Is the Starbucks Verismo a Failure?

When Starbucks (SBUX 1.74%) launched its Verismo home brewing system in 2012 around the holiday season, it did so with a huge in-store kickoff that included displays, demonstrations, and free samples. Those efforts were periodically toned down and ramped up throughout 2013 with another big push coming in the run-up to Christmas, when not only was the machine given a lot of floor space in many locations, its base model was sold for $99 -- less than half the $199 it cost at launch. (The base model System 580 is now selling for $119 on Starbucks.com while the more compact System 583 goes for $149, and the top-of-the-line 60 sells for $199).

Now with Mother's Day just passed and Father's Day ahead, the Starbucks I frequent most often has no sign of the Verismo machines and a very limited selection of pods. Three other Starbucks in my area have the machine in stock, but only a sliver of shelf space is being devoted to the home-brewing system, far less than what's dedicated to the company's Via instant coffee line and its offering of K-Cups for Keurig Green Mountain's (GMCR.DL) sort-of-rival home brewer.

This picture taken at the Starbucks on Main Street in Newington, Conn., shows the entire space devoted to the Verismo line as of May 11. 

This is certainly anecdotal evidence at best, but Starbucks appears less committed to carving out a piece of the home brewing market for its own machine and more interested in selling products for Keurig's machines and its own line of instant coffee. A leading expert in the field agrees that the Verismo has fallen as a priority for the chain.

"We don't believe it's selling well, and there has been a steady decline in the system," Jay Brewer of SingleServeCoffee.com, a leading blog covering the single-serve coffee market, told the Fool. "There's more interest in Via and their K-Cups. We have also never seen any advocates for the Verismo in our forums or in the comments of any of the articles." 

What is a Verismo?

Starbucks describes the Verismo as using "Swiss-engineered high-pressure technology" along with exclusive milk and coffee pods "to create Starbucks-quality drinks at your fingertips." 

In less flowery terms, Verismo can make regular coffee drinks along with lattes. This is somewhat novel in the United States -- Keurig's K-Cup machine doesn't make lattes while Nestle's (NSRGY 0.74%) Nespresso line until recently only made espresso drinks. The Starbucks machine offers coffee pods, which make a traditional cup of coffee, and espresso pods, which make an espresso shot. Pair an espresso pod with a milk pod and you have a product that approximates the drinks sold in Starbucks stores (you can even buy the flavor syrup and chocolate/caramel drizzle used in-store).

From launch, Starbucks faced a challenge with Verismo -- it has to offer drinks that are price-competitive to other home brewers without massively undercutting the price offered in Starbucks stores, or else customers might stay home and rob the chain of other sales opportunities that come from having customers visit its locations. Starbucks coffee pods cost around $1 each. One pod makes a roughly six-ounce cup of coffee -- about half the size of a "tall" at Starbucks, which costs around $2 (though prices vary from market to market). That's a little higher on average than the company's K-Cup packs, which it sells online for $19.95 for 24.

Starbucks roughly maintains the half-the-size, half-the-ratio model for its lattes, which require an espresso and a milk pod. The company sells a pack of eight espresso and eight milk pods for $12.95. One of each pod is used in making a latte that comes in around six ounces (maybe a little less) costing a little over $1.60 -- a little less than half the cost of a tall latte in most Starbucks (the price goes up a little at home when you factor in buying syrups and drizzles).

What is Starbucks' plan?

Starbucks did not respond to my request for information on Verismo sales and the company did not mention the home brewing system in its annual report. In fact the company has said precious little about Verismo, though CEO Howard Schultz was clearly excited by its prospects when it launched. He spoke about the brewer in an earnings call in January 2013 when the company claimed it had sold 150,000 brewers in its first quarter of 2013.

"We remain committed to attaining leadership in the single-serve category, and I can tell you today that with Verismo we are in the nascent stage of building a multi-billion-dollar platform for Starbucks over the long term," said Schultz. "And we are in it for the long term."

The company may be committed for the long term in the sense that it's not going to stop selling Verismo, but it's hard to see Starbucks making a dent in Keurig's near-total market share. Keurig had $4.3 billion in total sales in 2013 with $3.1 billion of that coming from portion pack sales and $827.6 million coming from Keurig Single Cup Brewer and accessories net sales. Almost all of that revenue came from the United States and Canada. Starbucks could, however, pass Nespresso for second place in the U.S. as Nestle's brewer line had only $300 million in sales in the U.S. in what the company estimates is a nearly $5 billion market for coffee pods/capsules. 

Starbucks can take a long view

Verismo may not succeed in the sense that it takes significant market share away from Keurig, but that doesn't mean Starbucks' single-cup/home brew strategy has failed. Starbucks has a devoted fan base and it has hedged its bet with that crowd by offering a multitude of home-based solutions for those wanting a single cup. It probably rankles Starbucks execs to have to cut Keurig in on the action when it sells a Starbucks-branded K-Cup, but that partnership makes Starbucks coffee available to the widest possible audience.

If Starbucks stopped offering K-Cups it might sell a few more Verismo units, but it would be doing so at the expense of locking itself out of a huge established user base for Keurig machines. That move might have a ripple effect where dedicated Starbucks fans try other brands -- perhaps Dunkin' Donuts (NASDAQ: DNKN) K-Cups -- so Starbucks was smart to partner with its rival while also building competitive offerings.

By not having all its eggs in one basket Starbucks has the luxury of being able to take a slow growth approach with Verismo. Even if the company only manages to get into a fraction of the homes Keurig has, every actively used Verismo becomes a bit of an annuity for the company, which can rack up pod and accessory sales.

With Verismo plus the Starbucks K-Cup offering along with the company's Via line (which just needs hot water), the company might not have achieved the single-serve at-home dominance it hoped for but it has a strategy that covers a lot of bases. That may not be enough to crack Keurig's hold on the at-home single-serve market but it should help Starbucks maximize revenue from its own loyal customers.