A few months ago, Starbucks CEO Howard Schultz showed up at Milan Fashion week to make a big announcement: For the first time in its 45-year history, the ubiquitous coffee chain was planning to open its first stores on the hallowed turf of coffee’s Mecca – Italy.

But what’s all the fuss about? Starbucks always manages to find a place for itself, even in the toughest of markets. Well, not always. Today, host Niv Elis brings us the story of Starbucks’ one and only failure to date: Israel.

Starbucks has successfully opened branches in 72 countries around the world, but Israel is the only one where it went in, opened up shop, and left with its tail between its legs – never to return. Listen to find out why you won’t be sipping a Starbucks latte as you explore Jerusalem’s Old City, or why you won’t be cooling down on the Tel Aviv beach with one of Starbucks’ famous Frappuccinos.

Music:

Quartetto Cetra – Un Bacio A Mezzanotte

Norm Geller – Girl From Ipanema

Quadro Nuevo – To Vuo’ Fa’ L’Americano

Production: Niv Elis, Laragh Widdess, Alex Benish and Itai Shelem

Starbucks Israel begins with a bizarre tableau that sounds like the set-up of a bad joke. The year is 1998 and Starbucks CEO Howard Schultz is hanging out with former British Prime Minister Margaret Thatcher in Jerusalem. They’re on an organized tour – one of those initiatives that brings influential people from around the world to Israel, to foster a connection with the Jewish state.

“I believe Larry King… Larry King was supposed to be in that group actually but in the end he had to have surgery so we beamed him in by live satellite hook-up.”

That’s Ephraim Shore, who organized this exclusive trip. He takes the celebrities to holy sites, gives them a birds eye view of the country in a helicopter… And then one night, the Prime Minister holds this fancy dinner at the parliament building, the Knesset.

[Shore] “So Bibi Netanyahu hosted the whole group, he did a beautiful dinner at the Knesset under the Chagal tapestries.”

Benjamin Netanyahu – also known as Bibi – was then and is now again the Prime Minister of Israel. After the dinner, he requests a private meeting with Schultz and another business leader.

[Shore] “He called them into his office and asked them a very personal request to consider opening up their businesses in Israel to help the Israeli economy.”

Now, for Schultz, this request is very powerful, in part because he’s on this really meaningful trip. He’s Jewish, belongs to a synagogue, and is visiting the Holy Land for the first time. He says he is blown away, that he doesn’t think he’ll ever be the same. And in the middle of it all, the country’s Prime Minister asks him to pitch in, to help.

So Schultz goes back to the King David, the fancy, five-star hotel where the group is staying. It’s a historic site, and one of the best-known hotels in the country, renowned for its luxury. And he orders a cup of coffee.

[Shore] “We were staying at the king david, and he was really not impressed with the king david coffee, but in general, he was a little bit of a coffee snob, I don’t know where that would come from.”

That fateful cup of coffee. It was weak, flavorless, no better than hot dishwater. Amy Klein interviewed Schultz for The Jerusalem Post during his visit. Schultz told Klein about his terrible King David coffee, and Klein immortalized it in print. And so this story spreads that this cup of coffee is what convinced Schultz that Israel could do with a good dose of Starbucks. He certainly saw it as cause for optimism in bringing Starbucks to Israel. Here’s Klein:

“He was very interested in bringing the whole coffee culture to Israel and he thought he could improve Israel’s coffee.”

But what began with optimism turned into a series of missteps that led to Starbucks opening, and then closing, in Israel.

This is Arturs Kalnins, an associate professor at the School of Hotel Administration at Cornell University. He wrote a case study on why Israel proved to be the bermuda triangle for Starbucks.

“So why is Israel the exception to the rule? Ironically I think for a few reasons, and I think a large part of it was because Howard Schultz wanted so badly to succeed in Israel.”

Kalnins argues that Schultz was so emotionally committed to the idea of opening up shop in Israel, that he ignored the signs when things started going wrong. Despite mounting evidence, Schultz kept moving full steam ahead.

“What I call the commitment trap is that once it got out to the Israeli press that Starbucks was coming, my guess is that they didn’t feel like they could go back on this anymore.”

Here’s how it goes down. When Starbucks opens up branches abroad, it doesn’t just paratroop in. It either buys a local chain, or finds a local company that already knows the lay of the land. But in Israel Schultz has a lot of trouble finding the right partner. Although he’s convinced that Starbucks will open in Israel within two years, it takes him that long just to find a local company that fits.

In the end he teams up with a company that has financial muscle, but no experience in the industry. It’s a petroleum company called the Delek Group.

[Kalnins] “Somehow they thought Starbucks would be instantly accepted.”

Now, that wasn’t a crazy assumption. In Israel, there was always a certain awe of big, foreign companies. In its formative years, a fierce Arab embargo kept companies such as Pepsi from selling to the Jewish state, and it really wasn’t until after the Oslo peace process in the early 1990s that a slew of global chains such as McDonald’s and Burger King started opening up shop in Israel. To this day, Israelis get a strange jolt of pride when a big pop star like Madonna or Elton John decides to play here. They see it as a form of validation.

So why would it be any different with Starbucks? Shouldn’t Israelis greet Starbucks as liberators from their under-developed coffee culture?

Delek thinks so, but when it translates that confidence into its marketing campaign, it overshoots.

[Kalnins] “There were a couple choice quotes from the leader of the venture, that said they were going to educate Israel about coffee drinking. And the other one he made the joke that coffee will be a great market for them because coffee and petroleum are both black liquids and so they will be good at that.”

A decade earlier, that assessment might have been right on the money. Here’s Janna Gur, editor-in-chief of Al Hashulchan, a local gastronomic magazine.

“In 90s, lets say Twenty-five years ago, the best you could hope for in Israel was some very mediocre version of cappuccino, usually with whipped cream, very weak and watery, or instant coffee or black coffee, a local invention known as “botz,” meaning mud, which is basically ground black coffee on which you pour hot water and mix it.”

That really doesn’t sound very much more appealing than petroleum. But in the mid 1990s, just before Schultz’s fateful visit, Israel was changing. New reforms had opened up its economy, its tech sector was starting to thrive, and it was shedding the socialist roots it was built on. People were earning more, traveling more, and bringing back the best of what they saw abroad. You could taste the difference in the food.

[Gur] “Part of the food revolution, along with the wine and the bread and the restaurants. It’s like bread, you consume it on a daily basis, but once you have the good stuff you never want to go back. The whole espresso revolution, I would say, started almost overnight.”

For decades, Israeli cafes had been places for artists and politicians to meet and mingle, even if the coffee wasn’t great. But in 1992, the first Israeli espresso bar, aptly named “Espresso Bar,” opened its doors. Like Starbucks, it dreamed of bringing the Italian coffee culture to Israel.

[Gur] “And everything actually went to plan except one thing: the Israelis prefered to have their coffee sitting, having something to eat, chatting with friends.”

So Espresso Bar made some changes, and it was a big success.

[Gur] “And many others followed suit, notably Arcafe, which I think was probably the best one at the time.”

One market study estimated that 500 new coffee branches had opened in Israel in the three years before Schultz’s visit.

[Gur] “And one thing they really had in common was that they all had really good coffee, good espresso, good cappuccino, relatively strong, especially compared to what Americans are used to.”

I asked reporter Amy Klein, who was in Israel at the time, what the general feeling was about the arrival of Starbucks.

“I think there was maybe a little more skepticism, especially about the coffee because I think Israelis have pride in their coffee.”

As many Israelis are happy to affirm:

“I love the Israelis coffee. It’s the best. I used to live in America and actually I think the Israeli coffee is much better.” “We have several chains that sell good coffee.” “Probably you will find here much better coffee than you find in the States.” “Very very good, because it’s from Europe, not from America.” “Honestly, we have much better coffee in Israel than Starbucks, I’m sorry”

So you can see why Delek’s comments on Israeli coffee don’t resonate with the Israeli consumer, who drinks an average of 110 liters of coffee a year, 83 percent more than an American and even 22 percent more than a European. And you can see why Schultz isn’t getting the full picture of Israel’s coffee scene as he’s sipping that poor excuse for coffee in his posh Jerusalem hotel. Here’s Janna Gur again:

“It perfectly makes sense to me that he had a terrible cup of coffee in the king david hotel. Like in everything else that has to do with food, Tel Aviv was first.”

Schultz’s tour only spends about a day in Tel Aviv, and doesn’t patronize the local cafes. He’s completely insulated from Israel’s coffee revolution! So of course he feels that Israelis need Starbucks to rescue them from their thick, muddy coffee. That’s certainly the perception Amy Klein got when she interviewed him back in 1998.

“I think he was definitely overconfident about the coffee being bad.”

Kalnins has done research showing how overconfidence can be a business killer; his study found that the companies most likely to fail when entering a foreign market were those that set out the most ambitious plans. Starbucks had planned to launch 80 stores in Israel, 10 in the first year, which, at the time, would have made it the country’s largest coffee chain.

So on the one hand, you have Schultz, who’s experienced the worst of Israel’s coffee, and on the other you have Delek – his local partner in Israel – a petroleum company that treats coffee as a commodity to be bought and sold like oil.

But there is also a third partner, this local guy Yair Hasson. He’s a lone entrepreneur with experience in the Israeli food industry – he’s successfully brought other foreign restaurants to Israel. It’s Hasson who presents Starbucks with a business plan for entering the Israeli market. You could say that he is the brains, while Delek is the brawn – the financial muscle. In contrast to the buttoned-up Delek executives, Hasson is a force of nature, a smooth-talking, chatty, charismatic salesman who likes to hold meetings, fittingly, in coffee shops. And he clashes harshly with the Delek people.

Hasson says they need to adapt the product to fit the local tastes, just like Espresso Bar did. Here’s Amy Klein again:

“So just to come and say that you’re coming to bring coffee, I don’t know that you can do it without adapting to part of the Israeli culture.”

Hasson wants to get rid of large venti sizes, reduce the amount of milk, and focus on the espresso. To his dismay, Delek isn’t prepared to retool, even though the market research shows Israeli tastes are more European. For Delek, black liquid is black liquid, and the priority is to serve Starbucks in its gas stations. But for Hasson, the partner who understands the local market, the service experience is paramount. After all, Starbucks’s philosophy is all about the cafe culture, and that’s what propelled it to success in so many places.

Delek and Hasson just don’t see eye-to-eye.

Fed up with the direction things are going, Hasson goes to Seattle and gives Starbucks an ultimatum: It’s either Delek or me. The Starbucks people are furious. Hasson sells his share to Delek, giving them control of 80 percent of the venture. And all that happens before the first Starbucks branch opens in Israel, leaving the entire ground operation in the hands of an oil company.

To make matters worse, the second Intifada is raging, and suicide bombers are regularly targeting Jerusalem, so Starbucks only opens in Tel Aviv, Israel’s beating culinary heart. There you have Arcafe, the upscale chain with the good coffee that Gur mentioned. And it’s doing well. Other chains compete with Arcafe by lowering their prices, but not Starbucks. So it’s charging as much as the best coffee chain in the country, but offering a product Israelis don’t connect with.

“I don’t like it. I don’t know just not good. And very expensive.” “I think because there are so many Starbucks, it feels very artificial. Coffee needs to be made with love and it doesn’t feel that way.”

Between 2001 and 2003, Starbucks manages to open up just six of the 80 stores it had planned in Israel, losing $6 million in the process. At that point, they decide to just call it quits.

But there’s one piece of the puzzle that’s still missing. Why didn’t Starbucks try again? Why didn’t it pick up the pieces and start over? Cornell Professor Arturs Kalnins again.

“That’s a million dollar question… Why, once it was obvious that their partnership with Delek wasn’t working out, why not take a look at going in again with somebody else, which they successfully done elsewhere?”

Part of it could have been Israel’s size. When Starbucks made similar mistakes by choosing a private equity firm as a local partner in China, or underestimating the advanced coffee culture in Australia, it managed to pivot and survive. In tiny Israel, it had less room for maneuver.

Israel held a special place in Schultz’s heart, so perhaps the failure left a particularly bitter taste in his mouth, and he just wanted to let it be.

Maybe if he hadn’t been so over-zealous and emotionally invested in the first place, Starbucks Israel would have survived. Maybe if he had been to Tel Aviv and tasted the great coffee, maybe if he hadn’t picked an oil company as a partner, maybe if they had listened to the guy who knew the market, maybe if there weren’t an Intifada raging, it would have been different.

And maybe if the King David Hotel had served a decent cup of coffee things would have worked out better.

Well, it’s been 18 years since Schultz’s visit, but I wanted to try it for myself.

At the King David: “It’s not bad. It’s not great. A little weak. A little bit weak. But maybe I should not have ordered the American coffee.”

We reached out to Starbucks multiple times for this story, but they didn’t want to talk to us, and neither did the Delek group. We spoke to several people who were involved in the venture, but they asked not to be included in the story for fear of harming future business relationships.

While Starbucks currently has no plans to try anew in Israel, they are taking a different approach now. As they prepare to open in Italy, they’re reportedly doing everything they can to move deliberately and and to cater to the local Italian palate and coffee culture. The New York Times described Schultz’s approach to the Italy expansion with one word: Humility.