Market Reports

The battle for Russian coffee grounds

Nestlé leaves Russia

With coffee chains lining up to announce their plans for Russian expansion, it would seem that the former Soviet state is being set up as the next battle ground for branded coffee shops. Italy’s Lavazza recently announced its expansion into Russia, through a franchise agreement with NTK Town Restaurants, Russia’s well-known restaurant group. NTK announced that over the next three years it will look to introduce up to 70 Lavazza Espression coffee houses in Russia and the Commonwealth of Independent States (CIS) region, that includes most former Soviet states. This level of growth would increase the number of Espression coffee houses in the global market by nearly three times. According to NTK Town Restaurants, the opening of each coffee house will cost between US$1.5 – 2.5 million. This would mean that the total volume of investments required to open the 70 outlets would reach US$175 million. If NTK succeeds with its plans, this would make Lavazza Espression one of the top five coffee chains in Russia. The Italian brand would become one of the most successful foreign players in the Russian coffee chain market, which, so far, has been largely dominated by local companies. American super players McDonald’s McCafé and Starbucks also have their eyes set on Russian expansion, having recently announced aggressive plans to increase their number of Russian locations. Starbucks announced at the end of November its plans to expand its network, through the opening of several new branded coffee shops. Starbucks has already opened its first store in Rostov, one of the largest cities in the south of Russia. The new location is the third city that Starbucks has entered, following its operations in Moscow and St. Petersburg. Overall, Starbucks operates 67 shops in Russia, with 61 of those shops concentrated in Moscow. At present, Starbucks operates in Russia through a joint venture with the Alshaya Group, the largest retail chain in the Middle East, which is known as Coffee Sirena. According to Helen Streltsova, a Representative of Starbucks Russia, in addition to Rostov, the company plans on opening new coffee chains in other cities in the south of Russia, and in particular Krasnodar and Sochi. She notes the company is considering a number of new venues for its outlets, in particular high traffic areas such as shopping malls, while also continuing to open in high street areas. There will be plenty of opportunities for variations, as the company plans to open an impressive 300 new outlets in Russia in the next five to seven years. Starbucks will be competing neck and neck with McDonald’s in terms of volume, as the number of the company’s McCafé branded coffee shops is also set to increase. According to Vera Ivanovskaya, a Senior Development Manager of McCafé Russia, the company should have opened 60 new stores by the end of 2013. McCafé has a history of success in Russia. Prior to 2007, McCafé led the Russian branded coffee shop market, losing that leadership to local rivals Coffee House and Chocoladniza in 2008. Ivanovskaya says that McCafé’s business has grown significantly since 2010, with the company’s turnover in the country for the last three years increasing by 50 per cent. In 2012, its sales grew by more than 10 per cent, and the company expects to achieve the same figures this year. Unlike its rival Starbucks, which has traditionally focused on Russia’s largest cities of Moscow and St. Petersburg, McCafé actively develops in the vast Russian countryside, and is present in most of Russia’s major provincial towns. According to Andrew Petrakov, the Executive Director of Restcon, one of Russia’s leading analyst agencies in the field of agriculture and coffee markets, the level of competition between Starbucks and McCafé in Russia has heightened significantly in recent years. “Both companies operate in the same format: fast service and take-away coffee,” says Petrakov. “However, Starbucks has an opportunity to attract additional clients through a higher level of provided service, while one of the main advantages of McCafé is its connection with, and sometimes location within, McDonald’s.” CoffeeShop Company, another well-known European operator from Austria, has created a strong position for itself in the Russian market. According to Anna Aranovskaya, Corporate Affairs Director of CoffeeShop Russia, the company opened 24 new outlets in the country in 2013, with a possibility that a similar number will be opened in 2014. According to the Russian Association of Tea and Coffee Producers (RACTP), the counter service format that most of these companies is using might make it hard for them to continue to succeed. Reports have found that local consumers prefer table service. Branded coffee shop growth in Russia is still relatively recent, having started in the mid-2000s. Local players came onto the market at the same time of global chains. Since that period, coffee consumption has grown significantly in Russia. Coffee sales have doubled, despite the fact that retail coffee prices have increased by almost 60 per cent. Vadim Prasov, Vice President of the Russian Federation of Restaurateurs and Hoteliers, ranks the current top five branded coffee shop players as Chocoladniza (about 400 stores), Coffee House (198), Coffeeshop Company (64), Starbucks and McCafe. The growth of these coffee chains might be limited by a lack of suitable premises to rent, and high real estate costs in Moscow and St. Petersburg. In these two major cities, rent can exceed US$1000 per square metre per year. According to one of Russia’s largest restaurant operators Rosinter, which operates the Costa Coffee chain in Russia, it currently costs around US$270,000 to open a new branded coffee shop store. With this level of investment, profitability is low, at less than 15 per cent on investment. Because of these limitations, most operators are concentrating on opening locations on high street areas, in office buildings, near subway stations and in major shopping centres. “A complex procedure of approvals to open new coffee houses in Russia by the cities’ authorities remains another problem for leading global coffee chains operating in the local market,” says Aranovskaya. “This problem is especially important in St. Petersburg, the cultural capital of Russia, and its numerous historic districts and streets.” So far, it would seem that the Russian branded coffee shop market has fully recovered from the effects of the global recession. Since 2010, annual growth is estimated at 90 per cent, according to RACTP. The association predicts growth will slow down to around 70 per cent. These foreign players who are entering the Russian market are taking some lessons from local culture. One particular feature of the Russian market is the need for a wider selection of hot dishes and alcoholic drinks “Expanding into Russia, foreign players are also forced to introduce alcoholic drinks, soups and other hot dishes onto their menus,” says Ramaz Chanturia, Head of RATCP. There also seems to be a clear trend of the coffee and cake shop format. For example, Traveler’s Coffee, a leading coffee chain in Russia’s region of Siberia, has established its own confectionery production line. McDonald’s has launched in Moscow an experimental McKiosk street trade format, which specializes in the sales of confectionery and beverages. According to the RATCP, the Russian branded coffee shop market will continue its growth during the next several years, however at slower rates than in the past. The biggest growth will likely be observed in the vast Russian countryside, however Moscow and St. Petersburg also have major potential for further development, with the level of saturation by coffee chains still relatively low. The potential for the capacity of Moscow and St. Petersburg markets is estimated at 2000 coffee shops each, according to Aranovskaya, who says the Russian coffee market is very far from saturated. Experts say Moscow lacks at least 300 coffee shops, while in St. Petersburg this figure sits at around 200 coffee shops. These figures would put current market saturation at around 60 – 70 per cent. As foreign players continue to announce expansion plants, that figure is set to shrink dramatically in the years to come.

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