Schultz’s passion for coffee awakens in Seattle

Schultz grew up a child of ‘working poor’ parents, as he would say later, in the Bayside Projects in Brooklyn, New York.⁶ After finding his way to college on an athletic scholarship, he graduated and began his career in 1976 as a sales trainee for Xerox. After three years at Xerox and realizing his indifference towards word processors and office equipment, Schultz joined Perstorp, a Swedish company with product lines in building supplies and consumer durables for the home. While selling Perstorp’s kitchen components in North Carolina, Schultz again found himself less than excited about his product line. It was not until he took the position of Vice-president and General Manager of Hammarplast, Perstorp’s housewares subsidiary, that he became more enthusiastic about the products he sold, stylish Swedish-designed kitchen gear.

In 1981, while working for Hammarplast, Schultz noticed that one particular retailer – a Seattle-based company called Starbucks Coffee, Tea, and Spice – consistently purchased large quantities of his drip coffeemakers. With only a handful of small stores, Starbucks was buying more of Hammarplast’s coffeemakers than Macy’s, New York’s leading department store. Schultz wanted to know why. He flew to Seattle to take a look.

Starbucks was a coffee drinker’s paradise, selling some 30 different varieties of whole-bean, mountain-grown arabica coffees – from Sumatra, Kenya, Costa Rica and everywhere – as well as high-end coffeemakers. While the store encouraged customers to taste the coffee, it did not sell coffee by the cup.

Schultz was enamoured with the company’s coffee, and was even more impressed with the passion that Jerry Baldwin, one of Starbucks’ three partners, felt towards his product: ‘I had never heard anyone talk about a product the way Jerry talked about coffee.’⁷ Schultz was hooked, and he returned to New York determined to find a way to work for Starbucks.

Risk number one

Over the next year, Schultz found ways to spend some time with Baldwin. He believed Baldwin’s concept would sell in New York, Chicago, Boston, everywhere. And Schultz had the marketing experience and drive to help grow the business. He wanted in. At last, over dinner in San Francisco in the spring of 1982 with Starbucks’ partners, Schultz thought he had won the job. But, on the phone the next day, Baldwin called with bad news: ‘I’m sorry, Howard. It’s too risky. Too much change.’ Schultz was shell-shocked: ‘I saw my whole future pass in front of me and then crash and burn.’⁸ The next day, Schultz called and reminded Baldwin of his own vision for Starbucks. A day later, Schultz had the job, along with a steep cut in pay and a tiny slice of equity in the company.

In 1983, Starbucks sent Schultz to Milan for a housewares show. During that visit, he experienced the Italian coffee bar culture. This Italian ritual of drinking coffee and socializing intrigued Schultz: ‘Coffeehouses in Italy are a third place for people, after home and work. There’s a relationship of trust and confidence in that environment.’⁹ Schultz discovered that there were 200,000 coffee bars in Italy, with some 1500 in Milan alone. He became fascinated with the idea of bringing such a concept and culture to the USA: ‘The connection to the people who loved coffee did not have to take place only in their homes, where they ground and brewed whole-bean coffee. What we had to do was unlock the romance and mystery of coffee, firsthand, in coffee bars.’¹⁰ ‘Coffee bars are the mainstay of every Italian neighborhood,’ he said. ‘That’s what I wanted to bring back to Seattle.’¹¹

Schultz returned from Milan and pitched the coffee bar idea to the Starbucks partners. Their initial response was a resounding no. They did not want to enter into what they considered the restaurant business, not the best of industries in their view. Schultz finally convinced the partners to add a small espresso bar in their sixth store, which would open in April 1984. Within two months, the store was serving 800 customers a day, compared with the traditional Starbucks stores that averaged 250 customers a day. But even with impressive numbers to support his idea, Schultz could not convince the company’s partners to try the coffee shop concept further: ‘I felt torn in two by conflicting feelings: loyalty to Starbucks and confidence in my vision for Italian-style espresso bars.’¹²

Risk number two

In 1985, Schultz made one of the toughest decisions in his still-young career. He decided to leave Starbucks to start what seemed to be a very uncertain coffee bar business. At the time, coffee was a seemingly risky game. With the disclosure of health risks associated with caffeine, consumption of coffee had been falling in the USA since the 1960s, hardly the most exciting of markets.

At the time, Schultz’s wife was pregnant with their first child and he needed an initial $400,000 in seed capital to open his first store and get the business started – money he simply did not have. As Schultz was planning how to raise the money, Starbucks stepped forward to invest $150,000 in Schultz’s venture, and Jerry Baldwin agreed to serve on the board. Gordon Bowker, Baldwin’s partner in Starbucks, also agreed to help. Shortly thereafter, Schultz received another $100,000 from a local doctor, who said, ‘It appears to me that people who succeed have an incredible drive to do something . . . They spend their energy to take a gamble. In this world, relatively few people are willing to take a large gamble.’¹³

By the time Schultz’s son was born in January 1986, Schultz had raised the rest of the money he needed to open the first store. His real goal, though, was another $1.25 million to open seven more stores and to prove that the idea would work on an extended scale. It took an entire year to raise all the money, during which Schultz approached 242 potential investors, 217 of whom turned him away. Over the course of a year, he raised $1.65 million from about 30 investors, enough to open eight coffee bars. Schultz said, ‘If you ask any of those investors today why they took the risk, almost all of them will tell you that they invested in me, not in my idea.’¹⁴

Schultz opened the first Il Giornale, as his new coffee bars were called, on 8 April 1986. Il Giornale meant ‘the daily’ in Italian and was the name of the largest newspaper in Italy. On its first day in business, Il Giornale served 300 customers. Within six months, the store was serving 1000 customers a day. Even with just one store, Schultz was dreaming big: ‘At the time, our plans seemed impossibly ambitious. Even then, when nobody had heard of Il Giornale, I had a dream of building the largest coffee company in North America, with stores in every major city.’¹⁵

The first Il Giornale was not a perfect success. Schultz soon realized that Italian opera was not the preferred music of American coffee drinkers. He also learned that the shops should include seating for those customers wishing to relax and stay awhile. Learning from these mistakes, Schultz opened his next Il Giornale six months after the first in a downtown Seattle high-rise office tower. By mid-1987, there were three Il Giornale stores, and each store was generating approximately $500,000 in annual sales.

Risk number three

In March 1987, with the first Il Giornale having been open for less than a year, Jerry Baldwin and Gordon Bowker decided to sell their six Starbucks stores, roasting plant and name. Jerry wanted to concentrate on Peet’s, a small chain of stores selling beans and ground coffee that Starbucks had acquired. ‘As soon as I heard, I knew I had to buy Starbucks. It was my destiny,’ said Schultz. But it would take nearly $4 million to do it. Having seen Starbucks struggle under an excessive debt burden when it bought Peet’s, Schultz knew the new money would have to be raised through the sale of equity, in spite of the fact that it would dilute his ownership of and control over the business. Schultz looked again to investors, including those who had invested in Il Giornale and others who had passed, to raise the needed capital. His pitch to investors was one of pure passion:

How many things do people in America drink every day? Coffee is such a social beverage, a personal beverage. There’s the romance of coffee, its history. We had an opportunity to utilize the relationship I saw in Italy, the safe haven of the coffee bar, and package it with undeniably great coffee and service that is completely different from most establishments in America. I mean, we can change how people start their day.¹⁶

Schultz’s passion for great coffee and his concept proved successful. By August 1987, at the age of 34, Schultz had raised another $3.8 million, and the original Starbucks was his.

The rest of the story

Schultz realized that taking over a company was not an easy task. His initial goals were twofold: to win the support of the existing Starbucks employees and to hire a winning team of managers. In his first meeting with the Starbucks employees, Schultz announced his mission of building a national company whose values and guiding principles they all could be proud of. Schultz had to make sure the existing employees were on board in order to move forward with his plans. He also recognized that, as his company grew, he would need to rely on the expertise of others: ‘I knew I had to go out and hire executives with greater experience than I had.’¹⁷

Schultz did just that. He hired a number of experienced people to lead his management team. He lived by a simple philosophy: ‘Hire people smarter than you are and get out of their way.’¹⁸ Finding and retaining top people was one of Schultz’s ways to lay a solid foundation for growth.

In October 1987, Schultz and his team opened the first store under the Starbucks name in Chicago. It was their first attempt away from the west coast. In the following six months, three more stores opened in Chicago. The results were less than stellar. With distribution and logistics costs added in, the cost of goods sold was much higher in Chicago than in Seattle. And, Chicagoans showed less interest in the coffee shop experience than their Seattle compatriots. In 1987, the company lost $330,000.

But those financial losses didn’t faze Schultz and his team. Schultz could show investors the attractive unit economics at each store to convince them the business model was viable. Overall losses were necessary in order to invest in the people and systems necessary for his company to reach its potential. Investors could also see that the speciality coffee business all over the country, both in supermarkets and coffee bars, was becoming as hot as a freshly brewed cup of espresso.¹⁹ Starbucks kept growing:

• in 1988, Starbucks opened 15 new stores and developed its first mail-order catalogue, but losses grew to $764,000 for the year;
• in 1989, the company opened more stores and lost another $1.2 million;
• in 1990, with another 30 new stores, the company turned profitable.

By that time, the company had received three major rounds of private funding: the $3.8 million to acquire Starbucks; $3.9 million in early 1990 to finance additional growth; and $13.5 million later in 1990 from venture capital investors who saw the potential that the Starbucks story represented.

By 1992, Starbucks’ revenues were rising at approximately 80 per cent per year. In June of that year, Starbucks went public, raising $29 million to support even faster growth in new stores. At the time of its initial public offering, Starbucks had 2000 employees and 600,000 customers weekly. That year, 53 additional stores were opened, bringing the grand total of Starbucks coffee bars to 140.

By 1993, Starbucks ranked among the 40 fastest-growing companies in the USA according to Fortune magazine. And the company was not just a model for growth. In 1994, Schultz received an award from the Business Enterprise Trust for courage, integrity and social vision in business.²⁰ And the growth continued:

• in 1997, Starbucks’ revenues exceeded $1 billion;
• a year later, the company had 1500 outlets and 25,000 employees, and was beginning to sell its coffee in supermarkets;
• by 1999, stores were averaging $800,000 in annual revenue and there were 80 Starbucks stores in Britain and 53 stores in Japan.

In 2000, Schultz decided to cede his CEO position to his President and COO, Orin Smith. Not ready to leave Starbucks, Schultz remained as Chairman and Chief Global Strategist. At first, the company didn’t miss a beat:

• by the end of 2001, Starbucks was serving 2 million customers a week from its 5000 outlets worldwide, and had delivered 121 consecutive months of positive comparative store sales;
• that year, profits grew by 92 per cent to $181.2 million on sales of $3 billion;
• by 2002, Starbucks operated 1200 stores outside the USA in 20 countries, up from 281 international stores in 1999.²¹

Starbucks’ stock had soared more than 2200 per cent over the past decade, outpacing Wal-Mart, General Electric and Microsoft in total return. Schultz’s shares alone were worth $400 million. By 2004, Starbucks’ annual revenue had passed the $5 billion mark, with comparable store sales still growing, up 10 per cent on 2004, and with overall net revenue up 30 per cent on the previous year.²² The company ranked 11th in Fortune magazine’s ‘100 Best Companies to Work For’ list.²³ The lad from the projects in Brooklyn had done quite well.²⁴

Starbucks’ incredible growth continued over the next four years, breaking $9 billion in revenues in 2008.²⁵ But all was not as well as it seemed: there was talk of over-expansion in the US, sales figures were dropping rapidly,²⁶ and the company’s long-time focus on the customer experience, the very thing Schultz had been so passionate about, was getting lost as the megabrand grew in scale.

Schultz was asked to take back the top job. His task was not made any easier by the recession, a difficult environment in which to sell $4 lattes. In 2008 and 2009, 900 locations were closed and $580 million in costs were cut.²⁷ There was renewed focus on the customer. By 2009, operating margins began to increase, though sales continued to disappoint. ‘The entire Starbucks organization is committed to continually improving our customer experience as the roadmap to renewed growth and increasing profitability. At the same time, we will continue to innovate and differentiate, two perennial hallmarks of the Starbucks brand,’ said Schultz.²⁸ One such innovation has started to pay off. VIA, the brand of Starbucks’ instant coffee, delivered sales of over $200 million in 2010. This, along with many other initiatives, led to Starbucks posting record revenues in 2011 of $11.7 billion, growing to $13.3 billion in fiscal 2012.²⁹

As Schultz reminds those who question his company’s future, ‘The pundits said we were saturated in Seattle in 1992. Since then we have opened 340 stores in the state of Washington. We sell less than 10 per cent of the coffee consumed in the US and less than 1 per cent outside the US.’³⁰ Clearly, Schultz has not yet forgotten his entrepreneurial dream.

What investors want to know

Some entrepreneurs, hence some lean start-ups, need no investors. They are able to pursue their entrepreneurial dreams without external capital. Others, like Howard Schultz and Starbucks, cannot expect to reach their aspirations without more capital than they and the three Fs (family, friends and fools, remember?) can bring to the table. What roles do an entrepreneur’s mission, aspiration and risk propensity play in attracting investment capital?

First, most professional investors – business angels or venture capital investors – have missions of their own, often driven by what they already know or what’s made money for them before. Some invest in certain industries, like telecommunications or media. Some invest in certain markets, like companies serving medical practitioners. Matching your mission to their mission is critical, for only rarely will investors invest outside their chosen arenas. Had Howard Schultz chosen an initial mission of coffee manufacturing and wholesaling – as some companies did once they saw Americans’ growing fascination with better coffee – instead of coffee retailing, then his investor group would probably have looked quite different. Most investors want a clear understanding of the kind of company you plan to build.

Second, professional investors’ aspirations are usually quite simple – to make loads of money for themselves and their own investors. Doing so involves growing and ultimately selling the ventures they invest in – reader, take note – either to the public or to a trade buyer. The day you accept venture capital is the day you’ve agreed to sell your business. If your aspirations are less lofty – something that’s true for many entrepreneurs – or if your dream is to run your business independently for a long time rather than selling it, then seeking investors other than the three Fs is probably not for you.

Third, professional investors understand the risks they take. They know the odds are stacked against any single venture meeting its goals. Only one or two out of every 10 deals in a typical venture capital portfolio will make big money. A few more may return their capital but earn no return. The rest will probably lose most or all of the capital invested.

Given these difficult odds, angels and venture capitalists want to know that the entrepreneurs they back will make extraordinary efforts and commitments to beat the long odds. To ensure such commitment, they want to know that you have something to lose if you fail, just as they do. What this means, in practical terms, is that investors often want to see that you are willing to risk your capital, just as they are risking theirs.

Typically, they measure your willingness to share in the risks by the relative amount you’ll risk compared with what you have. If you don’t have much money, then your cash investment can be modest. If you’ve already made it big once, then you’ll be expected to risk some of your gains alongside the capital you ask others to put at risk.

In summary, you need to be clear about your mission, aspirations and risk propensity before you launch a lean start-up, before you write a business plan, and before you approach prospective investors. Approaching them sooner is a waste of time or – worse – a potential disaster. There’s no faster way for investors to remove you from your leadership role than to have them discover that your and their goals are incompatible. This is far more common than most nascent entrepreneurs would believe. Building an NLO business – a nice living for the owner – is not something most investors have in mind.

Lessons learned

Not every entrepreneur can start a company and lead it to greatness in just 15 years. Some are good at the start-up stage and pass the leadership baton once things are well under way. Others grow their businesses slowly and steadily, sometimes taking decades to reach their dreams. Only a few can take the business all the way from conception to stardom as quickly as did Howard Schultz. What can would-be entrepreneurs learn from Schultz’s story?

• Schultz was clear about his mission: to build a company that brought the Italian coffee bar culture to the USA, to serve only the finest coffee and to run an organization that valued its employees. His clear sense of purpose helped him focus his energies.
• His personal aspirations were audacious: to build a large, prominent and profitable company that would change how Americans enjoyed their day. Simply running a few coffee shops in Seattle was not his cup of tea.
• He was willing to repeatedly take risks to achieve his goals.

Lessons about risk propensity

Most successful entrepreneurs do not regard themselves as risk-takers. Managers of risk, yes. But risk-takers, no. Their job is to offload the inherent risk in their ventures to suppliers, investors, landlords and whomever is willing to bear it. In their hearts, most entrepreneurs see little risk – naïvely, perhaps – given their belief that theirs is one new venture that will buck the long odds and succeed.

But, as Schultz’s story points out, there are repeated risks to be taken along the way. The obvious ones include money – yours and others’ – and months or years of your life and the opportunity costs of doing something else with that time. There are other risks that are less obvious. There’s the risk that your investors may at some point decide that you should go. Is this a risk you are willing to bear to raise investment capital, or is maintaining control, even at the cost of limiting the scale of what you can accomplish or the resources you can assemble, a crucial factor for you? And what about the risk propensity of those you love who are sure to bear some of the costs of your entrepreneurial pursuits? Marriages have been broken as entrepreneurs and their spouses fail to agree on what should be risked. Dinner with the family? The house? The security of a regular salary? What level of risk are you willing to bear? Is that level of risk acceptable for the upside your opportunity offers? Risk and reward, constant companions. How much of each will you choose? What’s the nature of your entrepreneurial dream? And what, indeed, is life without such a dream?

The new business road test: stage five – the mission, aspirations and risk propensity test

• What’s your entrepreneurial mission?
  • To serve a particular market?
  • To change a particular industry?
  • To market a particular product?
  • Is the passion really there?
• What level of aspirations do you have for your entrepreneurial dream?
  • To work for yourself?
  • To build something small or something big?
  • To create? To do? To manage? To lead?
  • To change the world in some way?
• What sorts of risk are you and are you not willing to take?
  • Will you risk a secure salary and the things that go along with your current employment? For how long?
  • Will you risk losing control of your business?
  • Will you put your own money at risk? How much?
  • Will you risk your home or time with your family or loved ones?
  • Do those you love accept the risks you’ll take?
• In what ways, if any, do your mission, aspirations or risk propensity add new elements of risk to the venture? How might any such risks be mitigated?

Open your The New Business Road Test app and you’ll find the above checklist. Gaining honest insights into what’s driving you to be an entrepreneur – whether in your kitchen or garage, or in an entrepreneurial role in the company where you work – and what you hope to get out of it, will require reflection and introspection. In addition, it’s often helpful to read about or talk to others who have travelled the entrepreneurial path before you, to benefit from what they’ve learned about the commitments that are necessary and the sacrifices that it can take. As you engage in this process, you’ll find places in the app to keep track of links to your online sources or record what you glean from your conversations or interviews. This is the only one of the seven domains for which no judgement is required about your opportunity itself. Instead, the judgements are about you – who you are and what you want to achieve, and how that fits with this particular opportunity. But don’t ignore these issues or underestimate their importance, because they provide a lens through which the other six domains must be viewed.