What is private label and how it works for coffee roasting services

Outsourcing of products and services became popular in the 1990’s in the manufacturing industry and continues today in ever increasing areas of everyday life.

In the 1990’s era, the world’s economies were grappling with many competing forces – economic recovery from the 1987 stock market crash, the birth of the internet and it’s enabling benefits that profoundly changed almost everything in how we live and work.

Then we saw political evolution for nations that had existed in limited trade environments for a long time, e.g. China and Asia, Russia and Eastern Europe as well as the continued success of the USA as a key trade leader.

Technology was advancing in faster cycles and companies needed ways to grow rapidly and compete on a global stage. Rather than attempt to build the capability in-house, it made sense to source products and services from specialists or to keep a tighter control on vital areas of speed, quality, risk and cost.

It made sense that manufacturing of goods were more efficient when there was greater scale and cheaper labor costs. In some cases the move to outsource was driven by a desire for greater freedom, e.g. breaking unions, inefficient or protected work practices.

For special services, example Information Technology support, the skills and tools were owned by specialists and therefore mature and stable companies could outsource the provision of these services to achieve their desired quality and cost objectives from leveraging the scale efficiencies of experts.

The greatest shift of manufacturing effort has been from historically developed countries like Europe and USA into the areas of China, South East Asia and India.

Food manufacturing was a later industry to ride the outsourcing wave as there were greater initial barriers from challenges in sourcing the right produce, maintaining freshness, managing quality, dealing with consistency from variable seasonality, impact upon the environment causing supply and demand price fluctuations, the high costs of transportation and most importantly navigating the always complex local distribution arrangements (e.g. supermarkets or large customers with negotiating power).

Global food companies continued to invest in their brands, along with constant research and development to release improvements and innovations.

For a food company, the intrinsic value is typically measured by the brand growth, or the brand’s relative position in the market (loyalty, share, influence, etc).

Food retailing – a dramatic power and market shift

During the 2000’s, large supermarket companies in developed countries systematically increased their pressure on their suppliers to reduce costs and squeeze their margins.

These negotiating programs allowed supermarkets to run discount promotions on branded products to attract more consumers into their stores – using the honey pot of a deep discount on a key, high-profile branded necessity to drive more foot traffic to their store and pickup even greater spend from their customers.

The interesting aspect about this type of marketing was the retailer expected their contracted suppliers to fully fund the discounting programs through short-term discounts or rebates, yet the benefit primarily generated was for the retailers increased sales. In other words, the suppliers were forced to pay for the discounting to increase volume.

This constant pressure continues on leading brands until the point of a relative stalemate being reached on price and supply terms. We have seen many times popular and high profile brands being temporarily removed or unavailable in retail outlets – this is generally not the fault of the supplier, but more a case of the retailer attempting to extract more leverage from terms.

There have been some brands playing hardball, e.g. Coca Cola Amatil, Arnotts, etc. taking a firm position in risking market share and sales volume over the short term.

Sometimes this has a small impact upon the retailer (supermarket) as customers would do their shopping in the supermarket’s direct competitor.

Ultimately, these tactics and strategies always end with the food brand generally having the most to lose – both in customer, margins and volumes.

To counteract the negotiating power of a popular brand, retailers/supermarkets develop a competing private label offering that attempted to match the quality at a cheaper price – in some cases it would almost appear as a blatant copy with similar artwork and styling.

Supermarkets would also leverage their prime shelve space to their own private label products and relegate the well-known market leading brand product out of direct eyesight.

In many cases, some of these private label products were manufactured by the well-known branded company using similar, or even identical ingredients and quality but packaged in generic or differentiated packaging to suit the requirements of the Supermarket.

In Australia, Supermarkets have a monopoly control on many food product distributions due to the displacement of the corner store and competitive offerings.

Retailing of essential products needed in the home is basically dominated by a handful of companies – Coles, Woolworths and now Aldi.

The smaller IGA, Foodworks and CostCo are less influential, except in certain geographical areas. Unfortunately, this level of dominance also extends to many beverages, fresh produce and other products such as alcohol, fuel (although fuel has recently been divested), etc.

Since 2013, the large Australian supermarkets have increased their focus on private label products – lifting their sales ratios from around the mid 20% in 2010 to figure over 45% inside of 5 years – these are very general figures as the stats can be skewed many ways and I’m sure the supermarkets are not publicly announcing the real numbers for fear of unsettling their suppliers.

Ultimately, Australian supermarkets will look to reach a target of 60%+ private label control across their entire portfolio – which emulates the success of their overseas counterparts – UK and European retailers.

Running their business with such high penetration of their own private label products means they extract more profit margin and can control the market for each of those products – they set the terms for the price and no brand can negotiate.

There have been intermittent moments of backlash over private label offerings and the sneaky Supermarkets have developed strategies called Phantom Brands – giving the illusion that it’s not a private label but a distinct company supplying the supermarket.

Dig a little deeper and you discover that many of these phantom brands are in fact fully owned by the supermarkets. Aldi in particular are adept at deploying this strategy and it’s their primary go-to-market strategy.

Impact of private label killing market competition

During 2015 and 2016 we witnessed a number of industries suffer the debilitating effects of the supermarket private label price war. In mid 2016, the dairy industry was on it’s knees from a sustained low farm gate price that has been described as criminal and cruel upon the farmers.

The bread industry has also suffered from cheap prices being paid and deemed baking operations now commercially unprofitable. No doubt we will see this continue – BBQ chickens was a recent initiative, minced beef and we will see more across fresh produce as the supermarkets gain increased ownership of the entire supply chain.

A leading food equipment supplier in Sydney recently told us informally that most of his long-term food brand customers that purchased and operated systems and plants for the purposes of food manufacturing in Australia, specifically to supply supermarkets have recently decided to stop further investments due to the market powers of the Supermarkets.

It’s their collective view that owning food manufacturing businesses in Australia was no longer viable due to increased imports from low-cost countries as private label and contract food manufacturers to the supermarkets become the major offering.

With the increases in imported foods – specifically foods that could have been processed in Australia, local food manufacturing is shrinking and the quality declines as does the freshness.

How does that affect roasted coffee ?

The good news is that coffee, for the moment, is one of those complex beasts that can span an entire spectrum from epic failure to sensational success. Once you become accustomed to great coffee you cannot put up with mediocre.

Australian coffee drinkers have a sophisticated and developed palate – the standard of Australian cafes is well accepted as being best in the world as Australia has a clear coffee quality leadership and impressive levels of consistency.

Experts from Europe and the US often visit Australia to study and learn from our constantly evolving coffee culture.

The reason for our domestic success has been due to Australian coffee roasting companies being brave, talented and innovative. It’s born from a highly saturated and competitive local market – perform at your best or die !

Roasting coffee beans is challenging in Australia with more than 2,000 brands battling for customers – the boundaries need to keep being challenged.

Australian coffee drinkers also have high expectations for their brew – they want quality and freshness. Australian coffee drinkers are also remarkably well informed – long ago they worked out that coffee in supermarkets is by and large really quite stale and generally lower grade quality.

A coffee lover will make an extra effort to source a better product in Australia – they simply will not put up with average or rubbish for very long.

The demand for quality coffee has created and maintained a fragmented market – no single entity controls or influences the Australian coffee market – even Nestle with their Nespresso investments they have only a relatively small share of the overall coffee market in Australia.

Because freshness is so important, companies like Melbourne’s mycuppa.com.au have for more than 10 years been the leaders in online supply of premium fresh roasted coffees to Australian coffee consumers.

Their business model appears simple from the outside, but behind the scenes it’s a complex world of frantic activity roasting coffee fresh every day for shipment directly to the customers door – the speeds at which they can roast, pack and send are unmatched.

Imported Coffee brands disappearing from Australia

In 2015, there was a massive about face by many of the imported coffee brands here in Australia – changing to locally roasted offers instead of shipping stale products from Europe with a style of coffee that was not entirely suitable for the Australian coffee drinker.

In some respects, this change had been a long time coming and in terms of marketing it was seen as a major embarrassment for some of these imported brands by invalidating all of their previous consumer messaging – actually, it was like applying a blow torch to everything they had said for the last 30 years !

Here is how it played out – for more than 40 years these predominantly Italian-based companies had been banging on about how espresso was originally invented in Italy and only Italian coffee roasters knew the secrets to the skill of providing a quality espresso coffee experience.

They marketed their products with images of beautiful people, glamours settings and associated all fashion to their brands – movie stars, famous people, horse racing, tennis, etc……sure, it’s got nothing to do with coffee but everything to do with showing off and looking perfect!

What most people did not realize is that the coffee industry in Italy and indeed many parts of Europe (except Scandinavia) had been trapped in a massive time warp for the last 50+ years – nothing had changed……even the way they constructed their coffee blends, sourced their beans and roasted the coffee remained exactly the same – where was the innovation or the improvement ?

They continued to use container after container of cheap, low grade arabica and robusta coffee and then packaged these products with a disappointingly false promise that it was the “very best in the world”.

We can’t lay the blame of the coffee quality time warp directly onto the Italian coffee companies – the reasons they acted this was was far more complex to understand as the price for an espresso coffee in Italy had been regulated for what seems like forever – fixed at precisely 1 Euro and don’t you ever raise the price.

Italians are incredibly insulted if they forced to pay more than 1 Euro for a coffee. It’s been that same price for a long time, yet input costs rise as you can understand or expect over time so the only way the Italian coffee companies can maintain a viable margin is to source cheaper and cheaper raw coffees.

Hence it’s a stalemate. No room to experiment or innovate – everything is about saving a cent – that becomes the mindset and culture for their coffee which is a stark contrast to the ways in which Italian view wine – happy to pay variable prices!.

So your typical Australian-based specialty coffee roaster has a completely different mindset. They are always thinking about “how can I get a better bean, or how do I beat my competitors with a better tasting coffee”.

Australian coffee roasters are more prepared to pay higher prices for quality coffees in the pursuit of excellence and this has shifted the “cup profile” for Australian espresso beverages to better quality, cleaner, sweeter and acidic arabica coffees.

This creates a noticeable gap between an Italian or European coffee compared to an Australian coffee. Yes, that’s right, you can clearly taste the difference.

Pure espresso in Italy still tastes nice, often with a decent amount of sugar added.

Imported coffee brands started to market their “locally roasted” products recently after years and years of their local importing agents warning them that the imported product was not sitting well with customers and competition was fierce.

This was in direct response to their years of denial that coffee can last for 2 years on a shelf so they finally got the message that Australian consumers were way too smart for buy stale coffee.

Now, a locally roasted product might help them overcome part of the “freshness” debate, but you have to really also question if it’s indeed a quality product.

Just because it might be locally roasted does not always translate into the same comparative quality as a typical quality-focused Australian-based specialty grade offering.

There is far more to coffee than branding, labels and promises.

The sourcing is critically important, as is the skill of the person roasting the coffee. These two factors combine to produce the quality of the roasted coffee beans.

How the coffee is then treated or managed by barista or consumers to product a brew is an entirely different discussion.

Private label, or contract roasted coffee is produced to a specification. That specification is agreed upon between the customer (a brand or label) and the supplier (the coffee roaster).

Raw coffee has volatile pricing due to the impact of the global C-Index, the currency valuation of the Aussie dollar compared to the US and differentials applied to each origin determined from supply and demand factors.

High differentials at specific origins are a normal part of the coffee pricing triangle as at any time of the year, one or more origins will be in supply deficit, driving up the differential and demand exceeds notional supply.

It’s not unusual for raw coffee prices to swing more than 20+% in a month.

Talking about price before cup profile is at cross purposes

Private label arrangements obviously attempt to maximize their profit for both the producer (coffee roaster) and the retailer (brand) so they enter into negotiations with the objective of the lowest price tolerable.

By meaning tolerable, we are talking about what is the minimum cup quality the retailer (or brand) can get away with so as to satisfy their pricing and sales objectives.

As contract and private label coffee roasters ourselves, we know how this conversation always starts – “what’s your best price per kilo for XXX kilos ?

It’s never about taste, profile or cup outcomes, just “what’s the lowest price” which in all honesty is a ridiculous starting point for a coffee solution. Sure, indicating a budget gives a starting point, but it’s not possible to match price with cup outcomes until both are clearly defined.

Coffee roasters need to maintain their business in a profitable manner so they can ensure the work they undertake is produces a return that supports their company in the long term – ongoing expenses for equipment break downs, specialized cleaning, maintenance and capital investments for upgrades, etc.

Generally, quality is a discussion and negotiation point – in fact it’s the customer who wants the best quality at the lowest price and the roaster that wants to maintain their operating margins so they can continue to trade into the future instead of running assets into the ground on razor thin returns.

In order to secure better pricing on the local roasting, the overseas brand may have to commit to a higher volume, or bigger batches roasted less often – so there is some scale efficiency and price reduction opportunities when large continuous volumes are processed.

This starts to erode the freshness element of the product as the overseas brand many be acquiring and warehousing a locally roasted coffee for longer periods of time and potentially selling a stale product to the local Australian market. It begs the question – have they really achieved anything in terms of quality and freshness from branding their product “Now Locally Roasted in Australia” ?.

Perhaps the only gain these Imported coffee brands have achieved is a change to the sourcing of ingredients to better match the Australian coffee drinker’s expectation of taste.

Why transparency and robust discussions are the key to a good private label deal

A professional coffee roasting company knows their real (actual) costs to keep their infrastructure and business running.That might sound simplistic, but to put that into context, of the 2,000 odd coffee brands in Australia, more than 85% are small businesses with limited resources and often they don’t have a good handle on their financials or they have never run large deals so they won’t know all the full costs involved.

An experienced coffee solutions provider will pitch a private label deal with a fair cost taking all those factors into consideration without attempting to be greedy as it’s generally a volume-based opportunity.

In my 28 years or being involved in outsourcing and private label contracts across many industries, private label (or contract manufacturing) is never a license to print money for the company supplying or delivering the contracted outcomes – like any manufacturer you can achieve better margins selling your own retail product.

In some cases, private label manufacturing is barely able to pay costs and profits are limited.

Private label arrangements are indeed complex and at times quite delicate.

Everyone wants a win and it’s important in these engagements that both the customer and the supplier are working together in a unified objective and on a level platform.

The two biggest stumbling blocks in private label coffee roasting negotiations is over the quality grade of the raw coffees and the volatility of raw coffee pricing.

Raw coffee choices materially affect the cost profile and also the quality outcomes and hence there needs to be careful parameters developed, defined and agreed before commencement of any term supply arrangement.

A common issue that can arise in private label coffee roasting relationship is timely payments for supplied goods and services.

There is a terrible culture in Australia’s hospitality industry of holding out payments until the last possible moment. Unfortunately, this creates unnecessary pressure and stress on both parties and in particular the supplier (coffee roaster) may halt further deliverables until the outstanding payments are made, or may raise the price to cover credit risk or recovery – all situations that place undue pressure and stress on relationships.

What about size and scale

Coffee roasting plants are labor intensive – there can be lot of manual effort involved in unpacking, cleaning, weighing, mixing, batching, loading, degassing, packaging, delivery, etc.

Generally, the larger the plant, the more likely automation will be implemented and typically a lower price might be achieved on a price per kilo basis.

However, there are well known facts about the size of a coffee roasting plant versus the cup quality with larger systems statistically proven to generate lower quality.

Whilst some boffins may argue this with discretionary science, the fact of the matter is this……….taste what’s in the cup ?

Automated plants are not always adapting to the incredible list of variables experienced in the roasting life cycle. Having humans in the key parts of the process enables fine tuning of production variable to optimise the outputs towards higher qualities.

From our long-term experience and engineering background, we have arrived at the view that 30kg and 60kg plants are the precise sweet spot for the best grade quality coffees.

We are not alone in our views that once you get above a 120kg plant, there may be compromises and trade-offs in cup character.

In a competitive coffee market, every single percent of improvement (quality) you can yield from the bean, roasting platform, quality management systems, packaging and storage practices, etc. all contribute to producing a superior grade product.

Coffee roasting is not about how many kilos of coffee per hour you bag……it’s about how high can your score in quality and consistency.

Quality Systems

Ironically, some of the largest companies have the most quality credentials and significant resources dedicated to managing quality aspects.

When it comes to coffee quality, there are some fundamental principles that are required to be built and implemented to ensure quality is maintained – these are not paper-based, ISO-9000 or HACAAP approved – they are the common sense areas of ensuring the raw and finished products are handled with the utmost care to preserve quality.

It’s ironic that a HACAAP consultant attending to our premises had zero experience in coffee roasting facilities, then proceeded to ask for help in preparing a series of questions that could be used on forms to “tick the boxes” to become accredited.

At Carlini, our 38 years of engineering, technical excellence and industry leading performance means we know every aspect of the coffee life-cycle inside-out.