Business Ines Ajimi

Coffee Location Decisions

How profits, rents and taste determine the position of New York City coffee shops

By: Ines Ajimi

How profits, rents and taste determine the position of New York City coffee shops

With over 3,300 coffee shops and coffee consumption over 6 times the national average, N.Y.C. is one of the most caffeinated cities in North America. Yet, all neighborhoods are not served equally: according to the New York City Economic Development Corporation, most coffee shops are clustered in Midtown and Downtown Manhattan, with Williamsburg, Glendale & Park Slope in the lead for the outer boroughs.

What explains this distribution? Will it change in the future and, if so, how?

Location Decision: The Median Customer

For brick-and-mortar stores like coffee shops and restaurants, location is key. Intuitively, picking the ideal spot implies striking the right balance between high consumer density and limited competition. The initiative of opening a store requires securing a lease and buying equipment (both high sunk costs), thus there is little room for experimentation or tweaking.

Hotelling’s Location Model, the best-known theory in geographic economy, offers a simple rule-of-thumb for location decisions. In the model, businesses are spread out across one straight line and compete in geographic location only. Since products are perfectly identical, customers will always go to the business closest to them. The outcome is a cluster of business around the median customer.

However, as even a cursory glance at our neighborhood will tell you, coffee shops are not all alike. Coffee itself is a highly variable product, as it can taste differently depending on the origin, roasting method and blending of the beans. Moreover, coffee drinks can be prepared in many different ways, ranging from espressos to on-tap sparkling cold brew. Coffee shops themselves are differentiated by quality, price, and atmosphere.

Structuring competition and tying together all three of these variable elements is the notion of “coffee culture”. For many people around the country, coffee is synonymous with work. Indeed, it is primarily used today as a quick-acting stimulant, helping employees remain productive throughout the day. Yet, after a persistent decrease in consumption from the 1960s to the 1980s, the industry attempted to re-brand itself, “emphasiz[ing] quality, value, and image” (D’Costa 2011), allowing consumers to define themselves based on their preferred brand.

“Specialty coffee” was the direct result of both this marketing tactic and the work of a few coffee enthusiasts. The movement started off in the United States in the 1970s with the ‘second wave’. As the most successful of those brands (e.g. Starbucks, Peet’s Coffee) expanded and became ‘mainstream’, the ethos of ‘specialty coffee’ passed on to a new ‘wave’ of enthusiasts. The coffee shops born from this ‘third wave’ are smaller, independent, and have strong direct relationships with all components of their supply chain. They also use more expensive, skill-intensive machines and engage in what academic Joey Manzo has described as a “‘theater’ of drink preparation” (think latte art). These specialty coffee shops are additionally more likely to use ‘technical’ jargon or arcane methods which may act as ‘cultural barriers to entry’.

Explaining where taste comes from, and by extension why an individual would have a preference between chains and “specialty coffee”, is a complex endeavor. In his classic book Distinction: A Social Critique of the Judgement of Taste, sociologist Pierre Bourdieu explained ‘taste’ as the result of class-based cultural preferences, where the dominant class is able to shape what is perceived as tasteful and socially desirable. In this view, preferences for ‘specialty coffee’ are intrinsically linked to one’s social environment (though, as Manzo notes, they can also be ‘acquired’ over time).

“Coffee culture” therefore segments the market between consumers of large chains (e.g. Starbucks), “third wave” coffee shops (e.g. La Colombe, Third Rail) and neighborhood joints. Competition exists mainly within these different types of coffee shops. Given that neighborhoods are often socially homogeneous, this implies that coffee shops will cluster in neighborhoods with which they are “culturally aligned”. Therefore, Midtown is mostly occupied with chains (though ‘third wave’ coffee shops have started encroaching in their territory), while ‘Third Wave’ shops have a strong foothold in Downtown and Brooklyn.

Expansion Opportunities in New York City

In the long run, classic economic theory holds that new businesses will enter the market as long as there are positive positive profits to be had. Initially, we would expect coffee shops to locate where demand for their product is highest, i.e. neighborhoods with a high consumer density such as Midtown Manhattan. Over time, new entrants pressure rent upwards. Once higher rents have resulted in zero economic profits, coffee shops expand into new neighborhoods, trading off lower demand for lower rent. This process repeats until the long-run ‘locational equilibrium’, where businesses are indifferent between all possible locations, is reached.

We would therefore expect N.Y.C. coffee shops to locate in the future in neighborhoods where commercial rents are undervalued. Using a machine learning model specifically trained to optimize coffee shop locations in N.Y.C., the data scientists of Topos find that the greatest overall increase would be in the Bronx, which they note “resonates with [its] recent surge in population and jobs in the private sector”. Consistent with the market segmentation strategy aligned above, chains and third wave coffee shops would expand in different neighborhoods ways, with the former moving outwards (into new boroughs) while the latter expands “upwards in Manhattan and outwards in Brooklyn”.

These trends have significant implications beyond geographic business decisions. The expansion of third wave coffee shops to the outer-boroughs is, in particular, tied to gentrification, as the movement of higher-income residents into these neighborhoods allows coffee shops to expand there and their presence, in turn, attracts more gentrifiers.

The location of coffee shops is therefore a complex business decision, balancing on the one hand the density and cultural profile of neighborhoods and, on the other, rising rents. As the former increase, coffee shops are pressured to expand into new neighborhoods, reshaping the commercial and residential map of the city in the process.

 

Works Cited

 

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