As consumers, we have come to expect brands to anticipate our needs and cater to our tastes. Yet few question what these massive corporations might gain from our loyal patronage beyond purchasing their products and services. Starbucks in particular has masterfully integrated itself into daily rituals through convenience and familiarity. But how many Starbucks fans realize the vast financial mechanism subtly operating behind the scenes? By profiting from unused customer funds in its rewards program and gift cards, Starbucks has effectively built a furtive banking arm far exceeding most people’s daily coffee budget.
Starbucks‘ Quasi Banking Rewards System
When Starbucks launched its My Starbucks Rewards (MSR) loyalty program in 2009, it likely expected to foster brand loyalty among avid coffee drinkers. Offering free treats through a points-based system seemed like a win-win for customers and Starbuck’s bottom line. However, in recent years MSR has morphed into a juggernaut financial ecosystem eclipsing the average coffee shop’s wildest dreams.
As of 2018, My Starbucks Rewards boasted over 16 million members contributing to a staggering 37% of Starbucks’ transactions. Through the loyalty program, customers can store value in their Starbucks accounts and earn “Stars” with every purchase to eventually redeem for free items. Seems straight-forward, right? Well on the backend, Starbucks is using those 16 million MSR members to earn substantial interest on unused account balances.
According to financial analyst Matt Stoller, the average Starbucks rewards member holds around $150 in their account while inactive members sit on $250. With 16 million members, that means Starbucks likely has access to a staggering $2.4 billion dollars that it can invest or lend in any way management sees fit. If Starbucks earns a typical 2% return on those funds, that translates into nearly $50 million in pure profit annually. Quite a return for a coffee purveyor!
And Starbucks continues finding ways to expand MSR’s reach among customers. In 2020, Starbucks reported My Starbucks Rewards membership increased by 15% year-over-year. The program also drove 42% of Starbucks’ U.S. revenues in Q2 of 2020, equating to a whopping $1.4 billion dollars flowing through loyalty member purchases in just a single quarter.
As the below chart shows, total active MSR members have skyrocketed over 370% from 4.7 million members in Q2 2015 to over 22 million members in Q2 2021 in the U.S. This member pool and stored account value for investment will likely continue growing substantially year-over-year if recent trends persist.
Data source: Statista
This gravy train doesn’t even account for Starbucks’ billions of dollars in unused gift card values. So essentially through MSR and gift cards, Starbucks enjoys all the perks of a financial organization without bothersome banking compliance.
Cashing in on Consumer Gift Cards
On top of significant rewards system revenue, Starbucks also brings in hefty profits from unused gift cards that customers purchase but eventually forget about or fail to fully redeem. This provides another pool of unused value that Starbucks can hold onto and invest over time.
U.S. law prohibits companies from counting gift card revenue until the card is actually spent in-store. However, corporations still get to hold onto the initial gift card payment for months or years like an interest-free loan from consumers until redemption. According to CEB TowerGroup research, the unused balance on Starbucks gift cards in consumers’ hands totaled approximately $166 million in the U.S. alone back in 2015.
Given Starbucks’ booming gift card sales growth at over 10% annually, that unused value likely tops over $200 million today just for physical Starbucks gift cards purchased by American consumers. And that doesn’t even include digital gift cards which have risen exponentially in popularity. Once again, Starbucks gets to invest these idle funds however it wants while waiting for consumers to redeem cards.
Hybrid Consumer-Finance Companies
While Starbucks may excel in disguising its banking activity behind frothy lattes, make no mistake – other corporate giants salivate at similar financial prospects. Consumer and technology companies like Amazon, Apple, Walmart, Target, and Costco now all offer various banking functions from credit cards to loans leveraging their massive customer bases and transaction volumes.
For example, Amazon offers credit cards, small business loans, and even a burgeoning payments platform. Apple continues expanding into financial services like Apple Pay, Apple Card, and “buy now, pay later” installment financing plans. Walmart also maintains a slew of banking features from checking accounts to credit cards catered specifically to Walmart loyalists.
Like Starbucks, these retail and tech conglomerates essentially operate as “hidden banks” within their stores. They can easily tap into millions of daily transactions with existing customers to peddle financial products camouflaged under their household brand names. And by technically operating under their parent retail entities, these hybrid consumer-finance firms frequently bypass the regulations and capital requirements faced by traditional banks.
So next time you order a Venti Mocha Cookie Crumble, consider where else that $6 might end up other than the teenage barista’s tip jar. We’ll explore potential regulatory approaches next.
The Hidden Banking Loophole
As consumer brands like Starbucks and Apple increasingly edge into financial services, regulatory bodies have taken notice around potential risks. Government officials worry about anti-competitive behavior given these corporations’ immense size and influence. What stops Starbucks from promoting financial products to captivated customers waiting in line?
Other concerns include data privacy, systemic risks if the companies fail, and adequate adherence to banking compliance standards around transparency, reporting, and more. However, various countries have taken different approaches on how to balance innovation versus regulation among these hybrid consumer-tech-finance companies.
For example, the European Union enacted PSD2 regulations requiring large tech and retail firms to register as official payments processors to comply with EU data protection and oversight laws. So if Starbucks wants to continue operating its maze of mobile payments, stored value, and cross-border money transfers across Europe, it must meet EU regulatory demands.
In the United States, government action remains far more fragmented. While the Consumer Financial Protection Bureau has enhanced supervision on non-banks attempting to take deposits, no major federal crackdowns have occurred yet. For hidden banking facilitators like Starbucks that steer clear of formal deposits or lending, regulatory requirements stay relatively minimal so far besides standard consumer protection statutes.
This gray zone allows companies to drippingly test ever-expanding financial products without the notoriety or regulations that prominent FinTech disruptors like Square and Stripe endure. While perhaps not intentionally exploitative, the current interstitial landscape enables corporations to act akin to banks without actual banking accountability.
Next we’ll examine ethical concerns around transparency and corporations “financifying” unknowing consumers.
An Ethical Morass of Hidden Finances
Technically businesses can argue they are creating shareholder value legally through financial subsidiaries and unused customer account balances. However, the lack of transparency and consumers’ ignorance around what actually happens to stored value raises reasonable ethical skepticism.
Consider unused gift card breakage – when a consumer fails to redeem the full card value prior to expiration. While purchasers technically agree to terms allowing unused funds to expire or be turned over to the state under escheat laws, do everyday shoppers actually realize companies continue investing and earning returns on unredeemed balances for months or years? Probably not.
And with unused loyalty program funds, consumers likely care more about convenience and rewards perks than consciously agreeing to become lenders. Can corporations justify secretly profiting from inertia around withdrawing unused balances without providing any ROI to the depositors themselves? Arguably no, at least not without prominently disclosing the schemes.
This quandary sparks important philosophical questions around financial transparency and equitable relationships between individuals and enormously powerful corporations. Even if consumers willingly store money in Starbucks accounts without reading terms and conditions, should they understand Starbucks banks idle funds to earn investment income for itself?
If we believe brands have ethical duties around trust and transparency given their market dominance, then perhaps corporations must operate loyalty programs more akin to actual loyalty programs rather than clandestine banking vehicles. Of course Starbucks persists unencumbered by such bothersome deliberations, instead budgeting how to spend its latest $50 million interest haul from last year’s unused gift card balances.
But as regulators eventually catch up, scrutiny around pseudo-financial institutions masquerading as coffee shops seems inevitable, if not overdue. So in the interim, let’s examine counterarguments around self-correction through market forces.
The Counterargument for Laissez-Faire Oversight
When facing criticisms around inadequate transparency or oversight, corporations frequently default to trusting market forces. Without addressing apparent conflicts of interest, companies argue if consumers were truly upset by backend financial maneuvers, they would vote with their wallets. Claims of “we’re only giving customers what they want” sidestep fiercer condemnation.
In Starbucks’ case, the chain could point to My Starbucks Rewards’ continual growth as evidence that coffee drinkers simply don’t care about balance opacity. And why should they? Consumers today likely understand Starbucks invests unused balances to earn interest somehow. But as long as the mobile app keeps working and free birthday treats keep coming, delving deeper into financial disclosures remains unnecessary.
Starbucks could also contend that its banking activity encourages innovation that ultimately benefits consumers. By leveraging its retail platform to build financial products, Starbucks can offer added convenience and value. So whether allowing customers to check balances via app, transfer money across borders, or even apply for credit lines down the road, Starbucks-style shadow banking boosts options through synergies with its trusted coffee brand.
However, just because consumers currently tolerate sudo-banking practices at Starbucks given brand familiarity, does not make it automatically ethical. And even if we concede the rewards program provides mutual value, can a corporation transparently manage unused customer funds yet still relentlessly optimize profits?
Unfortunately Starbucks declines transparency to let consumers see behind the curtain. And third party estimates place MSR-related investment income rivaling Starbucks’ overall profits. This imbalance plants seeds for future legislation requiring fiduciary-esque obligations around unused balances akin to escrow accounts.
Until then, unfortunately consumers must fend for themselves while "friendly" neighborhood coffee shops borrow money free of charge.
Conclusion: Scalding-Hot Coffee, Ice-Cold Transparency
With over $2 billion dollars stored in My Starbucks Rewards accounts and $200 million on unused gift card balances, Starbucks has constructively built a furtive financial division rivaling traditional banks; all while maintaining a beloved image serving lattes with a smile. Yet few customers grasp the enormity of this veiled banking operation when stopping in for their morning coffee routine.
Through its phenomenally successful loyalty program and gift card breakage, Starbucks enjoys free-of-charge lending from millions of unwitting consumers. Yet it provides zero transparency into what actually happens with unused funds or how Starbucks might invest balances for its own gain over letting them sit idle. This lack of visibility cloaks Starbucks in ethical ambiguity around failing to disclose financial material facts.
As regulators eventually scrutinize hybrid consumer-financial corporations, it seems reasonable to expect enhanced oversight and even restrictions around how companies handle and profit from unused customer funds. But until then, Starbucks continues obfuscating its banking bonanza behind friendly baristas, cozy cafes, and a cult-like coffee-drinking customer base unaware of how their spare change fuels financial markets.
So next time you’re tempted to round up your order to earn bonus Stars, consider what else Starbucks might do with that extra dollar fifty when you aren’t looking. Maybe regulation scrutiny will finally cool off abusive pseudo-banking behavior. But in the meantime, consumers best check their accounts lest companies like Starbucks skim too much cream off the top behind the scenes.