Rafi Mohammed

Cannibalization: The Scrooge of Pricing Strategy

Posted on December 22nd, 2008 (1 Comments)

Since November 2006, I’ve been discussing pricing strategies designed to help your company increase its profits and generate growth. The one “check” that I’ve neglected to mention is the absolute need to ensure that these new strategies don’t cause cannibalization. By cannibalization, I mean that your new strategy ends up losing money because it attracts current customers who were already paying you a higher price. Let me elaborate.

As many of you know, I am a big fan of Costco because of its amazing deals. In fact, my friend George called me from his San Francisco Costco today to trumpet his astounding purchase of 15 NY Strip steaks at the unbelievably low price of $5.99 a pound. What really caught my eye on a recent visit is that the warehouse store is now selling $100 worth of prepaid Starbucks coffee cards (which you can use at any of the coffee seller’s retail shops) for $80.

Aside from the marketing benefits of adding new high profile distribution points, the upside of selling these discounted cards (which probably nets Starbucks $70 after Costco’s markup) is two-fold:

First: new customers (who buy or receive the cards). If people who don’t currently frequent Starbucks buy these discounted cards, this creates new growth, albeit with lower effective margins (the coffee conglomerate only receives 70 cents on the dollar).

Second: additional purchases from current customers. If current Starbucks customers purchase these prepaid cards and use them to frequent the coffee house more than they normally would, this results in added growth. This is a good thing.

But the downside that Starbucks needs to concern itself with is the scenario of current customers using these prepaid cards on their normal coffee break visits (thus not increasing the frequency nor size of their purchases). If this is the case, these discount prepaid cards are cannibalizing full priced sales. This, of course, is a bad thing.

So the moral of this blog is whenever you implement a new pricing strategy, take a moment to analyze whether it will cannibalize full price sales.

So what do you think? Are Starbucks’ prepaid discount cards generating growth or cannibalizing full price sales? I’d love to hear your opinion.

Have a great holiday and thank you for visiting pricingforprofit.com!

Add Comment
Send to Friend
Email Signup
RSS Feed

Readers' Comments on This Blog Entry

From Mike on January 2nd, 2009
i think this is a good move for two reasons. they are segmenting the market nicely using place of purchase and offering low price product to a price sensitive buyer. i would bet that the average Costco shopper is not a two a day, $5 a cup latte drinker so they are selling to a completely different demographic. Second, given the breakage rate on gift cards, they are probably making more on these cards than in-store sales. that said, your point about cannibalization is spot on.