Tales from Bostonia

We spent a few days in Boston last week, and the trip reinforced my belief that Portlanders are very spoiled by the amount of high-quality coffee available to us.

The first thing you notice when you drive around Boston (rather, the first thing I notice) is the presence of Dunkin’ Donuts shops everywhere. There are even more Dunkin’ Donuts than Starbucks. Apparently, Massachusettsans (or their less-polite fellow citizens) like bad coffee. Dunkin’ tried to establish itself in Portland a few years back, but the city’s coffee connoisseurs ignored the company, so it left town.

But Boston is not Portland, and Dunkin’ Donuts has a special place in the hearts of New Englanders. The chain was founded in 1950 in Quincy (pronounced quin-zee), Massachusetts, a few miles south of Boston. From the original shop, the business has grown to approximately 7,000 stores in the US alone (10,000+ around the world). Earlier this year, Dunkin’ announced it wants to double the number of US stores in the next two decades (a sign of the impending apocalypse?). The success of the business is unquestionable. The quality of the coffee, on the other hand…..

Give it a shot

Trying to keep an open mind, I stopped in at a Dunkin’ Donuts one morning and ordered a small coffee. The server asked if I wanted it “regular,” which, in Massachusetts, really means “with milk and sugar.” I said yes.

The coffee, unfortunately, met my expectations. It tasted like lightly-sweetened water. Bleh. It puzzles me that Dunkin’s coffee is so popular, but there is more behind the company’s success than just coffee.

In Boston, drinking DD coffee is almost a badge of honor, a symbol of loyalty toward the place New Englanders call home. People drink Dunkin’ Donuts’ coffee, not because it is high quality, but because it communicates something about their values. They identify with Dunkin’s working class, egalitarian American ideals (“America runs on Dunkin’”). In other words, Dunkin’ serves the common coffee drinker.

When I worked for Starbucks in Boston, customers would occasionally come into the store and grumble about the cup sizes, saying something like, “I just want a large. I don’t speak Italian, or whatever that is,” implying that Starbucks’ use of a foreign language was elite West Coast snobbery (I wonder what the customer would think of this post). In the least snarky voice I could summon, I would reply, “That’s okay, we speak English here too.” (Hopefully, they detected some sarcasm, but not too much.)

The marketing/branding lesson in the story is that it takes more than just a quality product to be successful. You have to have something that resonates with your customers’ values.  

Hope for future coffee snobs

Given Dunkin’s history in the Northeast, it would be a challenge to separate New Englanders from their DD coffee, but people are building a better coffee scene in the “Hub of the Universe.”

Thanks to some enterprising Bostonians, it is possible these days to find good coffee with a little effort. One shop providing better beverages is Thinking Cup, a café across from Boston Common that serves Stumptown coffee. The shot of Hair Bender they served me was not quite what you would get from Albina Press (where I’m sitting as I write this), but it was tasty.

Other quality cafés are popping up around the Boston metro area too. Unlike five years ago, when DD or Starbucks was about all you could find (in addition to the Italian coffees in the North End), these days you can find Stumptown, Counter Culture, Intelligentsia and George Howell coffee if you know where to look. That’s a significant improvement, and I expect to see the trend continue in the future. Boston will be hosting the 2013 Specialty Coffee Association of America Event, which means that the pressure will be on for Boston cafés to show off their best stuff. Boston might not be ready to take the title of America’s Best Coffee City from Portland, but it is heading in the right direction.

Coffeenomics, Dunkin’ Donuts and Private Equity

Today, in case you  missed it, Dunkin’ Donuts (DD) held its initial public offering (IPO) on Nasdaq. By all accounts, it was a successful IPO. The stock was originally supposed to be priced at $16-$18 per share, but the day before the sale, the owners raised the target price to $19 because they sensed there would be more demand for the stock than originally believed.

The sellers were right. On the first day of trading, Dunkin’s price jumped nearly 50%, closing at $27.85 per share. It was a good day for the owners.

I don’t want to dwell too much on the stock’s price or where it might be going, though that would be an interesting discussion (Forbes has a somewhat pessimistic take here). What I do want to talk about is a small part of the Forbes article that caught my eye:

“The members of the consortium recently paid themselves $500 million in a special dividend, which ended up as debt on the company's books, so the IPO proceeds will essentially go to pay for that little kicker.”

The ‘consortium’ consists of three private equity firms: Bain Capital (Mitt Romney’s former company), the Carlyle Group and Thomas H. Lee Partners. They had previously purchased Dunkin’ in a leveraged buyout (LBO), meaning they borrowed a lot of money (~$2.4 billion) to buy the company.

Leveraged buyouts are nothing new—they are what private equity firms do.  The firms borrow huge sums of money to buy a company that has a lot of cash or saleable assets, with the idea that they can dispose of the non-performing assets and make the company more profitable. The buyout firm is supposed to improve the operations of the company to make it more profitable and attractive to future buyers. They come in, turn the company around, and sell it after a few years for a big profit.

At least that’s how it is supposed to work.

Often, however, when the private equity firms buy a company, they saddle the company with huge amounts of debt, making it harder for the company to be profitable. Dunkin’ Donuts’ LBO is a typical example—the debt used to purchase the company ended up on the company’s balance sheet, and payments on the debt have been dragging down DD’s earnings. The money raised in today’s IPO was being used to pay down the debt.

This might lead you to ask, if Dunkin’ already had a lot of debt, why would the owners pay themselves a “special dividend” that only increases that debt? The short answer: because they can. As owners of a company, they have the right to do just about whatever they want to with the company’s assets, so paying themselves this kind of dividend is common. The investors get paid, regardless of whether or not the buyout actually improves the long-term health of  the company.

In order to make the LBO successful, the new owners ratchet up pressure on managers and employees, pushing for higher productivity and profitability. The push to make higher profits often leads to cuts in salaries and benefits, store closures and layoffs.  

The private equity firms  argue that they are just squeezing inefficiencies out of the system. They fail to advertise that these “inefficiencies” are often peoples’ jobs, pensions and by extension, their lives. Just ask the people who worked for the Chicago Tribune. The beneficiaries of the LBOs are the investors, not the system.

Here’s the bottom line: Billionaires can play games with other people’s money and lives in a way that the rest of us can only dream about.

Whether we like it or not, that’s how it is, and I don’t see it changing anytime soon. To tell you the truth, I can’t decide whether to rail against the system or try to start my own private equity fund. Maybe I’ll just start the prep work for a successful Caffeinated PDX IPO. . . How does the year 2020 sound?

Thoughts?