In case you haven’t noticed, the price of coffee has been going up lately. Green coffee about doubled in price between June 2010 and June 2011, from about $1.50 per pound to $3 per pound.
That still may not sound like a lot, since you’re probably used to giving up the better part of a $20 bill to buy your coffee retail. It is, though, because that $3 commodity price is the base on which prices are built for companies like ours. Because we don’t have any $3 coffee: we buy a higher grade than the $3 stuff that makes up that reported price. What we pay varies, of course, but generally it’s safe to say our racks are full of beans that start in the high 3’s and go into the 5’s, and in some cases the 6’s for the really nice and unusual stuff. Most of the inventory right now is probably high 4’s, on average. Add processing costs, shrinkage (for every pound roasted, about 1.23 pounds green goes into the roaster), packaging, etc., and the Cost of Goods Sold has taken quite a hike. Because coffee prices are volatile, and the business is very competitive, roasters spent the first six months of the price climb sucking it up and hoping things would reverse. They didn’t (at least not significantly), and the past six months have been spent tentatively passing along price increases to customer, at least in part, trying to figure out how much pain customers would share without reducing consumption, switching brands, or switching to cheaper coffees from the same roaster.
It’s this last behavior that motivated this post.
Because somewhere along the way, the law of unintended consequences kicked in.
Coffee pricing isn’t as much of a “real time” event as you might expect. The coffee you’re buying today probably arrived at a US warehouse a month or two ago. Before that it spent a couple months in transit, in a container that got here by ocean-going vessel. Before that, it may have spent a couple months at a milling facility, queuing up with other coffees being processed at that facility, being readied for efficient shipping. And before that, somebody cupped it, and committed to buy at a particular price. So the coffee you bought yesterday, 30 July 2011, probably had its price determined around April 2011. And you can see from the one-year price chart that depending on which day that price was determined, it was somewhere near the peak of the market.
So in February, March and April, importers were trying to figure out what they should buy. And in any good capitalist system, what they buy is determined by what they think they can sell. And selling coffee in the 5’s to guys like me is not as easy as selling coffee in the 4’s, or better yet, in the 3’s. So they were shying away from $5 coffees. Which means they were shying away from organics.
If fact, one of our usual trading partners, people we like quite a lot and from whom we’ve only ever bought organic coffee, made a decision that they were going to skip organics for the year. It was a decision they thought made sense for their business. They based their decision on feedback they received from large customers (which we are not). And in the end, I’m faced with a choice on whether to buy quite pricey conventional inventory from them (because they locked in at the peak), or go to the open market to buy organics.
Honestly, my preference is to value the relationship and buy the conventional. Running a business is, to some extent, about relationships. Having continuity of supply from people you trust is important. And for them, selling containers of coffee is not a trivial undertaking, and they will remember customer behavior in tough markets. But the greater extent of running a business is about giving customers what they want. And my sense was that our customers want organics. The mystery for me was how strong is that preference, and what are they willing to pay for it? So we decided to survey attitudes on the topic.
Before we get to the data, it’s worth providing a short explanation on why organics are more expensive that conventionals. Because they are, and the differential is justified. It’s a multi-factorial problem, to be sure, so you’ll have to excuse this gross oversimplification. It comes down to a couple factors, primarily: labor, and yields (this is the bigger driver). Running an organic farm is more work, plain and simple. And in most cases, because farmers can’t avail themselves of various pesticides and such, the yields are lower. Neither of these factors is universally true, but they are directionally correct. Yield reduction varies, but they can be as little as 50% of conventional yields on a farm that is transitioning to organic production. It’s true that there are some economic and more intangible benefits to running an organic farm, but it’s fair to say that a farmer needs to get anywhere from a 25% to 50% premium (or more in some cases) just to stay even with what she would have earned had she produced conventional coffee. So a coffee for which we might pay $4 as a conventional, needs to be (and is) maybe $5 as an organic. That $1 differential grows to $1.25 when you factor in shrinkage (divide each price by 0.8 to get what I paid for it once it’s roasted: a $4 coffee green is a $5 coffee roasted, and a $5 coffee green is a $6.25 coffee roasted).
Now back to the survey.
We asked 6 questions:
1. How IMPORTANT is it to you that your coffee is certified Organic?
2. How much MORE money (over and above the price of the same conventional coffee) would you pay for Certified Organic?
3. When you buy coffee, do you make buying decisions based on the price per package, or the price per pound? (this question is admittedly related to our ongoing internal debate about whether to switch over to 12 ounce packaging like the rest of the world)
4. At what price PER POUND do you consider coffee expensive?
5. About how much do you think PREMIUM coffee costs today, PER POUND, in the places you usually buy it? Please do not check! Just tell what you THINK.
6. Which city and state do you buy your coffee?
The summary of the results to date is about what I expected (you can see all of the detailed results by taking the survey yourself – after you answer the last question you will be given the opportunity to view all the responses). Given the number of responses so far, they survey doesn’t have enormous statistical power (it’s plus/minus 15% according to the most simplistic calculation you can make, but would be a bit tighter if I bothered to apply some more sophisticated math that considered also the magnitude of the responses). My sense is that it is actually very representative of what our customers tell me. Anyway….
- Only about 20% of people don’t care at all about whether they consume Organic coffee. The remainder DO care, with about half caring quite a lot.
- About the same number of people who don’t care about organics wouldn’t pay any premium for them. That makes sense. The remainder WOULD pay a premium. Most would pay $1 or $2 per pound. Some would pay $3 or more.
- People report that they pay attention to unit pricing (this is a little bit at odds with my intuition), and seem to think coffee gets expensive at about $15 per pound. The implication is that if they’re not prone to buying expensive coffee, our max pricing should be in the 14’s. Subtracting the organic premium, that means conventionals can be in the 12’s and 13’s. Which is basically consistent with our current price structure.
- The question about what people THINK the current price is in usual channels was all over the map. Curiously, the right answer – between $13 and $14 – received the smallest number of responses. Many people (30%) thought premium supermarket coffee is much more expensive than it really is. This was a curious result that I’m not quite sure how to interpret, other than the obvious, which is that people don’t know what they’re paying for things in the grocery store.
So where does this leave us in terms of a decision?
I’m not quite sure. Because while people do prefer Organic, and will pay for it, we also had a number of write-in comments that they care equally about quality, and the conventional coffee I’m being offered is of very high quality, and at a reasonable price. Maybe we’ll split the difference on our forecast, but some conventional and some Organic, and test the survey results with a live experiment where people are actually offered the choices I’ve surveyed them on previously.
Stay tuned, and if you have opinions on this topic, please leave a comment on this post.