Risk and reward at stake in on-going capsule wars

What else? Nestlé is fighting hard to protect its Nespresso line that recorded SFr3.5 billion ($3.6 billion) in sales in 2011 AFP

The battleground for supremacy in the coffee pod market shifted two years ago from the supermarket (or boutique) to the courtroom. The rising number of cases since then has raised the stakes for both Nestlé and rivals.

Nestlé is understandably keen to protect its star product Nespresso which recorded SFr3.5 billion ($3.6 billion) in sales last year and “high double-digit” growth in the first six months of 2012. Margins are estimated at 30 per cent, a third higher than other coffee products.

Other companies are also understandably eager to grab a slice of the rapidly expanding single portion coffee pod market. A growing number of firms believe the best way of achieving this is to catch a piggy-back on Nespresso by producing capsules that can be used in its machines.

Nestlé responded swiftly to protect its patents, but with mixed results. Swiss courts have granted temporary bans on supermarket chains selling their Nespresso-compliant capsules, but Nestlé has been hit with anti-trust countersuits in France and an adverse court ruling in Germany last month.

The number of fresh challengers and lawsuits has multiplied in recent months, threatening to overwhelm Nestlé with the sheer weight of time and expense.

“The dam has burst open,” Swiss-based food industry consultant James Amoroso told swissinfo.ch.

Fight goes on

Amoroso, like other observers, feels that Nestlé is fighting a losing battle and will eventually be told by the courts that consumers should be free to choose whatever capsule they want to use in Nespresso machines.

But the cost of litigation pales in comparison with the profits Nestlé could reap if the company can delay the arrival of competitors’ rival products. The single portion coffee market is expected to be worth $8 billion (SFr7.5 billion) in 2014, according to  market researchers Euromonitor.

“Nestlé won’t blink first and walk away – they are the coffee kings and will fight tooth and nail to maintain their leadership in coffee, both capsules such as Nespresso and Dolce Gusto as well as instant coffee,” Kepler Capital Markets analyst Jon Cox told swissinfo.ch.

“Nestlé has the financial resources to fight off any competitor if it wants to – and Nestlé does in coffee,” he added.

Nespresso Switzerland boss Pascal Hottinger confirmed that the legal fight will continue in an interview with the SonntagsZeitung newspaper in early September.

“For us, it is important that the competition is fair. We have defended our intellectual property and will continue to do so,” he said.

Reputational risk

In the war of words surrounding the legal cases, rivals have been eager to score points against the multinational giant. Through the media, consumers can read claims that Nestlé merely wants to corner the market to keep prices high.

Former Nespresso boss Jean-Paul Gaillard, who set up one of the first rivals, Ethical Coffee Company, openly admits that being sued by Nestlé generates helpful publicity for his product.

But Amoroso does not believe that Nestlé has to fear damage to its image or reputation as a result of the increasingly hostile legal action.

“Are consumers going to be turned off Nespresso as a result of these court cases and surrounding publicity? Certainly not,” he told swissinfo.ch.

“Consumers must consider Nespresso good value for money or it would not be a SFr3 billion-plus business. Nestlé’s argument that cheaper rivals compromise quality will go down well with loyal customers.”

Starbucks arrives

Perhaps a bigger threat to Nespresso’s dominance of the single portion coffee market is the recent arrival of Starbucks with a rival high-end machine and pods, complete with their own technology, innovation and patents.

Retailing at an even higher price than Nespresso, it represents the first head-on challenge in the well-heeled consumer market. It remains to be seen whether the United States chain can compete with Nespresso’s inclusive package of service, exclusive boutiques and powerful marketing.

“You can bet this is going to be serious competition in the space,” Jon Cox told swissinfo.ch.

Ironically, the arrival of competitors could benefit Nestlé, according to Amoroso. New products will grab the attention of more consumers, he argued, some of whom could filter towards Nespresso at a later date.

“Nespresso is the gold standard and some consumers may aspire to move up to the full service that it offers,” he told swissinfo.ch. “Without rival products growing the market, Nespresso’s growth rate would flatten out on its own.”

Pod wars

Nestlè was the first company to introduce a high quality espresso style coffee capsule product to the market in 1986 – 10 years after filing initial patents.

Nespresso’s initial launch met with only modest success, but was boosted by a new strategy that aimed the product at the high-end sophisticated market.

Nespresso has become established as an iconic consumer brand with a range of machines and pods available to buy online or through a growing number of boutique shops. Customers can join an exclusive Nespresso club and the engagement of Hollywood star George Clooney to promote the brand has further boosted its image.

As the Nespresso brand took off, rival companies were quick to produce their own machines and pods at cheaper prices, but Nespresso continues to dominate the market based on a reputation for higher quality.

The arrival of new rival capsules that can be used in Nespresso machines threatens a more seriously challenge to Nespresso’s dominance.

The arrival of Nespresso-compliant capsules sparked an ever increasing round of legal suits and counter actions.

Nestlé is currently fighting the Ethical Coffee Company, US giant Sara Lee and Swiss supermarket chains Coop, Denner and Migros in the courts.