Brewing Success: Café Coffee Day Is on a Roll Published: June 26, 2008 in India Knowledge@Wharton V.G. Siddhartha, chairman of the Bangalore-based Amalgamated Bean Coffee Trading Co. (ABC) and the man behind India's largest café chain, Café Coffee Day (CCD), has set his team a stiff target: By March he wants to expand the chain to 950 cafés. From where it stands today, with 595 cafés across 100 cities in India, three in Vienna, and two in Karachi, this means opening more than one café a day -- and not just in India. Siddhartha has strong global ambitions: He wants 50 of these cafés to be located outside India. While this might appear to be a tall order, CCD's investors feel otherwise. They see enough potential in the coffee retail market for CCD to ramp up even faster. According to Naresh Malhotra, formerly CCD's chief executive officer and now a director at the venture capital firm Sequoia Capital: "This space has enough potential for Coffee Day to open a café every 200 yards in the country, within five minutes' walking distance of one another." Sequoia invested $20 million in ABC, one of India's largest integrated coffee conglomerates, two years ago. Industry analysts estimate that fewer than 1,000 cafés make up India's organized space, but they put the potential at around 5,000. The largest player after Coffee Day, Barista, has about 200 cafés. Java Green (around 75 cafés) and Mocha (around 25 cafés) are further behind. Venu Madhav, head of operations at Café Coffee Day, has started quietly thinking about a farther-out café target number for his team: 2,000. The Coffee Day story is not just in its numbers, though. Coffee Day has been a pioneer. According to Harish Bijoor, a visiting professor at the Indian School of Business (ISB) at Hyderabad and CEO of Harish Bijoor Consults, "Coffee Day has brought about a paradigm shift in the café space in India." Subroto Bagchi, co-founder of the IT and R&D services company MindTree Consulting, and author of the book, The High Performance Entrepreneur, adds: "Café Coffee Day has redefined the coffee experience; it has been a trendsetter in the café space. Siddhartha has raised the coffee from a brew to an experience." Bagchi's association with Siddhartha dates to MindTree's first days, in 1999, when Siddhartha's technology holding company, Global Technology Ventures, invested in MindTree. When Siddhartha opened the first Café Coffee Day outlet in Bangalore, India's silicon capital, in 1996, it was positioned more as an Internet café. This was the very early days of the Internet in India, and customers trooped in to Coffee Day to experience the Internet. Coffee was just an extra. Siddhartha, though, had other plans. The Internet was the bait. Coming from a family of coffee plantation owners and as chairman of ABC, which owns more than 10,000 acres of coffee plantations in the southern Indian state of Karnataka, Siddhartha's aim was to sell coffee. The space he was operating in, as an exporter of green coffee beans, offered low margins and these fluctuated depending on the vicissitudes of pricing in the world coffee market. A café, in contrast, operates at the highest end of the value chain. Its margins can be 35% to 40% higher than those of bean exports, notes Bijoor. "At that time, coffee drinking in India was limited to South Indian traditionalists, the intellectuals and the five-star coffee shop visitors," Siddhartha says. "I saw that in the neighboring international markets of Southeast Asia there was a popular culture of consumers visiting a café for experiential purpose in addition to consuming a glass of beer. These cafés were also promoting cyber-culture and offering Internet access. These trends inspired us. We realized that there was a potential for building a coffee brand for the India market, and we launched the first cyber café model based on the international lessons, but replaced beer with coffee. This is when Coffee Day was born." Expansion and Experimentation ABC is privately held, and as such does not disclose its financial results. Competitors estimate the company's revenues last year to be around Rs 600 crore ($140 million), of which half, they say, came from a café business that they believe turned profitable a few years ago. The rest of ABC's revenues come from its other business groups, all of which operate under the Coffee Day brand. These include Coffee Day Exports, Coffee Day Xpress (fast food and beverage outlets that are much smaller than the cafés and are franchised), Coffee Day Take Away (coffee vending machines), Coffee Day Fresh 'n Ground (ground coffee retail outlets) and Coffee Day FMCG (packaged filter coffee powder). ABC has 775 Xpress outlets, 7,000 vending machines in diverse locations such as railway stations, hospitals, gas stations and office campuses, and 400 Fresh 'n Ground outlets. Operating across this spectrum has allowed Siddhartha to expand his brand presence rapidly. Siddhartha is experimenting now with new formats, such as lounge cafés serving plated meals in addition to the sandwiches, pastries and croissants offered in the cafés. The idea is to see whether this format can attract and retain customers who typically go elsewhere during mealtimes. Unlike the cafés, which cater primarily to the 15 to 30 age group, this format targets consumers who are more than 30 years of age. In two airports in India -- in Mumbai and Bangalore -- these lounge cafés serve liquor to cater to those locations' specific audiences. Whether this plays well with consumers or just confuses the brand remains to be seen. Meanwhile, Siddhartha is believed to have raised some $100 million for his expansion plans during the past few months. While much of this apparently is through debt, around $25 million has come from the Darby Asia Mezzanine Fund, a unit of Franklin Templeton Investments. According to Richard H. Frank, CEO of Darby Overseas Investments, "Coffee Day has successfully consolidated its market leader status and is positioned to take further advantage of the ongoing macroeconomic, demographic and lifestyle changes. We are attracted to ABC because of its leadership position within India's rapidly expanding consumer lifestyle segment and its strong execution capabilities." In its early years, however, Coffee Day had neither clear positioning nor significant presence. In fact, it lost ground to Barista Coffee, which was founded in 2000 by Amit Judge of the investment company Turner Morrison. Barista positioned itself as an upmarket, premium coffee café and targeted executives who saw it as a less expensive alternative to coffee shops in five-star hotels. In 2002, Barista had some 85 cafés around the country, while Coffee Day had just 35. But after a faltering start, Siddhartha pulled things together. What turned the tables in Coffee Day's favor was its subsequent strong positioning as a "third place" away from the home and college or workplace for the young and the young at heart. Siddhartha made people ages 15 to 30 Coffee Day's prime target. "With the advent of cable television and growing consumerism, the urban youth in India were exposed to the lifestyles of youth across the world," he says. "They were seeking an experience which was world class in nature and yet easily accessible -- an urban youth 'hangout venue' that allowed them 'their culture'. We fulfilled this latent demand." Having zeroed in on the target, elements such as pricing, ambience, food, music and promotions fell into place. Says CCD's president of marketing, Bidisha Nagaraj: "We have a single-minded commitment to the young in India and everything we do is centered on that. We see our cafés almost like a brick and mortar social community network where people can express themselves in a friendly, clean, non-inhibitive and non-intimidating environment that offers an excellent range of products at affordable prices." Strong and Stable Parentage According to ISB's Bijoor, "Coffee Day has mastered the core competency of opening outlets, building a strong brand, and making a strong emotional connection with its target group." He says that while Coffee Day moved from strength to strength because of its clear positioning, Barista lost its initial advantage because of multiple ownership changes and a consequent change in focus. Since its launch in 2000, Barista's ownership has changed hands from Turner Morrison to the Tata Group to the Sterling Group and, last year, to Italy's leading roaster, the Lavazza Group. "Barista tried to be everything to everyone and ended up being nothing to anyone," Bijoor says. Coffee Day's strong and stable parentage, he says, has given it a significant advantage. Coffee Day also was sharper than Barista in finding the right locations, a critical success factor in the café business. Siddhartha himself considers the biggest challenge to be "ever- fluctuating real estate prices." Taking Coffee Day to the next level of growth, of course, has its challenges. Competition, for one, is likely to play a larger role. Barista, too, has now decided to target the young adult and, like Coffee Day, is riding the affordability plank. Rini Dutta, vice president of marketing and product development at Barista, notes: "Our focus now is on young adults aged between 20 and 35 who have global lifestyles and value a great cup of coffee in a warm and friendly environment. Our prices are more or less on par with key café players." When Lavazza acquired Barista and the Fresh & Honest vending business from Chennai- based Sterling Group in March 2007, it put its total investment for the acquisition and development of the two businesses at €100 million from 2007 till 2010. The target was to take the number of Barista cafés from 150 then to 400 by 2010. In a press note, Lavazza Group CEO Alberto Lavazza said, "The acquisition is part of our strategy aimed at expanding our operations in markets with a high development rate and a high growth potential. We are delighted to enter the rapidly growing Indian market through Barista and Fresh & Honest." Another significant competitor in the coming years could well be the global coffee giant Starbucks. In June 2007, Starbucks put its India plans on hold because of foreign direct investment regulatory issues. But India is too big a market for Starbucks to ignore. In a press statement, Starbucks said: "Starbucks is reviewing all options and evaluating how we can proceed related to our entry into one of the fastest-growing economies in the world. We remain excited about the great opportunities that India presents to Starbucks." Other recent global players in India include Britain's Costa Coffee, Australia's Gloria Jeans and Italy's illycaffe. Meanwhile, domestic chains such as Java Green, from the Reliance Anil Dhirubhai Ambani Group, are looking to expand. Aruna Ramesh, head of marketing at Java Green, notes: "We started as an in-store café for the Reliance World outlets to cater to our in-house customers. While we have no independent cafés yet and are continuing with our store-in-store format, we are now partnering with other chains and are also present in corporate campuses." Siddhartha is not unduly worried. "The café space in India is opening up and newer players are entering the market and offering more options for consumers," he says. "This is healthy, as competition will ensure that each player delivers his best to be the consumer's first choice. As long as one is committed to delivering world-class quality, there is no need to change the rules of the game just because of new entrants." CCD's Madhav adds, "We believe that more players will bring in more awareness and excitement in the space. This will only help the market to grow." Coffee Day's Advantages Malhotra, of Sequoia, notes that while Coffee Day can't afford to be complacent, it is well ahead in the game. He points out that with each outlet needing an investment of around Rs 40 lakh ($100,000), this is a business that needs to be funded aggressively. Also, the low per-unit revenue makes it a difficult market to crack. "Coffee Day has a tremendous advantage because it has its own plantations, procurement agents, curing works, etc.," Malhotra says. "The scale of its café operations brings its own advantages." Outside of ABC, Siddhartha has launched a small business that supplies furniture for his cafés and a residential hospitality college that trains young people who can be absorbed into the business. Malhotra believes that given its large number of outlets, instead of sourcing food from outside, Coffee Day should maximize value by putting up its own kitchens. This, he says, will ensure quality control and make it easier to introduce changes and create excitement around the menu. Sequoia's most immediate concern, however, is that Siddhartha needs to bring a chief executive officer on board for the café business. Ever since Malhotra left in July 2007 after a six-year stint with CCD, Siddhartha has played that role himself. "Siddhartha has other interests that take up his time, and we have been insisting that he get a CEO soon," Malhotra says. Apart from his interests in coffee, Siddhartha is founder and managing partner at Global Technology Ventures and founding chairman of Way2Wealth, an investment consultancy. He is also on the board of MindTree, Ittiam Systems and Liqwid Krystal. In addition, he has other plans: He wants to leverage ABC's picturesque coffee plantations into a new business opportunity. "We have identified the burgeoning luxury tourism market as a suitable growth opportunity," he says. "With this we will be catering to an older target audience." As for getting a CEO for Coffee Day, Siddhartha admits that he will "have someone to fill this position" but this will not happen immediately. A key focus for Siddhartha at the café business is to make greater use of technology, both at the back and front ends. At the back end, Madhav is working on strengthening the supply chain and logistics. At the front end, Nagaraj is focusing on making the cafés wi-fi enabled, digitizing the in-house magazine Café Beat, building loyalty programs, and using technology such as Bluetooth to stream music across the cafés. Nagaraj, who has worked for technology majors Google, Intel and Compaq, says: "Once we have our consumers hooked on to Bluetooth in our cafés, we can create a whole lot of excitement and energy around it, and make communities and build further on that."