the potential modes of entry, which can be place in three general categories:

Export Contract-based Investment

- direct - franchising - joint venture- indirect - turn-key - wholly-owned sub

· sales agent - licensing - FDI· distributor - distribution · green field

- alliance · brown field- consortium · acquisition

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http://www.outbacksteakhouse.com/


This can be followed by a discussion using the following diagram:

risk

cont

rol

export c

ontract

invest

ment

It can be useful to note that something which seems counter-intuitive at first — that risk increases as control increases — is in fact the case.

4. What are some of the internal and external challenges Hannah will face in moving from a list to actually opening restaurants?

Some of the models for market entry decisions are:

Home country similarities Existing countries Ease of entry Inquiries from country Opportunity cost of studies Management preferences

Management preference is a classic non-quantitative issue. One preference might be to not even pursue international business, an issue hinted at in this case. Thus, a quick review of the advantages of internationalization might be useful, including income diversity, currency diversity, new sourcing channels, and building a global brand to increase valuation.

In general, a SWOT analysis of Ruth’s Chris might prove instructive. Some of the SWOT issues we believe are important are:

Strengths

Strong U.S. brand Profitable company Profitable domestic and international franchisees Strong balance sheet following 2005 IPO 10 international restaurants on two continents

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Weaknesses

Very limited international brand Limited international experience Not focused on international expansion Single mode of entry experience Only fine dining product No global partners

Opportunities

Declining chicken consumption (bird flu) High beef consumption Good reputation for American beef and fine dining Tourist familiarization with Ruth’s Chris Regionalization of tastes Success of American franchises

Threats

Anti-U.S. sentiment Global recession Failure to conclude successful free trade agreements Decline of Atkin’s diet formula or other health concerns mad cow and other beef-related diseases

EPILOGUEHannah had many years of experience in the restaurant franchising business and thus had both personal preferences and good instincts about where Ruth’s Chris should be looking for new markets. But prior to his arrival, the company had largely allowed franchisees to choose Ruth’s Chris, rather than using a more proactive approach.

A quantitative approach offered Hannah a chance to validate his instincts. He asked a team of local MBA students to work down the beef-eaters index in Exhibit 5. He eliminated those countries that did not allow the importation of U.S. beef (like the European Union (E.U.)) and discounted those with low per capita GDPs or small populations. For the initial cut, the team chose not to focus on whether or not people in those countries ate out (they did not have a source of reliable data). Also, they did not want to eliminate those countries without an affinity for U.S. brands, in part because companies like Starbucks and McDonald’s had been successful in places with governments hostile to the United States. The brands had an impact on the people that their governments could not (or chose not to) counter politically or culturally.

Finally, since Hannah wanted geographic diversity in the target list, the best prospects on three different continents were selected, based on weighing the beef-eaters index more heavily than the other two factors. An initial list of best prospects included the following countries by region:

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Asia Latin America Europe

Singapore Chile Switzerland

Japan Brazil

South Korea Argentina

UAE (Dubai) Costa Rica

China

Israel

Hannah reconstituted this list based on his instincts, existing inquiries from would-be franchisees, and his perception of their receptivity to a U.S fine dining restaurant.

Asia Latin America Europe

Japan Honduras Switzerland

UAE (Dubai) Costa Rica

Singapore Brazil

South Korea Chile

China Argentina

For Asia, the existing franchisee, who had been so successful in Taiwan, had contacts in Japan and wanted to pursue that market, first in Tokyo. The company had already received inquiries about Dubai. And Singapore, South Korea (Seoul) and China (Shanghai) were all solid prospects with highly successful existing restaurant franchises. South Korea, for example, had more Outback Steakhouses than any other country in the world other than the United States.

For South America, Hannah had identified and met with a would-be franchisee who wanted to develop much of Central America. Brazil and Chile had many successful existing restaurant franchises. And Argentina had one of the highest beef consumption rates on the continent, but a strong preference for the taste of its own very robust local beef production.

For Europe, Switzerland offered a chance to sneak behind E.U. enemy lines and plant a flag on the continent. The United Kingdom would certainly be a highly desirable market if U.S. beef could be imported.

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4. Coach Inc.: Is Its Advantage in Luxury Handbags Sustainable?Teaching Notes

Overview

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In the six years following its October 2000 initial public offering (IPO), Coach Inc.’s net sales had grown at a compounded annual rate of 26% and its stock price had increased by 1,400% as a result of a strategy keyed to “accessible” luxury. Coach created the “accessible” luxury category in ladies handbags and leather accessories by matching key luxury rivals on quality and styling, while beating them on price by 50% or more. Not only did Coach’s $200 - $500 handbags appeal to middle income consumers wanting a taste of luxury, but affluent consumers with the means to spend $2,000 or more on a handbag regularly snapped up its products as well. By 2006, Coach had become the best-selling brand of ladies luxury handbags and leather accessories in the U.S. with a 25% market share and was the second best-selling brand of such products in Japan with an 8% market share. Beyond its winning combination of styling, quality, and pricing, the attractiveness of Coach retail stores and high levels of customer service provided by its employees contributed to its competitive advantage.

Much of the company’s growth in net sales was attributable to its rapid growth in company-owned stores in the U.S. and Japan. Coach stores ranged from prominent flagship stores on Rodeo Drive and Madison Avenue to factory outlet stores. In fact, Coach’s factory stores had achieved higher comparable store growth during 2005 and 2006 than its full-price stores. At year-end 2006, comparable store sales in Coach factory stores had increased by 31.9% since year-end 2005, while comparable store sales for Coach full price stores experienced a 12.3% year-over-year increase.

Coach’s dramatic growth that resulted from its strategy keyed to “accessible luxury” had not gone unnoticed by long-established luxury goods makers. In 2006, most leading designer brands had developed sub-brands that retained the styling and quality of the marquee brand, but sold at considerably more modest price points. For example, while Dolce & Gabbana dresses might sell at price points between $1,000 and $1,500, very similar appearing dresses under Dolce & Gabbana’s “affordable luxury” brand--D&G--were priced at $400 to $600. Going into 2007, Coach Inc. executives expected to sustain the company’s impressive growth through monthly introductions of fresh new handbag designs and the addition of retail locations in the U.S., Japan, and rapidly growing luxury goods markets in Asia. Other growth initiatives included strategic alliances to bring the Coach brand to such additional luxury categories as women’s knitwear and fragrances.

Suggestions for Using the CaseStudents should be highly interested in the Coach Inc. case because of their likely aspirations to own luxury goods upon completion of their degrees. Industry statistics presented in the case indicate that young professionals are among the most frequent purchasers of “accessible luxury” goods such as Coach handbags. You’ll probably find many of the young women in your class already own Coach products.

The case provides students with an excellent example of a best-cost strategy. The coupling of Coach’s differentiating features such as product quality, prestigious image, outstanding customer service, lifetime guarantee, and attractive stores with a cost-based pricing advantage has yielded a strong competitive advantage for Coach. The case also contains ample information for conducting an industry analysis and company situation analysis. The financial statements in the case are sufficient to allow you to assign whatever “number-crunching” exercises you see fit. You should be able to generate quite a lively class discussion concerning the strategy’s capability to continue to deliver competitive advantage in the midst of new “accessible luxury” brands being brought to market by the luxury industry’s strongest brands, including Dolce & Gabbana, Giorgio Armani, and Gianni Versace.

The Coach Inc. case is excellent for drilling students in the use of the analytical tools in Sections II and III. There is ample information for students to conduct an industry analysis (dominant industry characteristics, five competitive forces, and key success factors) and use the tools of company situation analysis (assessment of how well Coach’s strategy is working and SWOT analysis. The information in the case is not difficult for students to understand or to analyze, so we recommend positioning the case

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near the beginning of your course.

There is a great deal of information in the case, which allows you to structure your class discussion in a number of ways. We feel that the best way to handle the class discussion of this case is to start with an analysis of the industry – identifying the dominant characteristics, doing a competitive analysis, assessing the impact of driving forces, and identifying the key success factors. Then you can proceed to look at the company’s strategy, do a SWOT analysis, and conclude with recommendations.

We think you will find that this case works quite nicely for a written case exercise because of the wide range of tools in Chapters 3 and 4 that can be used. Our recommended assignment questions are as follows:

1. As Coach Inc.’s newest member of its Retail Division, you have been asked to prepare a report for management that evaluates the company’s strategy, analyzes the industry and competitive situation confronting the company, and assesses the company’s resources, competencies, and capabilities. Your report should also include an analysis of the company’s recent financial performance. As part of you development, your boss has also asked that you prepare a strategic action plan that will enable the company to sustain its impressive growth rate and provide investors with above-average returns. Please limit your report to 5-6 pages, including appropriate exhibits.

2. As part of your development as a new member of Coach Inc.’s Retail Division, you have been charged with identifying strategic issues facing the company and recommending strategies addressing each issue. Your list of strategic issues and proposed strategic action plan should be in executive summary format and not exceed three pages in length. Please attach all elements of your industry and company situation analysis used in identifying strategic issues. Appropriate exhibits to include as attachments include a competitive analysis, key success factors, SWOT, and financial analysis.

Assignment Questions1. What are the defining characteristics of the luxury goods industry? What is the industry like?

2. What is competition like in the luxury goods industry? What competitive forces seem to have the greatest effect on industry attractiveness? What are the competitive weapons that rivals are using to try to outmaneuver one another in the marketplace? Is the pace of rivalry quickening and becoming more intense? Why or why not?

3. How is the market for luxury handbags and leather accessories changing? What are the underlying drivers of change and how might those driving forces change the industry?

4. What key factors determine the success of makers of fine ladies handbags and leather accessories?

5. What is Coach’s strategy to compete in the ladies handbag and leather accessories industry? Has the company’s competitive strategy yielded a sustainable competitive advantage? If so, has that advantage translated into superior financial and market performance?

6. What are the resource strengths and weaknesses of Coach Inc.? What competencies and capabilities does it have that its chief rivals don’t have? What new market opportunities does Coach have? What threats do you see to the company’s future well being?

7. What recommendations would you make to Lew Frankfort to improve the company’s competitive position in the industry and its financial and market performance?

Teaching Outline and Analysis

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1. What are the defining characteristics of the luxury goods industry? What is the industry like?

Market size and growth rate: The global luxury goods industry was expected to grow by 7% during 2006 to reach $112 billion.

Scope of rivalry: The scope of rivalry in the industry was global with Italian luxury goods companies accounting for 27% of industry sales in 2005, French luxury goods companies controlling 22% of the industry, Swiss companies holding a combined market share of 19%, and U.S. companies accounting for 14% of industry revenues in 2005.

Presence of forward/backward vertical integration: Most luxury goods manufacturers were vertically integrated into the operation of retail stores. While the signature lines offered by Armani, Versace, and other designers were handcrafted under the supervision of the designer, Coach products and diffusion lines offered by other luxury companies were produced by low-cost contract manufacturers.

Consumer characteristics: Although traditional luxury consumers in the U.S. ranked in the top 1% of wage earners with household incomes of $300,000 or better, a growing percentage of luxury goods consumers earned substantially less, but still aspired to own products with higher levels of quality and styling. Manufacturers of the finest luxury goods sought to exploit middle-income consumers’ desire for such products by launching “diffusion lines” that offered “affordable” or “accessible” luxury.

Degree of product differentiation: Students will easily recognize that all luxury goods companies utilize strategies that attempt to create a high degree of differentiation. Key differentiating features include product quality, image and reputation, customer service, styling, and store ambiance.

2. What is competition like in the luxury goods industry? What competitive forces seem to have the greatest effect on industry attractiveness? What are the competitive weapons that rivals are using to try to outmaneuver one another in the marketplace? Is the pace of rivalry quickening and becoming more intense? Why or why not?

The figure below illustrates the competitive forces model for the luxury goods industry (see Section II).

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Rivalry amongCompeting

Luxury Goods Sellers

Competitive pressurescreated by the jockeying

of rival sellers forbetter market position

and competitive advantage

Buyers of Luxury Goods

Competitive pressures stemming

from seller-buyer

collaboration and

bargaining

Competitive pressures stemming

from supplier-seller

collaboration and

bargaining

Competitive pressures coming from the threat of entry of new rivals

Suppliers of Raw Materials and Other Inputs used in the

Manufacturing of Luxury Goods

Competitive pressures coming fromthe market attempts of outsiders towin buyers over to their products

Substitutes for Luxury Goods

Potential New Entrants into the

Luxury Goods Industry

Rivalry among competing sellers: A strong competitive force

Students should have little trouble identifying interfirm rivalry as the strongest competitive force in the luxury goods industry. Luxury goods sellers were required to develop and manufacture products that were made from the finest materials, set standards for style, had reputations of quality and prestige that dated back more than 100 years in most cases, were sold in beautiful flagship stores and the finest department stores, and provide levels of customer service discriminating consumers were accustomed to. Students should not characterize competition in the industry as fierce since there is virtually no price competition in the industry.

The bargaining power and leverage of buyers: Both consumers and retailer buyers are weak competitive forces

Regardless of type, buyers had little leverage in negotiating with manufacturers of luxury goods. Consumers had no ability to negotiate pricing with luxury goods manufacturers when shopping in company-operated retail stores. Coach Inc. and most luxury goods makers maintained year-round full price policies.

Department store buyers also had no ability to negotiate pricing with luxury goods makers, since exclusive department stores were defined by the luxury brands they carried. The seller-buyer relationship also favored the world’s top luxury goods makers since limited distribution promoted a feeling of scarcity among consumers.

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Bargaining power and leverage of suppliers: A weak competitive force

Students will suggest the suppliers of fabric and leather used in the production of luxury goods had little ability to negotiate terms with luxury goods sellers. The makers of luxury goods were committed to utilizing the finest materials available in their products, but there’s little reason for students to believe that quality leather and fabrics were not widely available.

Competition from Substitutes: a moderate to strong competitive force

Many substitutes existed for luxury goods in every product category. By definition, luxury goods were not necessities or even things that could improve the quality of one’s life. Luxury goods were possessions that satisfied some type of internal desire for certain consumers. Consumers who did not aspire to own luxury goods were quite willing to purchase substitute products selling at lower price points and might actually refuse the gift of a luxury good.

However, the percentage of consumers in developed countries in North America, Europe, and Asia wishing to own luxury goods was increasing in 2006. The strength of substitute products as a competitive force was more moderate for consumers aspiring to own such products. These consumers had adopted a “trade up, trade down” shopping strategy, whereby they spent little on commodity-type necessities to have more income for luxury items.

It should be difficult for students to argue that competition from substitutes is weak for even the wealthiest consumers, since very few could afford luxury goods in every product category.

Threat of Entry: a weak competitive force

Students will surmise that it is very difficult to establish a new luxury brand. Most exclusive brands have built their reputations over decades (if not longer) and have cultivated loyal customers. Students may also suggest entry into the industry is difficult since its likely consumers of luxury goods are hesitant to spend lavishly on unknown brands. In addition, access to prestigious retailers is likely to be a challenge for upstart luxury brands.

The most likely new entrants are existing luxury goods companies choosing to enter new product categories. The example of Dolce & Gabbana’s D&G diffusion line is an example of entry. Coach’s entry into women’s knitwear is another example of entry into a new product category by an existing firm.

Overall assessment of competition: There should be little disagreement among students that the industry is highly attractive for incumbent luxury goods brands. There is little threat of entry by startups or firms in other industries, buyers and suppliers have little leverage in negotiations with sellers, and the nature of rivalry in the industry tends to exclude price competition. The availability of substitute products does not impact industry attractiveness since luxury consumers prefer the exclusivity of luxury goods and avoid products possessed by the masses. The attractiveness of the industry is confirmed by the size of its average profit margins which approximated 40%-50% for marquee brands and 20% for diffusion brands.

3. How is the market for luxury handbags and leather accessories changing? What are the underlying drivers of change and how might those driving forces change the industry?

Students should be able to identify the following driving forces at work in the luxury handbags and leather accessories industry: Growing demand for ‘accessible luxury’ goods in developed countries. Consumer

tendencies to adopt a “Trade up, trade down” shopping strategy had allowed spending on luxury goods to grow at four times the rate of overall spending in the United States. Both retailers and

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luxury goods manufacturers had altered their strategies in response to the changing buying preferences of middle-income consumers in the U.S. Much of Target’s success was linked to its merchandising strategy that focused on relationships with designers such as Philippe Starck, Todd Oldham, Michael Graves, and Isaac Mizrahi. Manufacturers of the finest luxury goods sought to exploit middle-income consumers’ desire for such products by launching “diffusion lines” that offered “affordable” or “accessible” luxury. In 2006, most leading designer brands had developed sub-brands that retained the styling and quality of the marquee brand, but sold at considerably more modest price points.

Rising incomes in developing economies. In 2004, the worldwide total number of households with assets of at least $1 million increased by 7% to reach 8.3 million. The number of millionaires was expected to increase another 23% by 2009 to reach 10.2 million. With much of the increase in new wealth occurring in Asia and the Eastern Europe, demand for luxury goods in emerging markets was projected to grow at annual rates approaching 10%. Rising incomes and new wealth had allowed Chinese consumers to account for 11% of all luxury goods purchases in 2004. The Chinese market for luxury goods was predicted to increase to 24% of global revenues by 2014, which would make it the world’s largest market for luxury goods.

Increase in counterfeiting of luxury goods. In 2006, more than $500 billion worth of counterfeit goods were sold in countries throughout the world. About two-thirds of all counterfeit goods were produced by manufacturers in China.

4. What key factors determine the success of makers of fine ladies handbags and leather accessories?

We see the following as being key success factors in the luxury segment of the ladies handbag industry:

Luxurious image and reputation for quality. Luxury goods companies were required to possess adequate brand-building skills to develop and maintain an image of luxury. In addition, the procurement and production processes of luxury goods companies must ensure the company’s products were of the finest quality. Luxury goods consumers were not likely to purchase products at high price points that lacked a prestigious image and reputation for quality.

Fashionable and distinctive designs. Luxury handbags manufacturers and marketers were also required to maintain a fresh lineup of distinctively-styled products. Most luxury goods manufacturers retained their most popular items in their product lines for years (and sometimes decades). The development of distinctive and voguish handbags and leather accessories resulted from the artistic talents of developers and the ability of marketers to match creative efforts with consumer preferences.

Aesthetically-pleasing store design and ambiance. Purchasers of luxury handbags expected to shop in retail stores that were aesthetically-pleasing and that provided a comfortable shopping environment. Students are likely to suggest that the exterior and interior design elements of the store helped shape the company’s overall image.

Superior customer service. As with the need for visually-pleasing store designs, luxury handbag retailers were required to maintain knowledgeable and polite sales staffs . Sales personnel were critical to consumers’ purchasing experience, since they had the ability to influence the shopper’s attitude and comfort level, recommend handbags for different occasions and apparel, and inform the customer about special order items. Luxury goods makers were also required to offer retail customers high-quality after-the-sale service in the event a handbag or leather accessory needed to be returned or repaired.

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5. What is Coach’s strategy to compete in the ladies handbag and leather accessories industry? Has the company’s competitive strategy yielded a sustainable competitive advantage? If so, has that advantage translated into superior financial and market performance?

There may be an initial suggestion by students that Coach is competing in the ladies handbag and leather accessories industry with a differentiation strategy keyed to image, product quality, styling, customer service, and attractive retail stores. These observations are correct, but Coach’s production outsourcing arrangements that allow it to price its handbags between $200 and $500 give it a best cost advantage in the industry. The company’s differentiating features compare favorably to other luxury handbag brands that carry entry-level prices of $700 - $800.

Students should also see the importance of Coach’s retail strategy that includes flagship and core retail locations, department stores, and factory stores. The inclusion of discount factory stores allows the company to maintain a year-round full price policy in its full price retail stores. The ability to offer sale priced merchandise, while maintaining exclusivity in the company’s core retail locations was essential to Coach’s growth since 80% of women’s apparel sold in the U.S. was bought on sale or in a discount store. Coach’s factory stores had outperformed full price stores in terms of comparable store sales growth during 2005 and 2006, with comparable factory store sales increasing by 31.9% during 2006 and comparable full price store sales increasing by 12.3% during the year. In addition to factory stores and full price stores, Coach distributed handbags for sale to department stores in the U.S. Coach had eliminated 500 department store accounts between 2002 and 2006 as the share of the U.S. retail market held by department stores declined from about 30% in 1990 to approximately 20% in 2000.

Coach’s wholesale distribution in international markets involved department stores, freestanding retail locations, shop-in-shop locations, and specialty retailers in 18 countries with Japan making up the majority of Coach’s international sales. Coach products in Japan were sold in shop-in-shop department store locations, full price Coach stores, and Coach factory stores. The company had 118 retail locations in Japan in 2006. Coach’s expansion plan for Japan called for at least 10 new stores annually, which would more than double its number of flagship stores to 15. Coach management believed Japan could support 180 stores and that the increase in stores would allow the company to increase its market share in Japan to 15%.

As of late-2006, the company’s strategy had yielded a 1400% increase in its stock price since the October 2000 IPO—see case Exhibit 3. Students who make calculations similar to what we have performed in Table 1 should suggest the company’s growth in revenues and earnings supports the dramatic rise in its stock price. Also, students who calculate key financial ratios such as those shown in Table 2 should be quite impressed with the company’s attractive and growing profit margins, high liquidity, low debt, and frequent inventory turns.

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Table 1 Compounded Annual Growth Rates for Items in Coach's Consolidated Statements of Income, 1999 – 2006

CAGR(1999 - 2006)

Net sales 21.6%Cost of sales 11.5%Gross profit 26.4%Selling, general and administrative expenses 18.8%Reorganization costs n.a.Operating income 45.3%Interest income (expense), net n.a.Income before provision for income taxes 46.3%and minority interestProvision for income taxes 50.9%Minority interest, net of taxNet income 43.9%Net income per shareBasic 37.8%Diluted 37.4%

n.a. not applicableCalculated from case Exhibit 1.

Table 2 Selected Financial Ratios for Coach Inc., 1999 – 2006

Profitability ratios 2006 2005 2004 2003 2002 2001 2000 1999Gross profit margin 77.6% 76.6% 74.9% 71.1% 67.2% 63.6% 59.1% 54.8%Operating profit margin 36.2% 33.5% 30.7% 22.9% 16.4% 16.9% 10.4% 3.9%Net profit margin 23.4% 21.0% 18.0% 13.7% 10.5% 10.7% 7.2% 3.3%

Other profitability ratios 2006 2005Return on assets 30.4% 26.2%Return on equity 41.6% 34.0%

Liquidity ratiosCurrent ratio 2.9 2.7Working capital $632,658 $443,699

Leverage ratiosDebt-to-assets 0.2% 0.2%Debt-to-equity 0.3% 0.3%Times interest earned

Activity ratiosInventory turnover 9.0 9.3Days of inventory 40.36 39.4

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Calculated from case Exhibits 1 and 2.

6. What are the resource strengths and weaknesses of Coach Inc.? What competencies and capabilities does it have that its chief rivals don’t have? What new market opportunities does Coach have? What threats do you see to the company’s future well being?

This is a good case in which to drill students in SWOT analysis and in carefully assessing a company’s competitive assets and competitive liabilities.

Coach’s resource strengths/competencies/capabilities Design process that developed new products based upon market research rather than artistic

preferences of an individual designer.

Procurement contracts that guaranteed the company access to the highest quality leathers.

Offshore production contracts that delivered high product quality and low manufacturing costs.

Licensing agreement with the Movado Group to make Coach-branded watches available in Coach retail stores.

Licensing agreement with Jimlar Corporation that gave Jimlar the right to manufacturer and market Coach-branded ladies footwear. In 2006, Coach footwear was available in 500 locations in the U.S., including department stores and Coach retail stores.

Licensing agreement with Marchon Eyewear that made Coach-branded eyewear and sunglasses available in Coach retail stores, department stores, and specialty eyewear stores. Coach frames for prescription glasses were sold through Marchon’s network of optical retailers.

Strategic alliance with Lutz & Patmos to make women’s knitwear available in Coach stores.

Licensing agreement with Estee Lauder Company to develop a Coach-branded fragrance.

In-house architectural group that created designs for Coach retail stores.

Attractive store designs that were rated 10th among luxury brands in a 2006 Luxury Group survey of 2,000 wealthy shoppers.

Direct-to-consumer channels in the U.S. that included 218 full price stores, 86 factory stores, Internet sales, and catalog sales.

Wholesale accounts with approximately 900 department stores in the U.S.

118 retail stores in Japan

108 wholesale locations in international markets outside Japan

Largest seller of luxury handbags in the U.S. with a 25% market share

Second largest seller of luxury handbags in Japan with an 8% market share

Coach’s resource weaknesses/competitive deficiencies and liabilities Coach is not present in Europe

Products for men accounted for only 2% of the company’s 2006 sales

Business cases accounted for only 1% of sales in 2006

Luggage accounted for only 1% of sales in 2006

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Coach’s market opportunities Pursue growth in rapidly growing international markets for luxury goods such as India and

China.

Further expansion into additional product categories to leverage the Coach brand name.

Develop retail locations in Europe

Develop new product lines targeted to men

External threats to Coach’s future well being Consumers may find diffusion lines offered by more prestigious luxury goods makers more

appealing than Coach products.

Any recessionary effects in the U.S. or Japan may cause middle-income consumers to abandon aspirations for luxury goods.

Consumers may begin to view Coach as an inferior brand because of the company’s factory stores.

This assessment confirms that Coach Inc. is in strong position. Its resource strengths are considerable and it currently enjoys a position of leadership in the luxury handbags industry.

7. What recommendations would you make to Lew Frankfort to improve the company’s competitive position in the industry and its financial and market performance?

Students’ analysis of the luxury goods industry and Coach’s competitive position in the industry should lead them to the development of a strategic action plan containing the following items:

The company should continue to develop distinctive and fashionable handbags since rivalry includes an important focus on the distinctiveness and quality of products. It’s important that Coach continue to launch a steady stream of the best-looking and most fashionable handbags every month or more often. The company’s design teams should also develop new lines and new models of existing lines to sustain growth in sales. Coach must ensure its designs don’t fall behind those of other luxury handbags manufacturers.

Students will also be quick to recommend that Coach pursue its plans to double the number of stores in North America. The U.S. market should be able to support 500 or more Coach stores because of the company’s pricing strategy. Coach handbags are priced so that consumers in most any city are able to afford the product. Students are likely to recommend that Coach managers pursue any local market where a large enough population exists to meet sales volume expectations. There should also be little disagreement with the company’s plans to increase factory stores by a third. An increase of approximately 30 factory stores would bring the total count of factory stores to about 120. An average of just over two factory stores per state should not damage the company’s brand image. In addition, students should firmly support the company’s policy of locating its factory stores no closer than 50 miles from full price stores.

You should also expect students to recommend that the company pursue its expansion plans in Japan and emerging markets in Asia. It’s essential that the company sustain its growth in Japan, since it’s the world’s largest market for luxury goods. The company should also add to its planned opening of 10 stores in China since that country was projected to become the world’s largest market for luxury goods by 2014. Growth in income and wealth in India also make it a strong candidate for international expansion.

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The company should also develop new business cases designed for women business professionals. The addition of a broader line of business cases tailored to women should help improve the company’s sales of such products. Students may suggest it will be more difficult to increase sales of products for men since many men may not want to shop in a “ladies handbag” store. The company may have to expect sales of men’s items to be in the form of gifts purchased by women for the near future.

Students may suggest that the company protect against counterfeiting by placing tight controls on contract manufacturers. The theft of handbag patterns or fabrics would make it easy for illegally operated shops to turn out very authentic-looking fakes. The company should also aggressively pursue the sellers of knockoffs in the U.S. and Asia.

Some students may argue against adding Coach branded products that are not closely related to ladies handbags. For example, footwear is a clear example of a product that is able to benefit from the Coach brand, but knitwear and fragrances may prove to be a stretch. Product categories that seem to be able to benefit from the Coach brand are ladies leather jackets and gloves.

EpilogueCoach Inc. recorded net sales of $1.4 billion during the first six months of fiscal 2007, which was a 26% increase over the same period in fiscal 2006. Net income for the six month period ending December 31, 2006 increased 32% from the same period in fiscal 2006 to reach $353 million. In January 2007, the total number of Coach retail stores in the U.S. stood at 237 and the total number of U.S. factory stores stood at 90. The company expected to open a total of 40 additional retail stores in North America during fiscal 2007. Some of Coach’s new locations to be opened in fiscal 2007 would be Coach Legacy Boutiques. The Legacy Boutiques were a new store concept that showcased the company’s most innovative items in an intimate store design that had a residential feel. The company expected to open 20 new stores in Japan during fiscal 2007.

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5. Panera Bread CompanyTeaching Notes

Overview As Panera Bread Company headed into 2007, it was continuing to swiftly expand its market presence. The company’s strategic intent was to make great bread broadly available to consumers across the United States. It had opened 155 new company-owned and franchised bakery-cafes in 2006, bringing its total to 1,027 units in 36 states. Plans were in place to open another 170 to180 café locations in 2007 and to have nearly 2,000 Panera Bread bakery-cafés open by the end of 2010. Management was confident that Panera Bread’s attractive menu and the dining ambiance of its bakery-cafés provided significant growth opportunity, despite the fiercely competitive nature of the restaurant industry. Panera Bread competed with specialty food, casual dining and quick service restaurant retailers including national, regional and locally owned restaurants. Its closest competitors were restaurants in the so-called “fast casual” restaurant category. Fast casual restaurants filled the gap between fast-food and casual, full table service dining. A fast casual restaurant provided quick-service dining (much like fast-food enterprises) but were distinguished by enticing menus, higher food quality, and more inviting dining environments; typical meal costs per guest were in the $7-$12 range. Some fast casual restaurants had limited table service and some were self-service (like fast-food establishments). Between January 1999 and December 2006, close to 850 additional Panera Bread bakery-cafés were opened, some company-owned and some franchised. Panera Bread reported sales of $829.0 million and net income of $58.8 million in 2006. Sales at franchise-operated Panera Bread bakery-cafés totaled $1.2 billion in 2006. Already Panera Bread was widely recognized as the nationwide leader in the specialty bread segment. In 2003, Panera Bread scored the highest level of customer loyalty among quick-casual restaurants according to a study conducted by TNS Intersearch. The J.D. Power and Associates’ 2004 Restaurant Satisfaction Study of 55,000 customers ranked Panera Bread highest among quick service restaurants in the Midwest and Northeast regions of the United States in all categories, which included environment, meal, service, and cost. In 2005, for the fourth consecutive year, Panera Bread was rated among the best of 121 competitors in the Sandleman & Associates national customer satisfaction survey of more than 62,000 consumers. Panera Bread had also won “Best of” awards in nearly every market across 36 states. The case lays out Panera Bread’s strategy in some considerable detail, plus it provides good financial data on Panera, information about the fast-casual segment of the restaurant industry, and brief coverage of Panera’s chief rivals.

Suggestions for Using the Case The Panera Bread case is a good vehicle for having students identify a company’s strategy and evaluate its pros and cons. There is plenty of information in the case for students to conduct a full-blown SWOT analysis (see Section II). Doing a SWOT analysis, evaluating Panera’s financial performance, and sizing up the competition from rival restaurant chains constitutes the bulk of the analysis that student will need to do here, once they get a solid grip on Panera’s competitive strategy (which mirror that of broad differentiation). The relatively modest length of the case will please students, and students will easily grasp the nature of Panera’s business. Because the analysis of Panera Bread is not as demanding as several of the other cases, it is highly suitable for an early case assignment. You can assign the Panera Bread case anytime after coverage of Chapter 1 and Section III. There is a splendid accompanying video for the Panera Bread case—about 10 minutes in length—which we suggest showing at the very beginning of the class discussion. Alternatively, you can show the video just prior to asking students for their recommendations on what Panera Bread should do.

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We heartily recommend use of the Panera Bread case for written assignments and oral team presentations. Three good assignment questions are: 1. Panera Bread management has employed you as a consultant and asked you to assess the company’s strategy, competitive market position and overall situation, and recommend a set of actions to improve the company’s future prospects. Please prepare a report to the senior executives at Panera Bread that includes

an identification of the key elements of the company’s strategy, a discussion of which of the competitive strategies described in Chapter 1 seem most closely

match the competitive strategy that Panera bread is employing, the pros and cons of the company’s strategy, an assessment of Panera’s strengths, weaknesses, opportunities and threats, an evaluation of Panera Bread’s financial performance, which rival restaurant chains appear to be Panera’s closest rivals, the strategic issues and problems that Panera Bread’s management needs to address, and a set of action recommendations to deal with these issues and problems.

Your report should be 5-6 pages, plus it should include an assortment of charts, tables, and exhibits to support your analysis and recommendations. 2. (Short written case assignment) What are the pros and cons of Panera Bread’s strategy? What evidence indicates that the strategy is working well or not so well?3. (Short written case assignment) What does a SWOT analysis reveal about Panera Bread’s overall situation?

Assignment Questions 1. What is Panera Bread’s strategy? Which of the competitive strategies discussed in Chapter 1 most closely fit the competitive approach that Panera Bread is taking? What type of competitive advantage is Panera Bread trying to achieve? 2. What does a SWOT analysis of Panera Bread reveal about the overall attractiveness of its situation? Does the company have any core competencies or distinctive competencies? 3. What is your appraisal of Panera Bread’s’s financial performance based on the data in case Exhibits 1, 2 and 8? How well is the company doing financially? Use the financial ratios in Section III as a guide in doing the calculations needed to arrive at an analysis-based answer to your assessment of Panera’s recent financial performance. 4. Based on the information in case Exhibit 9, which rival restaurant chains appear to be Panera’s closest rivals? 5. What strategic issues and problems does Panera Bread management need to address? 6. What does Panera Bread need to do to strengthen its competitive position and business prospects vis-à-vis other restaurant chain rivals?

Teaching Outline and Analysis 1. What is Panera Bread’s strategy? Which of the competitive strategies discussed in Chapter 1 most closely fit the competitive approach that Panera Bread is taking? What type of competitive advantage is Panera Bread trying to achieve? The driving concept behind Panera Bread was to provide a premium specialty bakery and café experience to urban workers and suburban dwellers. Its artisan sourdough breads made with a craftsman’s attention to quality and detail and its award-winning bakery expertise formed the core of the menu offerings. Panera Bread specialized in fresh baked goods, made-to-order sandwiches on freshly baked breads, soups, salads, custom roasted coffees and other cafe beverages. Panera’s target market was urban workers and suburban dwellers looking for a quick service meal and a more esthetically pleasing dining experience than that offered by traditional fast food.

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Management’s long-term objective and strategic intent was to make Panera Bread a nationally recognized brand name and to be the dominant restaurant operator in the specialty bakery-café segment. Two key objectives were to expand the number of Panera Bread locations by 17 percent annually through 2010 (see Exhibits 3 and 4) and to achieve earnings per share growth of 25 percent annually.

The Chief Elements of Panera Bread’s Strategy Grow the business rapidly by opening both company-owned and franchised outlets.

Panera Bread’s franchising strategy was to enter into franchise agreements which required the franchise developer to open a number of units, typically 15 bakery-cafes in a period of 6 years. Franchisee candidates had to be well-capitalized, have a proven track record as excellent multi-unit restaurant operators, and agree to meet an aggressive development schedule. Applicants had to meet eight stringent criteria to gain consideration for a Panera Bread franchise.

Create a menu featuring “crave-able” food that people trust, serve the food in a warm, community gathering place that makes guests feel comfortable, and provide great service. Management believed that the company’s key to success was “Product, Environment, and Great Service (PEGS).”

A distinctive menu that positioned Panera Bread to compete successfully in five sub-markets of the food-away-from-home industry: breakfast, lunch, day-time ‘‘chill out’’ (the time between breakfast and lunch and between lunch and dinner when customers visited its bakery-cafes to take a break from their daily activities), light evening fare for eat-in or take-out, and take home bread.

Regularly review and revise the menu to sustain the interest of regular customers, satisfy changing consumer preferences; and be responsive to various seasons of the year.

Include healthy items on the menu. Add more menu items to attract patron to have a light dinner at Panera. A signature café design with inviting ambiance—make Panera “better than the guys across the

street” and make the experience of dining at Panera so attractive that customers will be willing to pass by the outlets of other fast-casual restaurant competitors to dine at a Panera Bread bakery-café. Each bakery-cafe sought to provide a distinctive and engaging environment (what management referred to as “Panera Warmth”), in many cases using fixtures and materials complementary to the neighborhood location of the bakery-cafe.

Locate Panera Bread units in suburban, strip mall, and regional mall locations. In evaluating a potential location, Panera studied the surrounding trade area, demographic information within that area, and information on competitors. Based on analysis of this information, including utilization of predictive modeling using proprietary software, Panera developed projections of sales and return on investment for candidate sites. Cafés had proven successful as free-standing units, as both in-line and end-cap locations in strip mall, and in large regional malls.

Supply dough to all Panera Bread stores, both company-owned and franchised—dough-making operations functioned as a profit center. Management believed the company’s fresh dough-making capability provided a competitive advantage by ensuring consistent quality and dough-making efficiency (it was more economical to concentrate the dough-making operations in a few facilities dedicated to that function than it was to have each bakery-café equipped and staffed to do all of its baking from scratch).

Introduce a catering program to extend its market reach into the workplace, schools, and parties and gathering held in homes. Panera management saw catering as an opportunity to grow lunch and dinner hour sales without making capital investments in additional physical facilities.

Compete on the basis of providing an entire dining experience rather than by attracting customers on the basis of price only. Strive to make dining at Panera a good value—meaning high quality food at reasonable prices—so as to encourage frequent visits.

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Do extensive market research, including utilizing focus groups, to determine customer food and drink preferences and price points.

Grow sales at existing Panera locations through menu development, product merchandising, and promotions at every day prices and by sponsorship of local community charitable events.

Build the Panera Bread brand name and grow consumer awareness of Panera. Franchise-operated bakery-cafes were required to contribute 0.7% of their sales to a national advertising fund and 0.4% of their sales as a marketing administration fee and were also required to spend 2.0% of their sales in their local markets on advertising. Panera contributed similar amounts from company-owned bakery-cafes towards the national advertising fund and marketing administration. The national advertising fund contribution of 0.7% had been increased from 0.4% starting in 2006. Beginning in fiscal 2006, national advertising fund contributions were raised to 0.7% of sales, and Panera could opt to raise the national advertising fund contributions as high as 2.6 percent of sales.

Raise the quality of awareness about Panera by continuing to feature the caliber and appeal of its breads and baked goods, by hammering the theme “food you crave, food you can trust,” and by enhancing the appeal of its bakery-cafés as a neighborhood gathering place.

Boost consumer trials of dining at Panera Bread at multiple meal times (breakfast, lunch, “chill out” times, and dinner).

Avoid hard-sell or “in your face” marketing approaches; instead employ a range of ways to softly drop the Panera Bread name into the midst of consumers as they moved through their lives and let them “gently collide” with the brand—the idea was to let consumers “discover” Panera Bread and then convert them into loyal, repeat customers by providing a very satisfying dining experience when they tried Panera bakery-cafés for the first time or opted to try dining at Panera at a different part of the day particularly during breakfast or dinner as opposed to the busier lunchtime hours.

Increase perception of Panera Bread as a viable evening meal option and attract consumers to try Panera for dinner (particularly among existing Panera lunch customers).

We think students should have little trouble recognizing the Panera Bread’s competitive strategy most closely resembles that of a broad differentiation strategy. Management, we believe, is striving to build a competitive advantage based on the triple combination of Product, Environment, and Great Service (PEGS).

2. What does a SWOT analysis of Panera Bread reveal about the overall attractiveness of its situation? Does the company have any core competencies or distinctive competencies? Panera’s Resource Strengths and Competitive Assets

An attractive and appealing menu (see case Exhibit 6)—Panera offers high quality food at a good price (the company delivers good value for the money); moreover, it has menu offerings for the more health/weight-conscious diner

Bread-baking expertise (definitely a core competence)—artisan breads are Panera’s signature product

Panera Bread is the nationwide leader in the bakery-café segment Panera Bread has high ratings in customer satisfaction studies A good brand name that management is continuing to strengthen The fresh dough operations and sales of fresh dough to franchised stores is a source of revenue

and profit (see case Exhibit 1 showing that fresh dough cost of sales to franchisees run well below the revenues from fresh dough sales to franchisees)

Initial success in catering—extends the company’s market reach

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Has attracted good franchisees—sales at franchised stores run a bit higher than those at company-owned stores (see case Exhibit 2)

The financial strength to fund the company’s growth and expansion (see case Exhibit 1) without burdening the company’s balance sheet unduly with debt

Panera’s Resource Weaknesses and Competitive Liabilities A less well-known brand name than some rivals (Applebee’s, Starbucks) Sales at franchised stores run a bit higher than those at company-owned stores—why is this

occurring? Are franchisees better operators? Panera’s Market Opportunities

Open more outlets, both company-owned and franchised—there is untapped growth potential in a number of suburban markets as shown in case Exhibit 3

Open Panera Bread locations outside the U.S. as market opportunities in the U.S. begin to dry up External Threats to Panera’s Future Well-Being and Profitability

Rivals begin to imitate some of Panera’s menu offerings and/or dining ambience, thus stymieing to some extent Panera’s ability to clearly differentiate itself from rival chains

New rival restaurant chains grab the attention of consumers and draw some patrons away from Panera—in other words, competition from other restaurant chains (either those in the fast-casual segment or other restaurant categories) becomes more intense

Panera Bread begins to saturate the market with outlets, such that it becomes harder to find attractive locations for new stores and the company’s growth slows

Conclusions concerning the attractiveness of Panera Bread’s overall situation: It is nearly always a good idea to impress upon students that SWOT analysis involves more than making four lists. One of the most important parts of SWOT analysis is drawing conclusions from the SWOT listings about the company’s overall situation. The above SWOT listings for Panera Bread reveal that Panera has some formidable resource strengths/competitive assets and few resource weaknesses/competitive liabilities. And it seems to have adequate market opportunities. Panera’s external threats are, on the whole, modest. Hence, Panera’s overall situation is attractive and its future prospects seem very promising. The company has a good strategy. It has been successful so far in differentiating itself from other restaurant chains. It has plenty of growth opportunities it can pursue for several years to come, and it has the resource strengths and capabilities to pursue them. 3. What is your appraisal of Panera Bread’s financial performance based on the data contained in case Exhibits 1, 2, and 8? How well is the company doing financially? It is beneficial to push class members to be a regular user of the financial ratios in Section III in doing the number-crunching needed to arrive at an analysis-based answer to their assessment of Panera’s recent financial performance. If your students do a creditable job of poring through the data in case Exhibits 1 and 2 and crunching some numbers, they should come up with the following:

Panera’s total revenues have grown from $282.2 million in 2002 to nearly $829 million in 2006, equal to a strong compound average growth rate (CAGR) of 30.9%.

Franchise royalties and fees are up from $27.9 million in 2002 to $61.5 million in 2006, a CAGR of 21.8%.

Fresh dough sales to franchisees have grown from $41.7 million (14.8% of total revenues) in 2002 to $101.3 million (12.2% of total revenues) in 2006, a CAGR of 24.8%.

Net income is up from $21.3 million in 2002 to $58.8 million in 2006, a CAGR of 28.9%. EPS is up from $0.71 per diluted share to $1.84 per diluted share, a CAGR of 27.6%. Net cash provided by operating activities rose from $46.3 million in 2002 to $104.9 million in

2006, a CAGR of 22.7%. Fresh dough sales to franchisees is a nicely profitable and growing part of Panera’s business:

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2006 2005 2004 2003 2002 Fresh dough sales to franchisees (in millions of $) $101.3 $86.5 $72.6 $61.5

$41.7 Fresh dough cost of sales to franchisees (in millions of $) 85.6 75.0 65.6 55.0 38.4 Contribution profit (or gross profit) from fresh dough sales to franchisees (in millions of $) $15.7 $11.5 $7.0 $6.5 $3.2

The following table shows various operating and financial ratios calculated from case Exhibit 1:

Bakery café expenses as a % of bakery café sales 2006 2005 2004 2003 2002 Food and paper products 29.6% 28.6% 28.1% 27.8% 29.8% Labor 30.8 30.3 30.6 30.5 29.7 Occupancy 7.3 7.5 7.4 7.1 7.2 Other operating expenses 13.8 14.0 14.1 13.8 13.2 Total bakery café expenses 81.5% 80.4% 80.2% 79.2% 79.9% General and administrative expenses as a % of total revenues 7.2% 7.2% 7.0% 7.7% 8.9% Operating profit as a % of total revenues (operating profit margin) 11.0% 12.7% 12.9% 13.7% 12.0% Net income as a % of total revenues (net profit margin) 7.1% 8.1% 8.0% 8.4% 7.5% Current ratio 1.16 1.18 1.05 1.58 1.83 Working capital $18.0m $15.9m $2.5m $26.4m $26.9m Net income as a % of stockholders’ equity (ROE) 14.8% 16.5% 15.9% 15.8% 14.1% The numbers in the table show fractional increases in Panera’s bakery café operating expense percentages (not a desirable trend!), declines in the G&A expense percentage (which is good), some erosion of the operating profit margin and net profit margin over time (definitely not a good trend!), declines in liquidity (as measured by the current ratio and working capital numbers), and a fluctuating but still acceptable ROE.

Overall, the data in case Exhibit 1 show that Panera is growing quite rapidly and is performing well, although not spectacularly. There are, as noted above, some areas of concern; while the areas of weakness as of 2006 are far from alarming, management should be concerned.

There are some important numbers of interest in case Exhibit 2: Revenues at company-operated stores have risen from $125.5 million in 2000 to $666.1 million

in 2006, a healthy CAGR of 32.1%. Revenues at franchised stores have risen from $199.4 million in 2000 to $1,245.5 million in

2006, an even healthier CAGR of 35.7%. Systemwide store revenues have risen from $324.9 million in 2000 to $1,911.6 million in 2006,

also a quite healthy CAGR of 34.4%. Average annual revenues per company-operated bakery café have risen from $1,473,000 in 2000

to $1,967,000 in 2006, a CAGR of 4.9%. Average annual revenues per franchised bakery café have risen from $1,707,000 in 2000 to

$2,074,000 in 2006, a CAGR of 3.3%. While sales growth at franchised cafés has been slower, the level of sales is higher (although the gap seems to be narrowing).

Comparable bakery café sales percentage increases (which refers to the rate at which sales at existing bakery-cafés are growing once they have been open a year or more) were fairly strong (in the mid-single digits or higher) in 2005 and 2006, up nicely from the sluggish growth

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experienced in 2003-2004. The 2005-2006 percentage sales gains were comparable to those during 2000-2002.

There is also some important financial performance data of interest in case Exhibit 8: Students should see that the lion’s share of Panera Bread’s revenues and profits come from its

operations of company-owned bakery-cafés. Panera’s profits from franchise operations are quite lucrative. For instance in 2006, revenues

from franchise operations were $61.5 million and operating profits from this business segment were $54.2 million—equal to a terrific 88.1% profit margin. The operating profit margins in 2002-2005 were also quite impressive. Hence continuing to open more new franchised stores is quite important to the company’s bottom-line.

Fresh dough operations are a distant third among the three business segments in contributing to operating profits.

Operating profit as a % of revenues is highest for franchise operations, second highest for company bakery-café operations (equal to 18.5% in 2006, 19.6% in 2005, and 19.8% in 2004), and third highest in fresh dough operations (9.9% in 2006, 9.0% in 2005, and 6.7% in 2004).

The company’s capital expenditures were $109.3 million in 2006, of which $86.7 million (or 79.3%) was for company bakery-café operations (presumably most of which went to pay for opening new company-operated cafés)

Conclusions: On the whole, we would rate Panera Bread’s overall financial performance as a B+. The company’s growth rate is quite strong, meriting a grade of A- to A. Clearly, the company’s strategy is working from the standpoint of delivering strong growth and good profitability.

4. Which rival restaurant chains appear to be Panera’s closest rivals? The data in case Exhibit 9 provides a fairly complete list of the primary restaurant chains that could be considered as competing in some way with Panera Bread. Those chains which seem most likely to be Panera Bread’s closest competitors include:

Atlanta Bread Co. Applebee’s Bruegger’s California Pizza Kitchen Corner Bakery Café Jason’s Deli McAlister’s Deli Noodles & Company

and to a lesser extent: Cracker Barrel Chili’s Grill and Bar

5. What strategic issues and problems does Panera Bread management need to address? There are several issues that students might wisely choose to put on Panera Bread management’s worry list:

What to do to correct Panera Bread’s narrowing profit margins. What more to do, if anything, to try to boost Panera’s traffic counts at its stores during dinner

hours. What actions to take to boost sales at company-owned bakery cafés (and put them more on a par

or even above the annual and weekly sales levels being achieved at franchised cafés)

6. What does Panera Bread need to do to strengthen its competitive position and business prospects vis-à-vis other restaurant chain rivals?

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There are no big or threatening problems/issues that needs fixing or correcting at Panera Bread. There is certainly no need to overhaul or do major surgery on the company broad differentiation strategy. But there are some actions that students should definitely recommend: Perhaps the most important thing Panera Bread management can do to further solidify the

company’s market standing and competitive position is to continue to open new stores at a rapid clip. There is a first-mover advantage in securing prime retail locations in urban areas—the first restaurants to open in a hot new location or area have a jump on attracting customers, cultivating a loyal clientele, and establishing their brand—it is sometimes harder on the second and third newcomers to justify a big investment in a new facility because of having to compete directly against already existing establishments. Case Exhibit 3 shows the locations where Panera Bread has little or no market penetration.

Attack the causes of Panera Bread’s eroding operating and net profit margins. This probably entails doing a bit better job of controlling expenses at Panera’s company-owned bakery cafés and perhaps increasing menu prices very slightly (1-2%) if cost savings sufficient to restore profit margins to 2002-2003 levels cannot be identified.

Continue to work hard on developing new menu items that will drive up traffic counts at Panera locations, particularly during the evening meal hours when traffic is somewhat light.

Continue with the strategy of opening both company-owned and franchised stores. The recent mix/ balance of new company-owned store openings and new franchised store openings (see the bottom of case Exhibit 2) seems about right. Opening more franchised stores is essential to continuing to open so many stores annually—trying to raise the percentages of company-owned stores would likely strain Panera Bread’s balance sheet (due to the need to take on additional debt—each new store costs roughly $2+ million, according to the data in case Exhibit 7). Panera Bread is already spending about $110 million on capital expansion annually (see the capital expenditures data in case Exhibit 8); to cut back on the number of newly-opened franchised stores and thereby pave the way to increase the number of newly-opened company stores would strain Panera’s financial resources.

Epilogue Panera Bread reported first quarter 2007 revenues of $240 million (up 24% from the first quarter of 2006) and net income of $15 million (equal to $0.47 per diluted share). The company’s net income and diluted EPS for Q1 of 2007 matched the net income of $15 million and $0.47 per diluted share for Q1 of 2006. The company opened 31 new bakery-cafés systemwide in Q1 of 2007, bringing its total to 1,101 bakery-café locations (430 company-owned and 671 franchised). During the first quarter of 2007, comparable bakery-café sales decreased 0.6% at company-owned bakery-cafés and increased 0.2% for franchise-operated bakery-cafés. System-wide average weekly sales declined by 2.9% to $38,359 ($36,839 for company-owned cafés and $39,313 for franchise-operated cafés). Management estimated that its comparable bakery-cafe sales in the first quarter of 2007 were lower than expected by approximately 1.0% due to extreme weather experienced in its largest markets. Lower comparable bakery-cafe due to weather had a significantly higher impact on earnings because of the inability to rapidly reduce food and labor in the face of inclement weather. In April 2007, Panera’s comparable bakery-café sales increased an average of 3.1%—2.1% at company-owned cafés and 3.6% at franchised cafés.During the first quarter of 2007, Panera Bread purchased 51% of the outstanding stock of Paradise Bakery and Café, owner and operator of 22 company-owned bakery-cafes and 22 franchise-operated bakery-cafes. Of the 31 new bakery-cafés opened system-wide, 14 were company-owned and 17 were franchise-operated, including 2 franchise-operated Parad.ise bakery-cafes), Four bakery-cafés were acquired from a franchisee and one company-owned bakery-café was closed. The total of 1,101 bakery-cafés open at the end of Q1 of 2007 included 46 Paradise bakery-cafés.

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Bakery-café openings were forecasted to be 32 (15 company-owned and 17 franchise-operated) in Q2 of 2007 compared to 43 (18 company-owned and 25 franchised-operated) in Q2 of 2006. For full-year 2007, Panera management was forecasting it would open 180-194 new bakery-cafés, about equally divided between company-owned and franchised. There were no other developments of significance to report at the time this TN was prepared. For the very latest information on developments at Panera Bread, we urge that you check the press releases and the investor relations sections at www.panerabread.com.

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http://www.panerabread.com/

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