Presented to: By: Project Number 11489 June 2005

1. Final Report The Food-Away-from-Home Beverage Marketplace • Presented to: • By: • Project Number 11489 • June 2005

2. I. Introduction

3. Background • The food-away-from-home (foodservice) beverage marketplace represents a large and dynamic portion of total foodservice industry sales. Whether they are hot or cold, these categories represent significant sales and profit to all channel participants. The market experiences dynamics that are not typically found in other foodservice categories: • Beverages represent a disproportionate level of gross profit for operators. • Incidence of ordering beverages with a foodservice meal is very high. • Beverages transcend every foodservice segment, daypart and occasion. • Manufacturer branding and merchandising is highly important in many beverage categories. • There is a very high level of new product development. • Numerous formats for each beverage type exist. • Specialty distribution networks play a major role in the channel. • Equipment has major implications on total programs offered in many categories • Technomic knows of no study that evaluates the entire range of beverages in the foodservice industry. It is with this in mind that Technomic undertook such a major common interest study on this topic.

4. Objectives • The objectives of this study are to: • Provide a comprehensive assessment of the foodservice market for both hot and cold beverages, including market size, segmentation, growth prospects, trends and dynamics. • Understand consumer attitudes, practices and behavioral patterns regarding beverage selection and consumption. • Assess operator practices, attitudes, selection on beverages within their operations. • Better understand status and opportunities for individual beverages • To determine the overarching implications of study findings on and opportunities for study sponsors.

5. Product Scope – Hot Beverages

6. Product Scope – Cold Beverages • The cold beverages included in the study, along with their formats, are listed in the following table. Alcoholic beverages were excluded from the scope.

7. Segment Scope • The following table lists the operator segments and relevant sub-segments that were included in the scope of the engagement, relating to volumetrics. Convenience stores, vending/OCS and bars and taverns are excluded, given the different dynamics impacting these segments.

8. Methodology • To meet program objectives, Technomic utilized the following multi-step methodology: • Step One: Program Initiation Meeting • Technomic met privately with each sponsor (via teleconference or in person) to review the proposal, discuss background issues, identify proprietary topics and determine study output requirements prior to the start of the engagement. • Step Two: Secondary Source Review • During this step Technomic gathered and reviewed all publicly available information on the subject. Technomic also analyzed beverage offerings of leading chains and independents. • Step Three: Six Focus Group Sessions • To obtain initial qualitative insight, Technomic conducted a series of eighteen mini-focus groups in three geographic markets. For each city, three of these groups consisted of foodservice patrons; three others consisted of foodservice operators. Topics discussed related to attitudes, preferences and behavior. These groups afforded ample time for confidential evaluation of proprietary issues, product/concept testing and other areas of proprietary client research. Sponsors had the opportunity to view the focus group sessions.

9. Methodology • Both the consumer and operator focus groups were held in December 2004 in three major markets, Chicago, Los Angeles and Boston. Nine groups of 4-6 operators (for a total of 51) were conducted in these markets, each lasting 45 minutes. Participants were required to have primary beverage purchasing authority for their foodservice operations; annual food and non-alcoholic beverages purchases must have exceeded $250K. Technomic ensured that each group had “appropriate” representation of beverages offered and segments. • Consumer focus groups were also held in each of these markets and consisted of 4-6 participants, ranging from the ages of 20 to 66. The minimum household income for participants was approximately $30,000. Each group was nearly split by gender, and was represented proportionally by race.

10. Methodology • Step Four: In-Depth Channel Research • Technomic conducted a series of both qualitative and quantitative research with various links in the foodservice channel. The specifics of the sample are listed in the below chart.

11. Methodology • Step Five: Reporting • At the completion of all field work, Technomic prepared this report to document study results and conclusions. Report content includes both common interest and proprietary sections. An executive summary presentation has been produced under separate cover. Detailed tabulations of consumer and operator data has also been provided under separate cover.

12. Report Organization • The remainder of this report is organized as follows • Beverage Category Overview • Consumer Behavior and Attitudes • Operator Behavior and Attitudes • Competitive Market Shares (Proprietary for Pepsi) • Conclusions and Recommendations • Appendix: Detailed Category Data • This appendix provides specific volumetric and growth data as well as consumer behavior information on each beverage category studied.

13. II. Volumetric Overview

14. Total Foodservice Beverage Market • The total foodservice beverage market is approximately $79 billion in 2004 in retail sales equivalent (RSE) terms – or foodservice patron purchases. Cold beverages account for $52.4 billion or 66% of this total, with the balance found in hot beverages. Foodservice Beverage Market Sales (RSE)* 2004 Total = $79,015MM *Retail Sales Equivalent Source: Technomic, Inc.

15. Hot Beverage Category Sales Regular coffee dominates hot beverage foodservice operator sales, its $18.8 billion representing more than 71% of the total volume. Specialty coffee sales of $5.6 billion account for the second largest share of hot beverages at 21%. The remaining 8% of the category is made up of hot tea ($1.4 billion) and hot cocoa ($630 million). Foodservice Hot Beverage Market (RSE)*2004 Total = $26,580MM *Retail Sales Equivalent Source: Technomic, Inc.

16. Cold Beverage Category Sales In terms of the cold beverage category, carbonated soft drinks (CSDs) have, by far, the highest sales. Operators sold a total of $27 billion in carbonated soft drinks, giving CSDs more than half (52%) of all cold beverage share in foodservice. No other single cold beverage accounts for more than 14% of total share. Foodservice Cold Beverage Market (RSE)*2004 Total = $52,435MM *Retail Sales Equivalent Source: Technomic, Inc.

17. Beverage Sales Share of Operator Segment Sales • Looking at total sales by operator segment, of total sales of LSR Coffee Shops, 80 % come from beverages. At the other end of the spectrum, only 13 % of total Traditional LSR sales come from beverages. Non-Alcoholic Beverage Sales Share of Total Segment Sales *Donut, Non-Coffee Beverage Shops Source: Technomic, Inc.

18. Beverage Sales By Operator Segment In total, LSRs represent the highest share of total foodservice beverages sales, at $28.7 billion in sales or 36 %. LSRs represent 43 % of hot beverage sales, and 33 % of cold beverages sales. *Includes traditional LSRs, coffee cafes and specialty beverage shops Note: Numbers may not add due to roundingSource: Technomic, Inc.

19. Historical Beverage Growth (2001-2004) Hot beverage growth outpaced cold beverage growth in the three-year period between 2001-2004. Total beverage nominal growth in the 3-year period was 3.0%, and hot beverages bested category growth by a point, reaching 4.0%. Cold-beverage growth at 2.5% was slightly lower than the category growth, however, potentially showing a shift in consumer preferences. 2001-2004 Historical CAGR(Nominal Sales Growth) Source: Technomic, Inc.

20. Historical Hot Beverage Growth (2001-2004) Specialty coffee drinks have been helping to fuel the growth of the hot beverage category in the past few years. From 2001-2004, nominal growth of specialty coffee drinks has experienced double-digit growth of 11%, doubling the growth of its closest rival, hot tea, at 4%. Regular coffee has been relatively flat, only growing 2% nominally in the last three years. Nominal Sales Growth* (CAGR) 2001-2004 *Inflation assumption of 2.6% annually Source: Technomic, Inc.

21. Hot Beverage Trends Some of the trends and drivers of growth in hot beverages include the following:

22. Historical Cold Beverage Growth (2001-2004) • The fastest growing cold beverages fall into what Technomic calls “New Age,” or those that fit the mold of “trendy” from a consumer standpoint. Soy/rice milk has seen astounding nominal growth of 20% over the last three years, following by bottled water and ice/frozen coffee, which each have been growing by 12% nominally. • While CSDs have only experienced a 1% growth, it is important to note that these products represent more than half of the cold beverage category share, which makes growth more difficult to achieve than the “New Age” products which typically have a small share. 2001-2004 – Nominal Sales Growth* (CAGR) *Inflation assumption of 2.6% annually

23. CSD Trends/Dynamics • The following chart examines the trends and dynamics impacting carbonated soft drinks (CSDs), for both dispensed and packaged formats.

24. Fruit Juice/Juice Drink Trends/Dynamics The following chart examines the trends and dynamics impacting with fruit juice/juice drinks, including dispensed and packaged formats.

25. Cold/Iced Tea Trends/Dynamics The chart below examines the trends and dynamics impacting cold/iced tea in its variety of formats – dispensed, packaged and brewed.

26. Specialty Cold Beverage Trends/Dynamics The following table looks at the trends and growth associated with specialty cold beverages, including iced/frozen coffee, smoothies and frozen beverages.

27. Milk Trends/Dynamics The chart below examines the trends and dynamics occurring with white milk, flavored milk and soy/rice milk.

28. Alternative Beverage Trends/Dynamics The chart below examines the trends and dynamics occurring with what Technomic terms “Alternative Beverages.” These are, bottled water, sports drinks and energy drinks.

29. III. Consumer Attitudes and Practices

30. Introduction • This section contains consumer attitudes and opinions toward beverages and beverage products in the foodservice context. Data in this section were gathered from a total of nine focus groups conducted in three major markets and the Internet survey of 1,562 consumers. • In numerous areas, consumers were asked to comment about their behaviors and attitudes relating to a number of venues. These are listed below:

31. Consumer Qualifications To qualify for the survey, consumer respondents must have visited a foodservice operation and purchased a beverage at least six times in the preceding eight weeks. A little more than half of the total population qualified under this restriction. # of Visits to Foodservice in Last Eight Weeks Base All consumers

32. Venues Visited Among the qualified respondents, most had visited a traditional LSR or FSR within the last six weeks. Very few had visited a hospital or school/college cafeteria. # of Consumers Visiting Base: Consumers having visited foodservice operations at least six times in the last eight weeks

33. Venues Visited For Beverage Purchases • Consumers tend to purchase a beverage as part of a meal in almost all venues, with the exception of LSR Coffee Cafés. Consumers were asked to indicate in which foodservice venues they have purchased a beverage within the last two months for two distinct “occasions”: 1) As part of a meal; 2) Purchased a beverage only. Traditional LSRs have the highest incidence of beverage purchases as part of a meal at 94%. Quick Casual and Full Service restaurants are also popular venues where beverages are purchased as part of a meal. • The highest incidence of purchasing a beverage only (without an accompanying meal) is in LSR Coffee Cafés. Almost 3/4ths of consumers who have visited at coffee café in the last 2 months have purchased a beverage only during at least one occasion. % Indicating How Beverages Purchased within Last Two Months(by Operations Visited) Source: 2005 Technomic Beverage Study Consumer Survey

34. Beverages Purchased By Consumers in LSRs In all limited service restaurants (traditional, quick casual, coffee café, and specialty), soft drinks and coffee have the highest purchase incidence. Of those that have visited an LSR in the last 2 months, 83 % have ordered a dispensed CSD at least once in this time period as part of a meal. % Consumers Purchasing Beverage in LSR* within Last 2 Months *Includes Traditional, Quick Casual, Coffee Café, and Donut/Snack Source: 2005 Technomic Beverage Study Consumer Survey

35. Beverages Purchased By Consumers in FSRs At full-service restaurants, like LSRs, carbonated soft drinks and coffee are ordered by most consumers. Unlike LSRs, however, dispensed cold/iced tea incidence is high. Few purchase a beverage only in FSR. % Consumers Purchasing Beverage in FSR within Last 2 Months Source: 2005 Technomic Beverage Study Consumer Survey

36. Beverages Purchased by Consumers in Beyond Restaurant Segments From a beyond restaurant perspective, consumers tend to purchase a greater variety of beverages. Notably, beyond restaurants tend to draw the highest percentage of consumers who purchase a beverage separately from a meal compared to the commercial sector. % Consumers Purchasing Beverage in Beyond Restaurants* within Last 2 Months *B&I, education, hospitalsSource: 2005 Technomic Beverage Study Consumer Survey

37. Consumer Hot Beverage Consumption/Purchasing Trends • Consumers were asked to indicate if they have purchased each of the individual beverages over the past two years in foodservice venues. Seventy-two (72%) of consumers indicated they have purchased regular hot coffee. • In addition, consumers were asked to indicate if they are consuming “more”, “less” or “about the same amount” of each beverage compared to two years ago. Data suggests that consumers believe they are actually drinking about the same amount as in the past. Using Technomic’s “Net” analysis, consumers believe that their overall hot tea and cocoa consumption is down. *Base: Those consumers who have purchased in last two years. Asked to compare own consumption compared to two years ago. Source: 2005 Technomic Beverage Study Consumer Survey

38. Consumer Cold Beverage Consumption/Purchasing Trends While the majority of consumers have reported a reduction in consumption in cold beverages, regular bottled water, and cold/iced tea show “net” increases. *Base: Those consumers who have purchased in last two years. Asked to compare own consumption compared to two years ago **Small base Source: 2005 Technomic Beverage Study Consumer Survey

39. “Free Water” Impact On Beverage Usage Consumption • Free water is having an impact on consumer purchases of beverages. A total of 54% of consumers are increasingly ordering free water away-from-home. Moreover, 66% of 18-24 year-olds, for a variety of reasons, are asking for free water, the highest percentage of all age groups. Females are also more likely to order free water. From a gender standpoint, 56% of females ask for free water, slightly higher than the consumer average. • Focus group insight also indicates that “free water” is competing with other beverages. The demand for free water is growing not for “economic” reasons, rather health benefits is the key driver. • “Its not about the money. Water is just better for you.” “I am increasingly getting the ‘free water’ instead of ordering a beverage when eating out.” Top 3 Box 1 to 7 scale: 1=do not agree at all; 7=completely agree Source: 2005 Technomic Beverage Study Consumer Survey

40. Foodservice Beverage Applications Meal Complement Social Companion Thirst Quencher Meal Replacement Snack Technomic analysis indicates that there are five individual consumer beverage purchase “applications” in foodservice. Note, these each are not mutually exclusive; multiple applications can be present for individual beverage purchase occasions. Source: Technomic

41. Foodservice Beverage Applications • In focus group sessions, consumers were asked to define a what is a beverage. Each of the following comments from these groups illustrate individual applications as developed by Technomic. • "Beverages quench my thirst. Coffee is nice because it gives me something to do with my hands, since I just stopped smoking.“ — Thirst quencher • Coffee or some fancy beverage that costs $4 is something nice to have when I socialize.” — Social companion • "A beverage satisfies immediate taste for the moment and quenches thirst. I like the Vitamin C in orange juice and milk as it gives me a boost..“ — Thirst quencher; Snack • "I tend to associate beverages with thirst and something to wash down food with.” — Thirst quencher; meal complement • “When I’m in a hurry, I’ll have a smoothie for lunch.” — Meal substitute • “In the afternoon, me and my coworkers will go down to get a cappuccino during our break.” — Social companion; snack

42. Beverage Application Specificity In the structured survey, consumers were asked to indicate which beverages are associated with each of the specific applications. Overall, there is no consensus in terms of which beverage is best for each occasion. However, bottled water is perceived by the majority to be among the “most thirst quenching”. Which beverage do you associate with the following? “Goes well with food”(Meal Complement) “Is fun to drink”(Social Companion) Note: Consumer chose up to three beverages for each description; beverages mentioned by less than 10% of consumer not shown Source: 2005 Technomic Beverage Study Consumer Survey Continued…

43. Beverage Application Specificity Which beverage do you associate with the following? “Is a special treat”(Snack) “Most thirst quenching” Note: Consumer chose up to three beverages for each description; beverages mentioned by less than 10% of consumer not shown Source: 2005 Technomic Beverage Study Consumer Survey

44. Consumer Beverage Selection • Consumers were asked their beverage preferences by foodservice venue. Technomic learned that beverage choice is not significantly impacted by the type of venue they are visiting and that consumer purchase behavior generally remains constant. For instance: • For all segment purchases, consumers reported that taste for particular beverage is paramount. • Variations among consumers are evident, but only when evaluating specific segments on other factors. • The table below shows the specific factors that consumers were asked to rate in importance when selecting a beverage in each foodservice venue.

45. Consumer Beverage Choice Drivers • Consumer beverage choices are driven primarily by their preference or “taste” for a particular beverage at the time of purchase. In the consumer survey, respondents were asked to indicate the factors which were most important when selecting a beverage type at a certain venue. In every venue, “taste for a particular beverage” received the most responses. • Price, in most cases, was the second most important reason for choosing a beverage, as is beverage going well with food. • In traditional and quick casual LSR establishments, free refills and bundling shows increasing level of importance. • The following page details data.

46. Consumer Beverage Purchasing Factor Importance % Consumers indicating as “most important” or “next most important” when making a beverage choice in specific venues

47. Beverage Quality Issues • Consumers address their expectations and preferences of beverage quality by basing them on three different factors: convenience, price and format. Brand names for coffee and soft drinks were mentioned the most regarding quality. Statements regarding quality are written below. • "I can tell when soda is from a fountain dispenser because sometimes it is flat and too watered down. This happens at the Burger King at the airport. I would pay more for a can than the fountain drink, because I feel like the quality is worth it." • "Bottled water odors determine the quality for me. If there is a chlorine smell, that is a bad smell. Trinity brands is supposed to be located near a toxic site, which dissuades me from purchasing their water." • "I like a strong cup of coffee, like Starbucks, with no added sugar or milk. Espresso usually can satisfy my expectations at Starbucks." • "I would not pay more for bottled soda, every now and then you get one from the fountain with too much syrup, but that is not a reason to pay more for bottled soda." • "I don’t like generic brands, it doesn’t taste good if it’s not branded." • "Brand name is very important. If I see Nestea at BK, you know the quality." • "You get more quality for your money with canned and bottled sodas over fountain and you know that the Diet Coke will be consistent and taste the same each time." • “Brand name is important. You want someone you can trust. I usually choose my restaurant based on the food, not the beverages that are served. If I want to eat their food, I will sacrifice. I can always drink water at the restaurant.” • “I expect less beverage brand choices in a restaurant, compared with retail. For fine dining, I have lesser options for beverages, compared with a Dunkin Donuts or a Starbucks. For casual dining and takeout, I choose a restaurant based on the brand or type of beverage.” Source: 2005 Technomic Consumer Focus Groups

48. Variety Influences Variety plays an important role in consumer venue selection. A total of 71% of consumers indicate that it is extremely important that an establishment offer a variety of beverages. From a venue-specific standpoint, there are differences in satisfaction regarding beverage choices at restaurants. For instance, 65% of consumers are satisfied with the beverages at a “sit down” restaurant, but just over half are satisfied with the choices in “fast food” restaurants. 1 to 7 scale: 1=do not agree at all; 7=completely agree Source: 2005 Technomic Beverage Study Consumer Survey

49. Brand Name Important to Most Consumer in Key Categories Brand name tends to be the most influential in beverage selection with regard to carbonated soft drinks. Seventy-four percent (74%) of consumers believe it is important to know the brand of CSD they order. Brand name is less important in juice and coffee according to consumers. “It is important to know the brand of _____ that I am ordering.” 1 to 7 scale: 1=do not agree at all; 7=completely agree Source: 2005 Technomic Beverage Study Consumer Survey

50. Beverage Promotions/Merchandising by Operators • Consumers usually stick to the brands and products that they know when ordering beverages away from home. They say they often need an incentive, like free samples, a waitstaff suggestion or discounts to purchase a new or unusual item. • "If the product is new and free, I’ll try it. I wouldn’t just order something new because I saw it advertised everywhere.” • “I would drink more beverages away from home if there were more free refills, more sugar free drinks offered, or a description describing new and exotic drinks.” • “If operators focused all their efforts on promoting one juice flavor, I would be apt to try it.” • “Television commercials, free trials/giveaways will inspire me to try anything once, or by word of mouth from someone.” • “A day of the week promotion or something special on Fridays is what I look for, cause that is the day that I treat myself and go out.” • “Presentation of a new item like a smoothie on the menu or on a display tray would inspire me to try this beverage. “ • “Price does not affect my decision to order a beverage. I trust the opinions of the wait staff, and friends to try new beverage options.” Source: 2005 Technomic Consumer Focus Groups