Into the Black

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Named for the coffee-guzzling second mate in Herman Melville's Moby Dick, Starbucks at the time seemed content to roast and sell beans without a lot of fuss or impressive profit margins. Then, on a trip to Italy, Schultz was awed by the amount of espresso to be readily had at the more than a thousand coffee bars in Milan alone. "Coffee bars are the mainstay of every Italian neighborhood," he says. "That's what I wanted to bring back to Seattle."

But after halfheartedly trying to persuade the founders to open an espresso bar, Schultz left to do the same himself in 1984. Three years later he was back at Starbucks with a buyout offer of $250,000 and a plan to roll out retail shops far beyond Seattle.

That he did with a vengeance. When Schultz first returned to Starbucks, it had just 11 stores and fewer than 100 employees. Today the company boasts 100 stores in the Northwest and 56 more outside the region. Some 2,000 retail workers are ringing up $700,000 a week in sales, more than half of that in high-profit liquid refreshment. By adding brewed coffee to the product mix in addition to beans, Schultz fattened gross margins by nearly 5%.

From the beginning of his stewardship, Schultz saw a symbiotic link between Starbucks's growth curve and his ambitious benefits plan, gambling that revenues would outrun spending for Starbucks's expansion. At first, the company's losses almost doubled, to $1.2 million from fiscal 1989 to 1990, as overhead and operating expenses ballooned to $18.4 million on $19.2 million in sales. But in 1991 sales shot up 84%, dramatically outpacing expenses, and the company broke into the black.

Although the company already had an adequate benefits package in place and had been covering part-timers since 1971, Schultz began to beef up offerings substantially. He added a heavy emphasis on preventive health care, for example, by providing a special deductible-exempt $300 allowance for annual physicals. There's similar encouragement for regular dental visits, with a ceiling of $2,000 in expenses and no deductible. He also kicked in vision care, and the company picks up the total tab for disability and life insurance as well.

All that, however, didn't make it easy to persuade the insurance companies to sign Starbucks up. Kibble & Prentice, Starbucks's insurance broker in Seattle, faced the daunting task. The biggest problem was explaining why Starbucks insisted on covering part-timers. A handful of retailers provide benefits to people who work 30 hours a week but not to those who work only 20. At Starbucks at least two-thirds of the workers are clocking fewer than 40 hours.

"It was a philosophical battle," admits Dan Guy, a vice-president at Kibble. "But we made the insurers understand what the company's commitment was." Schultz outlines his reasoning succinctly: "More than half of our retail sales force is part-time workers. That tells me that the majority of our customers are coming into contact with part-timers. How we treat our people is directly related to how we treat our customers and to the quality of our product. It's inarguable that our part-timers are key to the company's success.

"Designing the plan was rough. Our insurance premiums went up slightly when we decided to provide everyone with full coverage. But that was offset by the lower training costs associated with a lower attrition rate. We normally spend 25 hours of classroom training time on every new employee. The longer an employee stays with us, the more we save."

Starbucks's high-octane growth is now supporting its employees' benefits without skipping a beat. Despite the range of benefits, they represent just one-quarter of the company's labor costs and are holding steady at that level. Insurance makes up half the benefits expenses. At the end of the month, employees end up footing just a quarter of the total benefits costs, or $31, on average.

The success of Schultz's strategy has depended, in part, on the relative youth of most Starbucks employees. Schultz himself is only 39, and half his management team is under 50. In general, the company appeals to young people who have a more healthful lifestyle, and that can justify lower insurance rates. Orin Smith, Starbucks's chief financial officer, is banking on that fact. "In this business, I don't think we can expect a big increase in the age of our employees," he says. "I'd be very surprised if we had 40-year-olds behind the counter 10 years from now."

Starbucks's average monthly coverage costs $125 per employee, compared with a more typical $200, according to human resources' Ericsen. "Our claims are lower, and that's reflected in the lower rates," she says.

The company is hitting a claims ratio of 75%, meaning that for every dollar paid in, the insurer is spending 75¢ on claims. Medical claims were low enough, in relation to Starbucks's premiums, that the company even received a $12,700 refund in 1991. An estimated refund of $30,000 was expected in 1992.

Nobody expects that to continue for too long. First, Starbucks is growing so fast it is paying in more than its insurers are paying out. When the growth slows, so will the rebates. Plus, common sense says that the premiums Starbucks pays will be heading upward as the stores continue to grow in number and as the company expands eastward. It appears that health costs are higher in the eastern part of the United States than in the West, says Guy. Also, the store workers are aging, having children, the sorts of things that naturally increase costs.

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