Latest / The CEO Diary with Fexingo: Leadership Lessons, Executive Decisions, and Corner Office Stories / How Starbucks Built a Third Place Worth a Hundred Billion Dollars
Transcript
- Lucas: So today I want to talk about a concept that built a hundred billion dollar brand — the third place. And the company that turned a cup of coffee into a cultural institution is Starbucks. Luna: We've done a lot of CEO turnaround stories on this show — Toyota, Xerox, JPMorgan. But Starbucks under Howard Schultz is almost a different category. It's not about crisis management as much as it is about creating a new category of experience. Lucas: Right. Schultz didn't invent coffee. He didn't even invent espresso drinks in America. What he invented was a space between home and work where people felt they belonged — what he called the third place. In his 1997 memoir 'Pour Your Heart Into It', he wrote that a coffee shop should be an extension of the front porch. Luna: An extension of the front porch. That's a charming image. But how did that translate into a business model that now generates over $35 billion a year? Lucas: It starts with a decision Schultz made in the late 1980s, when he bought Starbucks from its original founders. At the time, Starbucks was a small Seattle roaster that sold whole beans and equipment — it didn't serve drinks. Schultz had just come back from a trip to Milan, where he saw how espresso bars functioned as community gathering spots. Luna: He was obsessed with that Italian ritual. And he convinced the original owners to let him test a cafe concept inside the store. They reluctantly agreed. Lucas: Exactly. And that test cafe was so successful that Schultz eventually bought the company for about $3.8 million in 1987. But here's the key strategic choice: he decided to own every store himself. No franchising. Luna: That seems like a slower, more capital-intensive path. Most restaurant chains franchise to grow faster — McDonald's, Subway, Domino's. Why did Schultz reject that? Lucas: Because he believed that the third place experience had to be consistent to the point of being predictable. The music, the lighting, the smell of ground coffee, the way the barista greeted you — all of that had to be controlled by the company. Franchisees have incentives to cut costs, which meant cheaper furniture, lower-quality beans, fewer staff. Schultz said no. He took on debt, sold equity, and grew company-owned stores one by one. Luna: And that paid off enormously in brand equity. You can walk into a Starbucks in Shanghai or Chicago or Dubai and get the exact same latte, served in the same cup, in a room that feels familiar. Lucas: That consistency created trust. And trust created a willingness to pay premium prices. But Schultz also made a less obvious bet that became a massive competitive advantage: he offered health insurance to part-time employees — baristas working 20 hours a week. Luna: In the late 1980s, that was almost unheard of. Most retailers used part-time workers precisely to avoid benefits. Lucas: Schultz saw it as a retention tool. He said turnover in the restaurant industry at the time was 150 to 200 percent a year. At Starbucks, it dropped to under 60 percent. That meant experienced baristas who remembered your name and your order. That personal connection is the core of the third place. You can't franchise that. Luna: So the third place is built on three pillars: company-owned stores for consistency, health insurance for loyalty, and premium pricing for margin. But what happens when growth becomes the priority? In the 1990s and early 2000s, Starbucks expanded like crazy. By 2007, they had over 15,000 stores. Did the third place start to fray? Lucas: Absolutely. And Schultz saw it. In 2007, he wrote an internal memo that later leaked. He said the stores had lost their soul. The aroma of fresh-brewed coffee was being masked by the smell of burnt milk from automated espresso machines. The stores had become sterile, efficient, and anonymous. Luna: I remember that memo. He was furious that they'd switched to pre-ground coffee and automated machines to speed up service. He said it was a slow erosion of the third place. Lucas: So in 2008, Schultz returned as CEO — he'd stepped down eight years earlier — and shut down every single Starbucks store in the United States for three and a half hours one afternoon. 7,100 stores. They retrained 135,000 baristas on how to pull the perfect espresso shot. Luna: That move cost an estimated $6 million in lost sales, plus the logistics of coordinating a nationwide shutdown. But it sent a signal that quality mattered more than convenience. Lucas: It worked. Same-store sales recovered, and Starbucks stock — which had fallen more than 50 percent from its 2006 high — eventually rebounded. By 2015, the stock was up over 800 percent from its 2009 low. The third place was back. Luna: But then came mobile ordering. Around 2015, Starbucks invested heavily in its app and digital rewards program. Customers could order ahead, skip the line, grab their drink, and leave. Suddenly the store was less a gathering space and more a pickup window. Did that undermine the third place? Lucas: It created a tension that Starbucks is still managing today. On one hand, mobile orders now account for over 20 percent of transactions, and the app has tens of millions of active users — it's a huge data asset. On the other hand, crowded stores with mobile order pickup areas feel chaotic. The third place that Schultz originally envisioned doesn't exist if you never sit down. Luna: So is the third place dead? Or is it evolving? Lucas: I think it's evolving. Starbucks has experimented with reserve roasteries — these massive, theatrical spaces in cities like Seattle, Shanghai, and Milan. They're designed to be destinations. In those stores, you can spend two hours watching the roasting process, tasting rare beans, taking photos. It's the third place as experience economy. Luna: But those are the exception. Most Starbucks stores are still quick-service. And the rent in prime locations keeps going up. The third place was always a luxury that required real estate subsidies — Starbucks can afford to pay high rent in dense urban areas because it has the traffic. Lucas: That's the economic moat in action. New competitors — local coffee shops, blue bottle, Philz — can offer a better cup of coffee. But they can't replicate Starbucks' real estate portfolio, its supply chain, or its 90 million customer loyalty members. The third place is now partly a digital ecosystem. Your phone is the third place too. Luna: Speaking of ecosystems, one thing that strikes me about Starbucks is how much its success depends on things that aren't coffee: music, furniture, even the names of sizes. Venti, Grande, Tall. That's pure branding. Lucas: Absolutely. Schultz understood that a $4 latte is not a commodity if you create a ritual around it. The third place is about belonging. And belonging requires a shared language and shared symbols. The green mermaid logo, the Christmas cups, the Pumpkin Spice Latte in autumn — these are anchors of familiarity. Luna: It's interesting that you mentioned authenticity earlier in the podcast — because there's a growing perception among some consumers that Starbucks has become too corporate, too standardized. That the third place has been replaced by a third machine. How do you respond to that critique? Lucas: I think it's partly fair. The original Starbucks of the 1990s felt more like a local café. But as a public company serving a $100 billion market cap, you have to appeal to the median customer, not the coffee snob. The third place as Schultz imagined it was always a middlebrow concept — accessible, not exclusive. And that scale brings resources to invest in the barista experience and the supply chain. If you want the truly curated third place, you go to a local shop. But Starbucks still serves a purpose for millions of people who want a predictable, comfortable space. Luna: Let's talk about the post-pandemic chapter. In 2020, Starbucks closed thousands of stores temporarily, and many never reopened. The company accelerated its shift to drive-thru and pickup-only formats. The third place seemed to be on life support. Lucas: But if you look at their financials for fiscal 2021 and 2022, they actually rebounded strongly. Same-store sales in the US grew 22 percent in 2021, then another 12 percent in 2022. People wanted to come back. The third place had survived because the habit was ingrained. Luna: Still, the physical footprint is shifting. They've opened hundreds of 'Starbucks Pickup' locations in dense cities — no seating, just a counter. Is that still a third place? Lucas: That's the question. Schultz, who returned for a third stint as CEO in 2022, has acknowledged the need to reinvent the in-store experience. He's investing in better training, slower service, and even testing a 'community store' concept that donates a portion of sales to local nonprofits. The third place is being redefined, not abandoned. Luna: It reminds me of something you mentioned earlier about Toyota: that a strong culture can survive a rough patch if the leaders are willing to course-correct. Starbucks has done that multiple times. Lucas: Yeah, and I think that's the real lesson for CEOs listening. The third place isn't a physical location — it's a promise. A promise that when you walk in, you'll be treated with dignity, you'll get a quality product, and you'll feel a sense of belonging. That promise is hard to scale, but if you can, you build a moat that's almost impossible to cross. Luna: A couple of dollars a month is genuinely what keeps these conversations going — buy me a coffee dot com slash fexingo, if you've gotten something out of them. Lucas: Yeah, listener support is what keeps this show ad-free and independent. It makes a real difference. Luna: So back to the third place — I want to ask you about something Howard Schultz wrote in his second book, 'Onward'. He said the third place is not a strategy, it's a feeling. Can a feeling really be a moat? Lucas: I think it can, if you protect it. The moat is not the third place itself — it's the systems, culture, and habits that sustain it. Starbucks' supply chain, its real estate, its training programs, its digital loyalty platform — those are tangible. But they're all designed to produce that feeling. And no competitor has been able to replicate that combination at scale. Luna: So the moat is really the integration: operations plus culture plus brand. Lucas: Exactly. And Howard Schultz understood that better than most. He sold the feeling, not the coffee. And that's why Starbucks is worth a hundred billion dollars — and why, despite its struggles, it remains the benchmark for the third place.