Starbucks Corporation's Revised Rewards Plan: Masterful, or Misguided?

By Markets Fool.com

The information contained in the chart above has engendered quite a response, most of which appears to be negative. Image source: Starbucks Corporation.

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Last week, Starbucks Corporation was reminded that vivid passion often characterizes strong loyalty, as the tweaking of its affinity program raised quick and unexpected protests from a contingent of enrolled members, who vented on Twitter and other social media platforms, over a switch in the way Starbucks awards its affinity points, called "stars."

Beginning in April, stars will be credited based on the monetary value of purchases, at the rate of two stars per dollar spent, as opposed to the current setup, in which a star is earned for each completed transaction, regardless of dollar amount.

To reach the rewards program's "gold" status after April, rather than complete 30 transactions, a customer will need to earn 300 stars -- that's an outlay of a cool $150. In order to obtain subsequent free food and drink rewards, now credited every 12 visits, a member will have to accumulate 125 stars, which equates to $62.50 in purchases.

The customers who stand to lose from these changes are small ticket, non-frequent purchasers, which the company labels as a "minority" of its rewards program members.This might be a minority, but it's a strident and angry one, which perceives itself to be quite loyal to the coffee chain. I've watched more than 950 comments (and counting) pile up on Starbucks' site over the last week beneaththe original post introducing this plan, and they're overwhelmingly negative, with only a handful of responses in apparent support of the revisions.

For example of the math that's offending customers, take a 16-ounce "grande" drip coffee, which sells for just over $2.00 in much of the United States. Let's round that up to $2.30 to account for various pricing differences among cities, as well as the taxes states and local jurisdictions place on the sale. If this type of purchase, made without any accompanying food items, describes your own habits, it would take you about 65 visits to earn gold status, and roughly 27 additional visits to obtain your first reward.

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The company isn't totally insensitive to this raised hurdle for the drip coffee-only herd. As a way to smooth the transition to the revised affinity structure, Starbucks will dispense with its "welcome" level, leaving just the "green" and gold classifications in place.

By dropping the welcome level, Starbucks essentially provides any enrollee into the rewards program with the instant benefit of free drip coffee and hot tea refills. The coffee giant will also roll out monthly "Double-Star Days," in which each $1 spent is worth four stars. And management has promised that all green and gold level customers will retain their current status when the new program launches in April.

The program's evolution, from Starbucks' point of view
Consumer outcry notwithstanding, there are plenty of reasons for the company to embrace an affinity system which rewards dollars spent versus transaction quantity. First, doling out stars on value versus frequency incentivizes the customers who can more directly affect overall revenue and margins -- i.e., those who combine regular visits with high-ticket purchases. It also puts to an end the unfairness higher spenders have complained about since the inception of the original program, as their extra money spent has yielded no additional benefit.

Management pointed out last week that rewarding the value of transactions has been the single most requested idea Starbucks' customers have asked it to explore. One quirk in the response seems apparent now, however. Judging from the comments on the company's blog, many supporters of a shift to dollar-based stars assumed that rewards levels would not change, or at least not this drastically. To obtain a food or dink reward within a 12-visit window, a customer now has to average a receipt of $5.21.

Nonetheless, higher-value rewards members, when properly encouraged, can drive average tickets up, and that's what Starbucks is aiming for when you boil this program evolution down to a business proposition. And in what feels like a weird and reverse angle at which to come at things, Starbucks may be rewarding the customers it feels most loyal to, rather than those who are angrily proclaiming Starbucks' affront to their loyalty.

Management is confident of the new program's benefits
For investors, members' expressed concerns should be weighed against management's belief that the economics of "Starbucks Rewards" (the "My" disappears from the title in April) will serve the company quite well. On Starbucks' Feb. 22 conference call explaining the upcoming structure, CFO Scott Maw averred that the new rewards formulation was a key factor guiding the company's confidence in its comparable sales growth guidance for the entire year.

Maw also explained on the call that transaction splitting, the practice of asking a barista to ring up one item separately from another, to gain two stars on a visit versus one, was costing the company by keeping customers in line longer and thus slowing throughput. He cited the pending elimination of transaction splitting as another positive influence on comparable sales, because of improved efficiency and higher customer satisfaction.

Starbucks' management is attempting to communicate this idea to its affinity program members. Imagesource: Starbucks Corporation, on Pinterest.com.

There's another distinct financial advantage inherent in the new structure, in that gold members' stars expire in six months. This will result in some conversion of deferred revenue into realized revenue each quarter for Starbucks moving forward.

Generally accepted accounting principles, or GAAP, require that Starbucks record a monetary liability on its books of $0.50 for each star its members earn. But six months is a short time frame, and the company will most certainly be able to transfer some percentage of the liability into revenue on a regular basis, as a portion of members let points expire unused each month.

In conventions developed over decades by major airlines and hotel groups, affinity program points typically don't expire, as long as customers can show one or two instances of qualifying activity within, say, a 12- or 18-month period. By ignoring this standard practice, and clawing back small bits of the top line, Starbucks demonstrates the sharp financial acumen it's long been admired for.

Now if you're a program participant, things may look different. As much as Starbucks may speak in terms of building a stars-based "digital currency," those stars will cease to function as anything objectively close to real money come April. This is despite the company's budding affinity partnerships with the likes of Spotify and Lyft, in which stars are generated from non-Starbucks commercial transactions.

In fact, stars will become a wasting asset, subject to something analogous to monetary inflation. They may not decline in measurable amounts from day to day, but they've got a terminal value of zero within a tight six-month band from the day they're earned. Like those unused vacation days that some corporations don't allow employees to carry over, your stars will become a quintessential use-it-or-lose-it proposition.

We've probably not seen the last tweak of "Starbucks Rewards" this year
As an economic decision made by a profit-oriented, publicly traded company, it's difficult to find issue with the revamp Starbucks has presented to its customers. On the other hand, the organization's success has in recent years been predicated on the high product fondness, customer satisfaction and loyalty its regulars exhibit.

Something about this vivid backlash, even if it's truly coming from only a minority of customers, seems to beg a response from management. My guess is that we may yet see a compromise points configuration in 2016, if only on a transitional basis, which strikes a balance between value and frequency. Ultimately it's in Starbucks' interest to keep its smaller-spend customers loyal and engaged, as they're still an integral piece of the company's powerful business equation.

The article Starbucks Corporation's Revised Rewards Plan: Masterful, or Misguided? originally appeared on Fool.com.

Asit Sharma has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Starbucks. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.