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How Starbucks Could Make More by Selling Less

http://www.fool.com/investing/general/2014/02/18/how-starbucks-could-make-more-by-selling-less.aspx

Andrew Marder
February 18, 2014

According to a report from The Wall Street Journal last year, in China, a Starbucks (NASDAQ: SBUX) grande latte costs $0.64 in raw materials. That covers the cup, lid, sleeve, sweeteners, milk, and espresso. Clearly, the biggest costs are the milk and the espresso. For illustrative purposes, let's make an assumption that the other pieces cost around $0.14 -- the cup being the biggest chunk of that. That means Starbucks is spending $0.50 on milk and coffee. While these numbers are quoted for China, they work out surprisingly close to the same prices in the U.S.

In a grande latte, there are two ounces of espresso, with 14 ounces of steamed milk. The exact costs don't make or break the point, but for argument's sake, we're going to assume milk makes up $0.35 of the cost, and espresso makes up the final $0.15. Knowing all that, if you were looking to make more profit per drink, where would you shave off costs?

The value of going short
One of Starbucks' public secrets is that they offer things not listed on the menu. The most surprising of these is the existence of an additional size -- the eight-ounce "short" drink. The short is Starbucks' ticket to increased coffee profit.

In a short, one shot of espresso mixes with seven ounces of milk. That means that the product cost -- based on our earlier estimates -- is around $0.25. I'm here to tell you that a short latte doesn't cost the consumer 50% of a grande's price -- in fact, it runs closer to 66%. So, why doesn't Starbucks make more out of the short size?

The answer is the same reason real estate agents sell houses and not lemonade instead -- pure cash.