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Nespresso Customers Cheat on Clooney in Coffee Wars: Retail

October 19, 2011

Oct. 19 (Bloomberg) -- French shoppers are cheating on George Clooney.

Sales growth of Nespresso, the Nestle SA single-serve coffee capsules marketed in Europe by the actor, may slow by about 20 percent next year. More consumers are choosing knockoff java in the supermarket to save cash and the hassle of going to a specialty Nespresso store or filling out a form online.

The world’s largest food company has built Nespresso into a 3 billion-franc ($3.3 billion) brand after more than a decade of double-digit growth by marketing the coffee as an affordable luxury exclusively sold in boutiques and on the Web. Since last year, former Nespresso executives have flooded French and Swiss grocery shelves with versions that work in the same machines for as much as a third less. Rivals are now targeting markets including Germany and the Netherlands as weakening economies and lower incomes entice more shoppers to switch.

“Competition is heating up and will only intensify,” said Richard Withagen, an analyst at SNS Securities in Amsterdam. “If there’s an innovation as successful as Nespresso, it attracts competition.”

Nespresso sales will grow 18 percent next year, from 22 percent anticipated this year, according to the average estimate of seven analysts surveyed by Bloomberg. The predicted slowdown will lower Nestle’s sales growth to 5 percent, the bottom end of the Vevey, Switzerland-based company’s annual target, according to an estimate by Nomura analyst David Hayes.

Nespresso accounted for about 15 percent of Nestle’s sales growth in 2010, according to Hayes, who expects the unit’s revenue to advance 12 percent next year.

‘Room for Growth’

Nestle reports nine-month sales tomorrow. Organic revenue, which excludes acquisitions, divestments and currency shifts, probably increased 7.2 percent, according to the average of 17 analysts’ estimates. Sales growth at that level may slow to 6.1 percent in 2012, the average of seven estimates shows.

Nespresso’s rivals, encouraged by the expiry of some of the Nestle unit’s patents next year, are trying to edge in on a market where retail sales may climb 47 percent globally between 2010 and 2015, according to Euromonitor International.

“There’s definitely room for growth,” Nespresso spokesman Hans-Joachim Richter said. “The cake is growing and we get our fair slice. We have to share the cake.”

Nespresso sold more than 6.5 billion capsules in 2010, according to Bloomberg calculations.

Nestle shares were unchanged at 51.50 francs at 11:17 a.m. in Zurich. They have declined 5.9 percent this year.

Rival Capsules

Nestle has intentionally avoided selling Nespresso through supermarkets to keep direct contact with consumers and maintain service quality, said Julian Liew, a spokesman for the unit. While originally that helped cultivate an image of exclusivity, former Nespresso executives had a different idea to snag sales.

“The distribution system of Nespresso is all wrong,” said Jean-Paul Gaillard, a former head of Nespresso who formed rival Ethical Coffee Co. in 2008. “It’s too complicated to buy.”

Enter the retailers. Lars Olofsson, who became CEO of Carrefour in 2009 after 32 years at Nestle, including three supervising Nespresso’s strategy, has stocked France’s largest supermarket chain with alternative capsules from Sara Lee Corp., the maker of Douwe Egberts which aims to surpass Kraft Foods Inc. to become the second-biggest coffee seller. Casino’s 9,500 stores in France sell capsules made by Ethical Coffee.

“France will be a hot spot where Nespresso’s hegemony will have to fend off Sara Lee” and Casino, JPMorgan Cazenove analyst Polly Barclay wrote in a Sept. 22 note. Nespresso gets about half its sales from France, according to the brokerage.

Biggest Challenger

A pack of 10 Nespresso capsules sells for 3.50 euros ($4.80) in France, Casino offers Ethical Coffee’s product for 2.59 euros, while the Sara Lee version sells for as little as 3 euros. With European consumption slowing because of the debt crisis, Nespresso’s exclusive image may become a handicap.

“Price competition will become more difficult in the future,” said Jean-Marie L’Home, an analyst at Aurel BGC in Paris. “People who used to only buy Nespresso are now buying half Nespresso and half Casino.”

Sara Lee’s L’OR Espresso capsules may be the biggest challenger, given the U.S. company’s ability to spend on marketing, said L’Home. L’OR Espresso is sold in France, the Netherlands and Spain. Sara Lee has sold 200 million of them since they went on sale in April 2010, said Ernesto Duran, a spokesman for the Downers Grove, Illinois-based company.

Sara Lee, which had $2.07 billion in cash at the end of its most recent fiscal year, is on an “aggressive new coffee thrust,” as it plans to spin off its coffee business next year, which will probably lead to a “much more aggressive growth- focused strategy,” JPMorgan’s Barclay wrote.

Legal Battles

Ethical Coffee capsules went on sale in Germany this month, while the company also has distribution agreements planned for Italy, the U.K. and Scandinavia.

Investors have sounded a note of concern on other companies as well. Green Mountain Coffee Roasters Inc. fell the most in two months on Oct. 17 after hedge-fund manager David Einhorn said the market for its Keurig single-cup coffee is “limited” and that the company faces patent expirations.

Indeed, Nestle isn’t taking the incursion lying down. Nespresso has sued rivals including Sara Lee and Ethical Coffee for alleged patent infringement, while rejecting counter claims. Swiss supermarket chain Denner was temporarily forced to stop selling Nespresso-compatible capsules in July after a Swiss federal court ruling. The ban was lifted in August. Both Ethical and Sara Lee say their capsules don’t infringe any patents.

That might not be enough to stop the bleeding.

“Legal action will only put people off for so long,” said Jon Cox, head of research at Kepler Capital Markets in Zurich. “It’s pretty obvious that competition will come and legal action is just stalling them.”

--Editors: Thomas Mulier, Paul Jarvis

To contact the reporter on this story: Dermot Doherty in Geneva at ddoherty9@bloomberg.net

To contact the editor responsible for this story: Celeste Perri at cperri@bloomberg.net


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