Small Business Lessons from the Coffee Wars

SEATTLE (TheStreet) -- Americans might have cut back on frothy cappuccino drinks, but coffee consumption has remained remarkably stable in the past year. That's good news for the companies fighting for their share of the caffeine-addicted public.

Even though consumer spending is down, McDonald's (Stock Quote: MCD) and Peet's Coffee & Tea (Stock Quote: PEET) have actually seen revenue rise, thanks to smart product launches. Even Starbucks (Stock Quote: SBUX), which saw a significant slump in sales, has managed to rebound.

In any competitive industry, a business must find its niche and defend it. If you can define and maintain your territory as well as Starbucks and McDonald's do, you'll stay ahead of the competition.

Anyone in the coffee business has one built-in advantage: a broad base of potential customers. About half of American adults drink coffee every day.

"Consumers still see coffee as an integral part of their everyday lives," says Robert F. Nelson, chief executive officer of the National Coffee Association. "Even if economic conditions cause some to alter their coffee choices, they are nonetheless continuing to enjoy coffee at levels very much on par with recent years."

Coffee has been a morning mainstay for decades, but the quality and cost has improved in recent years. Starbucks popularized upscale coffee creations, such as frappuccinos.

McDonald's even entered the business this year with its McCafe, and so far it looks like a winner. Sales at McDonald's restaurants in the U.S. were up 3.5% in the second quarter and 2.6% in July. Increased coffee sales contributed to the gains.

McDonald's CEO Jim Skinner said in a statement that customers want "menu variety, value and convenience."

Consider those three factors. McDonald's is about as convenient as it gets, with more locations than any other restaurant in the country. And the company relies on low prices to attract budget-conscious consumers. That leaves menu variety as the main area where the company can innovate to bring in new revenue.

McDonald's is a marketing powerhouse that understands its customer base, so it knew how to zero in on McCafe's potential consumers. Rather than trying to ape Starbucks' confusing array of specialty drinks, McDonald's offers three choices: cappuccinos, mochas and lattes.