Coffee Republic rebrands itself as a deli as coffee boom cools

Pret a Manger's success has spawned a legion of 'me too' rivals. The competition is so intense that it's hard to make money

The decision by Bobby Hashemi, the chairman and co-founder of Coffee Republic, to rebrand his faltering estate of coffee shops in the style of a New York deli may signal the end of more than somewhere to while away a wet afternoon.

In getting rid of the comfy sofas so beloved of the Friends generation, Mr Hashemi is also jettisoning any idea that somehow the simple coffee bean will ever be the big money spinner that the wannabe Starbucks of this world dream of. His company's decision to re-christen its slimmed-down estate Deli Republic and focus on freshly made food rather than merely hot drinks is significant because it is the first confession from one of the country's big five high-street coffee shop names that just selling cappuccinos, however much they cost, will pay the bills.

For Coffee Republic, the move represents a last throw of the dice. So far two shops have been converted - one in the tourist trap of the capital's Baker Street and the other in the City of London. The loss-making group, which has come close to being swallowed by rivals Caffe Nero and Benjy's, claims the move has boosted sales by 20 per cent, but it will have to do even better if it is to be one of the sector's survivors. Yesterday's pre-tax losses for the past year of £9.6m, up from £7.6m 12 months earlier, did not make pretty reading. Nor did that fact that the company needs a successful refinancing, complete with fresh equity, to fund both the Deli roll out and, more importantly, its working capital requirements.

Mr Hashemi knows he is treading on thin ice with the City, which would have liked him to wake up and smell the beans he was selling much earlier. He promises the conversion programme will be "prudent and measured" - in stark contrast to the land grab that has characterised the sector's expansion in the past few years. From the excessive price that American giant Starbucks paid to acquire the Seattle Coffee Company in the mid Nineties, to the aggressive roll out strategy that has seen small independent coffee shops literally smothered by their bigger rivals, nothing about the caffeine-fuelled growth of Britain's very own sitcom lifestyle has been measured.

But times are changing. Competition for a share of the £3.5bn UK sandwich retail market is growing evermore intense, with everyone from petrol chains to supermarkets to pubs muscling in on the act. The radio adverts promoting BP's latest venture, the Wild Bean Café, make a play on the surprising fact that the products that it, a service station, sells are not only edible but also even tasty. And the recovery of the mighty Marks & Spencer has seen the runaway success not only of its Simply Food mini-supermarkets, but also of its very own Café Revive, which is being rolled out on new sites as a brand in its own right, selling the company's landmark pre-packaged sarnies and the regulation skinny latté.

Louie Salvoni, a coffee consultant who has long argued that just selling coffee isn't enough, says that even companies that are "supposedly successful coffee shops, such as Costa and Caffe Nero, offer a more diversified food range".

This is what Mr Hashemi, with his New York-style bagels and salt beef sandwiches, is hoping to emulate.

He will be especially keen to copy the pre-tax profit figure that Caffe Nero, run by Gerry Ford, managed to serve up last week. The Italian-themed chain, which has recently revamped its own range of hot paninis and the like, turned losses of £2.68m the previous year into profits before tax of £519,000. Not enough to retire on, perhaps, but a start. Crucially, for Mr Ford's hopes of running a 300-strong estate within the next four to five years, Caffe Nero's rollout is on the verge of becoming totally self-financing.

Jeffrey Young, the managing director of Allegra Strategies, a management consultancy that has done extensive work on the coffee bar market, thinks the sector is entering a "new phase". After a tough year for retailers across the board, not helped by summer's record temperatures, he thinks it is time for more than Coffee Republic to reinvent itself. "Players like Pret [A Manger] have surprised us in that there near stardom has come to a bit of a halt. Pret has taken more time than expected to become mainstream, staying very static. They have got to rethink their offering and reinvent their food," Mr Young says.

He contrasts Pret, the chain that has spawned a 100 "me toos" since it was started by Julian Metcalf and Sinclair Beecham in 1986 with one store, with smaller operators like Eat and Benugo. Although very much niche players, Mr Young says the upmarket chains have pulled the rug from under Pret's feet by making themselves look "a bit more foodie" and "cutting edge" than the past master.

Indeed, despite being privately owned, Pret's problems have been tangible over the past few months. It ousted its long-standing former management, Andrew Rolfe and Harvey Smyth, in a public fashion earlier this year and has since been struggling to crack overseas markets from New York to Japan. In the Big Apple, where the option of holding the mayo is practically an unalienable right along with free speech and the right to carry arms, Pret may have bitten off more than it can chew.

It has already had to close three stores after opening in bad locations. Meanwhile the persistent rumours about whether McDonald's, the fast-food chain that has a 33 per cent stake in the business, plans to sell up can't be helping.

Other options for milking profits from their trendy clientele rather than just offering them three types of milk, include persuading the coffee bar chains to turn their backs on the high street altogether.

Costa, the country's second-biggest operator, which is owned by leisure giant Whitbread, was the first to make the move by cosying up to other retailers such as Abbey, Waitrose, Virgin and Homebase. It plans to nearly double its number of outlets to more than 500 over the next five years by rolling out more concessions.

Other chains, from Starbucks to Benugo, have opted to open up "in-house" in the foyers of City institutions such as Goldman Sachs and Lehman Brothers. Rather than pay sky-high rents, the operators typically pay a commission on sales, dramatically lowering their operating costs.

In reality, Costa is just waking up to what groups such as AMT Coffee, the family-owned company that sells its espressos from kiosks on railway stations, have known all along: you can't pay your landlord in lattés. "AMT has a magic formula of fantastic locations with a high volume of footfall and very small rents," Allegra's Mr Young says. Benjy's, the value-for-money sandwich bar chain that is backed by the private equity group ECI Ventures, is following suit with sandwich vans that turn into mini-kiosks at the flick of a switch.

Although competition is intense, there is plenty of growth left to go for.

Allegra predicts the UK's branded coffee bar market will grow by 9.5 per cent per annum to reach 2,690 sites by December 2005. London might have reached saturation point but most regions of Britain still drink their coffee straight from a Nescafé jar - if at all.

And Mr Salvoni even has a kind word for Pret. "Respect to Pret a Manger. They are a bread company that has realised that coffee is the hook and not the prime mover of all these businesses."