Friday, July 20, 2007

Coffee Bean in Shanghai

July in Shanghai feels like a gigantic outdoor sauna. At 90F, the locals considers it the hottest days in a year. For someone from California, the temperature is tolerable but the humidity makes it hard to breathe. It reminds me about the summer time in Atlanta. It would be natural to think that cold drinks sell fast in a hot day, but surprisingly it takes quite a bit effort to find typical cold beverages, including ice water, that we take for granted in the U.S. That’s because in China traditionally cold food and drink are considered unhealthy, so you are most likely to find hot milk, and warm cola for sale.

At a street corner, I spotted a familiar name, The Coffee Beans & Tea Leaf, an LA-based chain. The Saturday morning coffee shop gathering culture has not yet been imported from the U.S. There were six staff and few customers. The freshly brewed Columbia drip tastes not only authentic but pure. Apparently the water used to make coffee here is not from the regular water source in Shanghai, which is notoriously foul tasting. Simple put, it makes everything taste like detergent, perhaps due to all the chemicals put in to kill the bad stuff in the Huangpu River.

A large drip coffee costs RMB 20 (roughly US$ 2.64), 50% more nominally than that in the U.S. It made me wonder why such a high price in a comparatively lower wage country, despite that the labor cost is so much lower here. One possible explanation is that premium coffee is marketed as a luxury product, which is tailored to people who want to express their higher-than-average status and taste, therefore charging more would let them affirm such association.

Does the luxury product marketing psychology really have a play here? Let’s first take a look at the economics. To make a comparable estimate, we need to also factor in the import taxes. The current import tax on coffee is 15% and the import value-added tax is 17%, an effective tax of 34%. That’s lowered from the 44% level in 2004. Even after accounting for the wholesale and Chinese domestic transportation cost, there is still a 9% premium. As The Coffee Beans sources directly rather than through a Chinese domestic wholesaler plus the lower labor cost, the extra margin would mostly likely be well above 9%. That perhaps could be the price to pay for a luxury product in China.

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