David and Tom Gardner recently interviewed Starbucks
TMF: Let's talk about expansion a little bit now. Orin, Starbucks has had a somewhat bumpy ride outside of the U.S. Your Japanese joint venture racked up its first net loss last year. You have closed all six of your stores in Israel. Why has Starbucks struggled some internationally?
Smith: We really haven't struggled any more internationally than we did domestically. What we never reported on as we were growing domestically were those markets where we were struggling. We had, as we rolled out across the U.S., markets where people adapted to the coffee house very swiftly. Markets like Washington, D.C., West Los Angeles, New York City, and Boston. Then we had markets like Denver and San Diego and St. Louis that were very slow adopters. We have the same phenomenon taking place in the international scene. What I have to tell you is that almost half of our 32 markets now are as profitable or more profitable than the U.S. market. Another 30% of our markets are on a trajectory to be so. They are just too young of a market to be at that level yet. So while we have had a couple of stumbles, they have received far more attention than the 90% that has been progressing remarkably well.
TMF: What can investors expect to see in terms of profitability abroad? When might it happen overall and do you expect the same rate of profitability as here domestically?
Smith: I expect that we will be profitable in the international business this year. That should continue on forward because most of these markets are doing so well now. At some point, I expect that the number of stores internationally will exceed the U.S. I think that in the aggregate, those stores will be as profitable or more so than the U.S. in terms of our profitability because we don't have full ownership. The amount of profits will be less than the U.S., but the return on investment will be higher.
TMF: Why is that?
Smith: We have to have partners in order to roll out rapidly enough to preempt our competition. We get coffee every place in the world. In the major markets we have to move swiftly and we don't have the human resources to do that effectively without losing a lot of money. So we get very well established and capable partners in these markets who have been making, on balance, the majority of the investments. So we get a royalty, we don't have large investments in most of the places so the return is very high and the partners are doing very well because the profitability often meets or exceeds what it is in the U.S.
Tomorrow: overcoming the French resistance.