Stars, Bucks, Rewards, and Real Opportunities.

Starbucks is a bank.

You know this, you read my last newsletter - here

But Starbucks never talks about this fact.

But for a few years, the coffee giant hasn’t contented itself with brewing up your morning cup of coffee.

They’re brewing up their own financial services, too. ?

At the center of this venture stands the Starbucks App and the in-house loyalty program Starbucks Rewards.

Together, those components have formed an unlikely financial services ecosystem enclosed in the Starbucks brand.

The Starbucks App allows customers to order and pay contactless in Starbucks branches.

And by paying like this, they also gather loyalty points for the Starbucks Rewards program to spend on benefits.

This development has only accelerated over the years.

Yet, it also has suffered pushback in the recent past, when Starbucks changed the loyalty points/free drinks ratio – making some items cheaper and others more expensive in terms of loyalty points to spend getting them.

Yet, the outrage only proves how popular Starbucks’ Rewards program is.??

And one other popular practice related to the Starbucks App has made headlines over the last years: As user numbers of the Starbucks App rise, so does the amount of money deposited on their prepaid cards.

Electronic money laying unused on card accounts… has Starbucks turned into a bank?

And is this a business model, that other companies might want to adopt??

Well, don’t start depositing your spare change into a latte cup, just yet.

Let’s take a look at what’s really going on behind the scenes first.

In the following paragraphs, we will explore:

• How Starbucks turned from a coffeehouse to a fintech player
• Which benefits the company reaps from its financial services
• If Starbucks is a bank now
• How other companies can embark on the same route as Starbucks – and profit from it

How It All Started – From Gift Cards to Embedded Finance

It all started with a simple gift card. In 2001, Starbucks launched a reloadable card as an alternative to their one-time gift cards.

The café group was one of the first retail companies to offer such a prepaid card.

Following the debut of Starbucks Card Rewards in spring 2008, the Gold loyalty program was introduced later that year.

This program allowed any Starbucks cardholder to enroll, enabling "super users" to achieve an elite "gold" status, which came with additional freebies and in-store benefits.

The program's simplicity was a key factor in its success. Customers could earn stars simply by swiping their card to pay for their drinks.

In January 2011, there was another leap forward with the national launch of mobile payment through the Starbucks card Mobile app.

It turned any iPhone into a Starbucks card and assigned a persistent digital identity to each customer.

Today, Starbucks Rewards is one of the most successful loyalty programs:

• Starbucks has over 75 million active global reward members within a 90-day period, nearly 33 million of whom are in the U.S., where the program is still growing at 14% year-over-year. About one in every 10 US adults is a member of Starbucks Rewards .?
• In Q4 2023, Starbucks Rewards grew by 4m 90-day active members, now contributing to 30% of total sales, up 9% in just one year. 41% of Starbucks’s U.S. sales come from its loyalty members.
• Starbucks Reward members are 5.6 times more likely to visit daily compared to non-members. 71% of Starbucks app users visit a store at least once a week.
• Starbucks boasts a customer retention rate of 44%, surpassing the industry average of 25%.

It was a gift card that never expired and granted access to rewards such as free refills and free drink customization.        

In 2009, the company took this loyalty program into the digital realm with MyStarbucks.

This little mobile app introduced us to the star of the show.

Or rather, the Stars.

The so named virtual currency acted as the medium of exchange in the loyalty program Starbucks Rewards. For each dollar spent on food or drinks, customers would get one Star. Afterward, they could trade the Stars in for drinks, extras, meals and the like.

In 2015, the app finally ventured into the preliminaries of embedded finance.

Customers were enabled to order their drinks and pay for them in the app using the Mobile Order and Pay feature. It is tied to a virtual Starbucks Card (which may have a physical counterpart). Via the app, customers can top-up this card with a predefined fixed amount of money (remember, reloadable credit). The app is also the home of the Starbucks Rewards program and manages a virtual currency account filled with Stars from the loyalty program.

And that is where the brilliant twist kicks in, which makes the app highly worthwhile for coffee lovers: Not only did the new app version offer a convenient way to skip ahead in line during rush hours at the local Starbucks.

Those who put money in the Starbucks App to pay for their order receive 2 Stars for 1$ instead of 1.

Double the loyalty points, double the free Americanos.

Stars and Bucks – the Impact of Mobile Order and Pay

Now, did Starbucks digital app-based payments, virtual currencies and cross-service marketing pay off?

The Starbucks loyalty program is one of the most popular reward programs in the whole retail industry.

It enrolled over 16 million people until 2019.

During the pandemic, the growth rates skyrocketed once more, bringing in an extra 13 million.

By the end of 2022, almost 29 million users had joined.

Starbucks’ payment methods are also popular among the coffee-loving crowd. 41% of customers in the U.S. regularly pay via Starbucks Cards in branch stores, and 21% pay via the Starbucks App (as of 2020).

The coffee dealer has also integrated popular payment methods like Apple Pay, Google Pay, Cash App, etc. to increase their app’s appeal even more.?

Starbucks is Fintech

Before we get into Starbucks’ banking capabilities, we start at one step below. Let’s state the obvious: Starbucks is a fintech company.

And the coffee maker is not alone.?

The move to offer embedded financial services or custom payment methods in a closed ecosystem is not unheard of among retailers and tech firms.

In fact, non-traditional players are increasingly entering the financial services industry with innovative digital offerings.

Walmart for instance has already shown similar ambitions, partnering up with payment providers.

As noted by McKinsey, retailers like Starbucks, with its massive customer base and digital expertise, are perfectly positioned to take advantage of this trend.?

For instance, the Starbucks rewards program resembles those offered by traditional banks and credit card companies. Using the Starbucks Card comes with extra benefits – and that makes it attractive for customers.

Starbucks also introduced a subscription service where the card in the app is automatically topped up each month.?

The Starbucks Formula??

Yet, running a payment app doesn’t turn Starbucks into a fully-fledged bank, does it?

What makes the difference here is not the payment via the app – it’s the deposited money on the prepaid card, which customers won’t touch again.

Of the balances stored in Starbucks gift cards, around 10% don’t get used –?often because customers lose their cards or forget they have them.

In retail terms, those unused balances are called breakage.

Now, banks also store their customers’ money.

They pay out interest on their savings, too.

BUT Starbucks doesn’t pay any interest to store money for customers.

The company is making a profit by having unused money in its system – the breakage that customers paid for without receiving service for it.

And all of that adds up to something: In 2021, Starbucks derived around 43% of their overall revenue from their gift cards sector.

By the end of the same year, the company’s cards held around $1.64 billion in balance.

That’s more than 85% of U.S. banks have on their deposit accounts individually.

It’s money that adds to Starbucks’ revenue figures.

And it’s money, that covers around ~6% of Starbucks’ liabilities –?money, that the company can work with, just like a bank. In 2021, the money Starbucks gained from the breakage amounted to $181 million, according to Bloomberg.?

Thus, customers are effectively lending money to Starbucks, with an interest rate of around -10% (due to the breakage) as John Paul Koning pointed out.

Kim Jung-tai, chairman of the Korean Hana Financial Group, put it more boldly: “It will be fine to call Starbucks an unregulated bank, not a mere coffee company.”

Starbucks Lacks Real Banking Services

Still, this notion would perhaps go one step too far.

True, from the perspective of Starbucks, the company enjoys a few benefits associated with banks. But from the customers’ perspective, Starbucks is not yet a bank.

At least, when we look at what kinds of financial services the coffee provider offers.

In stark contrast to real bank accounts, the funds on Starbucks Cards and in the Starbucks App can only be spent on products made by Starbucks.

It’s simply a closed-circle mobile payment app, with a loyalty bonus program attached to it (and a good one at that, by loyalty program standards).

That means, there is no cash withdrawal option for the app.

Customers may store money on their Starbucks Cards via the app.

There is no way to get it back, except perhaps as a goodwill gesture by the customer support team.

So, unlike banks, the Starbucks App is not a source of cash.

Depositing funds on a Starbucks Card means converting it to “coffee money” forever.?

What’s more, Starbucks does not lend out money to its customers, like banks typically do.

Could Starbucks Become a Bank????

All of this doesn’t mean that Starbucks doesn’t want to make the jump to full banking services in the future.

As we’ve seen with the rise of fintech companies and the increasing acceptance of digital banking, the financial services industry is rapidly evolving.

And with the support of the right partners, who have experience navigating the regulatory landscape, Starbucks might have a shot at pulling this off.

But as much as we would adore a pumpkin-spiced latte bank, let’s not forget the potential for failure.

While it’s true that Starbucks has a loyal customer base, banking is a whole different ball game.

It’s not just about brewing a good cup of coffee.?

Traditional banks and financial institutions adhere to a plethora of regulations. Those range from KYC (know your customer) requirements to anti-money laundering laws. Banking is about ensuring the security and stability of customers’ finances and having reserves deposits and risk-aversion strategies in place.

If Starbucks wanted though, they could try to become a bank and would be in a good position to.

And that’s what makes traditional financial institutes nervous.

Especially, if the Starbucks model would act as a blueprint for other retail businesses as well.

How Others Can Benefit From the Starbucks Model

Companies like Starbucks are looking for ways to stay relevant. Ultimately that often means becoming more digital themselves and providing a mostly frictionless consumer experience.?

And Starbucks is not the only company lining up.

Just look at companies like Amazon, who have reaped huge financial benefits from their embedded finance activities.

Amazon, for instance, has its own credit card, and they also offer loans to small businesses through Amazon Lending. Walmart has a credit card and they have also begun offering check cashing and money transfer services.

Linking loyalty programs and financial services, just like Starbucks did, can bring retailers a lot of benefits.

Those include:

• Increased Revenue: Reducing friction in payment through in-house payment apps and prepaid cards, paired with loyalty programs and bonuses can cause customers to spend more at shops.??
• Deeper Customer Relationships: Linking payments to other incentives will encourage customers to interact with the brand more often and become more loyal to it.
• Better Insights Into Customer Behavior: Processing payment via an in-house platform allows leverage of customer data and leads to a better understanding of their spending habits and payment preferences and enables businesses to personalize the offerings.
• Breakage Profits: As described above, a gift card system will generate revenue that is not completely translated into customer purchases, giving your business more financial flexibility.??

The list goes on.?

From Transactional to Experiential Loyalty

Now let's talk loyalty and how it has evolved over the past decade.

We can all agree that for almost every business, having loyal customers is better than having non-loyal customers.

No business can make money on customers who are chronic switchers.

Loyal customers spend more, more frequently, and for longer.

To illustrate this with a stat (out of many): Keeping an existing customer is five to 25 times less expensive than acquiring a new one.

And in general, loyalty is working very well: 93.1% of companies that measure ROI (return on investment) for their loyalty program have a positive ROI.

However, there are two significant challenges:

1. The end of third-party cookies is a big deal for the nearly $1 trillion global advertising industry, as it cuts off access to much of the third-party data. Less data means less personalization. This forces brands and advertisers to collect first- and zero-party data;?
2. The transactional relationship of many loyalty programs fail to establish meaningful, long-term relationships with customers. They often fall short of the demands of hyper digitized younger consumers seeking richer digital experiences. This results in low emotional engagement.

In fact, 61% of consumers?switched some or all of their business from one brand or provider to another in the last year.

This is why, in recent years, brands started to experiment with more sophisticated forms of loyalty, such as richer storytelling and experiences and a shift the focus from shop-to-earn to participate-to-earn.

Owning, collecting, and transacting digital rewards strengthens customer connection, long-term engagement, and buy-in.

It also gives consumers more agency in the projects, communities, and ecosystems they participate in.

• Simplicity in loyalty: Starbucks' loyalty approach has always been straightforward: customers load their accounts, spend money, and earn stars. The key is simplicity. Any new addition should enhance this core mechanic, not change it.
• Community focus: Since becoming a global brand, Starbucks' mission has extended beyond coffee to "nurturing human connection." This has involved localizing its stores to reflect neighborhood culture, exemplified by initiatives like the Starbucks Art Program.
• Digital ambitions: Starbucks views its digital experience as a strategic priority and a differentiator. Highlighted in multiple earnings calls, digital has been identified as a key growth driver. With 75 million Reward members, there's potential for significant expansion (3x) given Starbucks' total customer base. The focus for its digital initiatives is on convenience and connection, with Odyssey enhancing the latter.

You Can Do It Like Starbucks (by partnering)!

Offering embedded finance as a retail company comes with initial efforts, risks, and challenges.

For instance, compliance with regulations and protecting customer data are of the utmost importance.

Both require significant resources and expertise.

As a business, you should prepare to compete with established players in the industry.

And ultimately, every embedded finance solution enhancing your platform is only as good as the underlying technology.

It’s this software that manages the customer’s money, after all.

However I am currently working on a solution that makes the transition easier for your company to get involved in the loyalty and reward game without the hassle.

if interested, DM me and let us see if we can help.

Our software makes it easy for businesses to offer rewards and get leads and awareness, while also increasing revenue and improving customer loyalty.

Contact me at [email protected] and let’s see if we can help you get in on this Starbucks-sized opportunity!