A New Addition to Cobranding's Menu

  With the coming of the Starbucks credit card, marketers say the restaurant sector could be the next big opportunity for cobranded cards. But will issuers garner only low-calorie profits?
  It took Starbucks to make marketers in restaurants and other parts of the travel-and-entertainment industry wake up and smell the coffee.
  With its bold introduction this fall of the first cobranded credit card with stored-value features, Seattle-based Starbucks Coffee Co. has broken new ground in the quick-service restaurant (QSR) category and jolted competitors out of complacency. The Visa-branded Starbucks card issued by Chicago-based Bank One Corp. was expected to be launched at CCM's press time.
  "Restaurants are watching the Starbucks credit card evolve and are rethinking their loyalty programs and wondering how some of these new devices might work for them," says Allan Hickok, managing director of Hickok McMillan Strategic Advisors, a Minneapolis-based restaurant-industry consulting firm.
  Bank One confirms that other restaurant and related T&E companies suddenly are checking out the specter of cobranding.
  "This could be the beginning of a trend," says a Bank One spokesperson. "We're getting a lot of interest from companies interested in exploring cobranding now that Starbucks has been the first to move in this sector." The spokesperson, however, would not name any restaurants.
  Visa says it does not expect a rush of restaurant-industry players launching cobranded credit cards in the near future, but "there is definite interest; a lot are thinking about it and talking to us," says Jeff Kann, executive vice president of Visa USA in charge of strategic partner development.
  Likewise, MasterCard International does not forecast a stampede of restaurants following Starbucks' example, but MasterCard's market research shows a high level of interest among QSRs in speeding up transactions through new payment technologies, and developing loyalty programs ("Adding Convenience to Wireless Payments," page 22).
  Starbucks provides a highly visible test of whether restaurants are indeed the next untapped pocket of opportunity in cobranded cards, analysts say.
  What is most intriguing about the Starbucks card to restaurant marketers is its new twist on cobranding-pairing the reloadable Starbucks-only stored-value feature with a Visa credit card. If the concept steps up store traffic considerably with its combination of rewards, flexibility and convenience, industry insiders say some imitators in the restaurant sector are likely to follow the coffee chain's lead.
  To lock in loyalty, the Starbucks credit card features a tiered system allowing frequent customers to earn points redeemable for Starbucks products and services at its 6,500-plus stores nationwide. Like the pure stored-value card Starbucks introduced in 2001 that resulted in 16 million activated cards through September of this year, the new credit card has features that can be managed and tracked online through the starbucks.com Web site, all aimed at generating additional traffic. Starbucks would not comment on the specifics of the credit-related rewards before the card's launch, but industry analysts speculate that they may include a range of items from other retailers in addition to products from Starbucks.
  Mixed Opinions
  "Restaurants have only had limited success with loyalty programs in the past, and if Starbucks demonstrates a new way to increase traffic and revenue with its card, other food-service companies are going to pay close attention," says Hickok.
  Credit card analysts have mixed opinions about whether Starbucks will inspire other brands in the quick-service and dining industries to test the waters for new cobranded or card-based loyalty programs.
  "I wouldn't put any other restaurants in Starbucks' category," says Marc Sacher, a director with Auriemma Consulting Group Inc., Westbury, N.Y. "No other large chains have Starbucks' brand positioning or their opportunity to be first with a cutting-edge new card product."
  Nevertheless, Starbucks' new card is making waves in the card industry because it marks a major shift in the type of brand and merchandise harnessed for a cobranded offering.
  "No one doubts the power of the Starbucks brand, but this is not a typical cobranded card scenario," says John Grund, a partner with Linthicum, Md.-based First Annapolis Consulting Inc. "Starbucks has huge popularity and its customers do high-volume, low-ticket transactions, and that's a very different model than the traditional cobranded card that was centered around bigger-ticket purchases and substantial rewards like airline travel."
  In order to succeed on a big scale as a cobranded credit card, the program must transcend Starbucks' small-ticket purchase structure and drive cardholders to make "substantial" purchases in other retail sectors, according to Grund.
  "The key to success will be managing the value proposition carefully, so Starbucks isn't giving away free coffee without moving the needle for Bank One," says Grund. "To make the economics of this card program hang together, the Starbucks card is going to have to be at the top of the wallet."
  Indeed, the unknown with restaurant-related cards is how they will generate revenues and ultimately profits for their issuers. The card associations have set QSR interchange rates to make the segment attractive to issuers. In fact, Visa in October lowered QSR interchange to 1.65% of the sale plus 4 cents on sales of $15 or less compared with 2.02% plus 4 cents previously. MasterCard's rate is a straight 1.8% of the sale.
  Lower interchange rates may make card acceptance more attractive to restaurants, but that doesn't address the issue of whether eatery cobranded cards can generate sufficient charge volume and interest income for the issuer. Some observers say that Starbucks' generally upscale clientele may not revolve high balances.
  A cobranded card's profitability, of course, depends not only on cardholder behavior, but also on how the issuer and partner share revenues and expenses. Starbucks would not talk about its program before the launch, and the Bank One spokesperson would not discuss profitability issues.
  "Every deal Bank One cuts for cobranded cards is different, and it may well be that Starbucks is bearing more of the burden of making this card profitable," says George Yacik, a partner with Hackettstown, N.J.-based SMR Research Corp. "But by targeting an upscale audience that doesn't rack up huge transaction volume on a card, you may end up rewarding people who don't revolve a balance, and that doesn't pay the freight of a card program."
  The Debate
  Starbucks has driven an estimated $35 million in purchases through its reloadable cards since they were launched in 2001, and the Bank One spokesperson says customer research showed the 16 million users of those cards wanted a credit feature added to the card for utility.
  But debating the value of the free coffee Starbucks will give away to customers that were already addicted to Starbucks is old-fashioned thinking, according to the new gospel of loyalty marketing.
  "The next big opportunity for card issuers is to help marketers focus on their best customers, know who they are and reward them so they don't go away," says Chris X. Moloney, director of marketing strategy and development for Maritz Loyalty Marketing, Fenton, Mo., one of the nation's leading marketers of loyalty services.
  Lavishing rewards on customers who were already avid loyalists may have seemed like a dumb idea 10 years ago, but now it's crucial to maintaining momentum, says Moloney.
  "Starbucks resisted doing any kind of loyalty program for years, but their customers responded so enthusiastically to their reloadable stored-value card that it was inevitable," he says. "Customers were practically asking for a loyalty program."
  Other segments ripe for loyalty-based cobranded credit card programs include T&E segments-apart from airlines and major hotel chains- catering to business travelers that already have cards. This group includes some new online travel agencies and national hotel and motel chains without cards, Moloney says.
  Credit card experts say Phoenix-based Best Western International's recently introduced MasterCard is typical of the newest breed of loyalty-based cobranded cards featuring a variety of flexible benefits. The no-annual-fee card from Wilmington, Del.-based Juniper Bank offers points good toward free stays at Best Western's 4,000 international locations, the opportunity to earn gift certificates good at restaurants or retailers, the option to apply points toward free air travel, and automatic enrollment in the company's Gold Crown Club frequent-user program.
  Starbucks will need to keep its credit card rewards versatile and interesting to maintain consumers' interest in the program, says Moloney.
  "The mistake restaurants have made over and over is concentrating their loyalty programs on discounts," he says. "But this encourages the wrong category of customer. Discounts draw the coupon-clippers, the churners who take advantage of them and disappear."
  Moloney adds that winning formulas could be structured for national fast-food marketers such as McDonald's Corp. using a card-based loyalty program to get families to visit the restaurant once more per week, or at different times of the day than usual.
  "There are opportunities for many fast-food marketers to increase frequency of visits by offering rewards that make the experience richer, different or more unique for a loyal customer," he says. "It takes creativity, and these companies are watching Starbucks to see if the loyalty program actually increases routine customers' visits."
  MasterCard acknowledges that the majority of QSRs would face steep challenges in launching a cobranded credit card.
  "Restaurants have hesitated to launch credit cards because they have seen how consumers have historically been reluctant to use credit cards to pay for purchases of everyday staples like food and groceries," says Donna Johnson, vice president of acceptance development for Purchase, N.Y.-based MasterCard.
  Also, unlike retailers, restaurants have not had decades of experience in providing financing options.
  "A lot of restaurants are so focused on delivering the best food possible that the idea of getting into a financial arrangement seems to them to be out of line with their business model," says Johnson.
  But MasterCard and Visa have both identified great untapped potential in the quick-service restaurant category on the acceptance side. Both associations indicate there will be tremendous growth in this area over the next three years, as well as in loyalty programs tied to credit cards.
  Visa says its research shows 80% of QSR transactions currently are conducted in cash, but the San Francisco-based association is on a mission to increase card acceptance at quick-service restaurants and facilitate loyalty programs where relevant ("Fast Food Meets Fast Payment," February).
  MasterCard is also on a rapid growth curve in its penetration at QSRs and is consulting with them about loyalty programs.
  Loyalty Opportunity
  "It's unlikely that we will see loyalty programs for white-table dining, because people don't visit that often, but families will visit one quick-service restaurant two to three times a week, which presents a great loyalty opportunity," says Johnson.
  Launching a cobranded credit card in the current, ferociously competitive environment would be especially tough for restaurants, says Randy Petersen, editor of InsideFlyer, the Colorado Springs, Colo.-based frequent-flier newsletter.
  "After the airlines and a long list of major retailers and marketers with a big national brand name, there are not too many more big whales out there to reel in for major cobranded results," says Petersen. "The elite consumers and frequent travelers were the cream.
  "What's left are people in the middle and the low end of the market who are just now discovering cobranded cards, and companies that are discovering them," he adds. "But if you build cobranded programs around lower-balance customers without a strong transaction incentive, it's going to be very tough to make a profit."
  It will be up to Starbucks and Bank One to prove the skeptics wrong.