Personal Preference Bias

I’ve read and heard a fair amount from critics of JC Penney’s disastrous everyday-low-price strategy. But, much of it is too simple.

Critics speak of JC Penney’s customers as if they are all the same. I’ve read things like maybe they liked sales prices or JCP has to attract a new customer base to replace the old one.

While JCP sales were down considerably, they were still doing 75% of the volume they did the previous year. That is a huge decline for a retailer, but the sales didn’t go to zero and that says something. Three-fourths of customers didn’t mind the change.

In my experience with consumers and retailing, it is not uncommon for about 25% of sales volumes to come from promotions and coupon offers such as the sales JCP use to run. A fair part of that percentage are folks in whatever product category that are bargain hunters. Another chunk are from folks who are not typical bargain hunters — they may shop on value — but they may just come across a deal too good to pass up. I was recently perusing Kohl’s and saw a griddle for half the price I’ve seen elsewhere. I’m not a typical bargain hunter, but I popped on it.

There’s no reason JCP can’t satisfy value shoppers and bargain hunters alike. Other retailers have figured out how.

Even low-price leaders Walmart has “Rolbacks” in the aisle. Target has a dollar section near the front. Old Navy has clearance racks hidden in the back. Banana Republic has its mall based-locations, carrying higher priced, in-season fashion. But, they too have limited clearance sale space in the back. They also have separate Factory Stores where you don’t get the latest, but you get good stuff at sales prices.

Management at these companies recognize that not everybody is the same and they try to find ways to satisfy varying consumer preferences in creative ways that don’t detract from the experience of others. That’s typical retailing.

In my opinion, that’s the key insight that escapes JCP CEO Ron Johnson — everyone is different.

Johnson was in charge of retailing at Apple. Certainly, many folks rave about the Apple store experience. But most of these ravers have very similar preferences when it comes to electronics — they love Apple!

So, Johnson didn’t have very tall task in delivering a retail experience that satisfied a relatively narrow consumer segment. He made a store for Apple devotees.

Ask yourself this. Does Apple need a store? Not really. Apple products would sell with or without their stores.

Johnson is remaking JCP to satisfy a segment of consumer that is smaller and more narrow — a group that he likely sees himself in — than the group that JCP was satisfying before he arrived, which is not usually a successful strategy.

I call this personal preference bias. Successful managers usually find ways to overcome their own personal preferences and give more weight to the varying preferences of their customers.

It’s an easy mistake to make. Ron Johnson probably thinks he learned from his former boss, Steve Jobs, that designing things to meet your personal preference is good. And, there might be something to that when you are trying to innovate from ground zero.

The King of Beers

 

 

This post about higher prices on tortillas packaged as ‘wraps’, reminded me of some thinking I’ve been doing lately about beer.

 

First, I noticed that the stalwart beers are Bud Light and Miller Lite. They have been for some time, so this isn’t anything new. But, I think it’s interesting that they use the word ‘light’ to distinguish it, rather than ‘diet’.

 

“Diet Bud”, “Diet Budweiser” and “Diet Miller” just doesn’t have a very appealing ring to it. Yet, “Diet Coke” seems better. What about “Coke Light”?

 

Second, I’ve recently switched away from diet beers. I drink more regular beer now. It seems that a lot of the folks who drink diet beer are overweight, so something isn’t working.

 

A family member who rarely drinks non-diet beers had a Budweiser at my house recently. He said, “Wow. This is good beer.” I pointed to the label, and noted, “Of course, it’s the King of Beers.”

 

A pretty penny saved is a pretty penny earned

On Marginal Revolution, Tyler Cowen linked to this page with pictures of some extravagant public libraries.

While these libraries are beautiful, I think they also demonstrate the careless spending that takes place when bureaucrats get a hold of other people’s money.

It reminds me of this post of mine where I eventually get around to suggesting that if libraries were not paid for by third parties through tax dollars and donations, we would likely still have libraries, but they’d look less like jobs programs for architects and artists and more like Blockbuster, Netflix and Redbox.

I’m sure all of these libraries have fans who can’t imagine the world without them, but it’s easy to treasure something that you didn’t pay for directly.  If these folks were asked to cover the cost of the library, few would.

Restaurant Impossible

In this post, I wrote about the Food Network show Restaurant Impossible.

Its viewers are interested in whether the show transforms the failing restaurants into successful operations in two days, as my blog gets a fair amount of traffic looking for “Restaurant Impossible success rate“.

As a fan of the show, I too would like to know. The updates at the end of show and on the Food Network’s website are not detailed. I’d like to know if the restaurants became profitable and how profits trended after six months, 1-year and 2-years.

My hunch is that a 2-day intervention doesn’t stick with the owners, cook and wait staff.

These restaurants are in trouble because the owners do not know how to operate a restaurant and don’t seem that interested in learning. They do not know what good customer service is or how to lead, train and coach people. They know little about food preparation, menu design or safe food handling. One cook didn’t think that seasoning chicken made a difference in taste.

Wise words on business strategy from another Seth

If you build your business around being the lowest-cost provider, that’s all you’ve got. Everything you do has to be a race in that direction, because if you veer toward anything else (service, workforce, impact, design, etc.) then a competitor with a more single-minded focus will sell your commodity cheaper than you.

Cheapest price is the refuge for the marketer with no ideas left or no guts to implement the ideas she has.

Everyone needs to sell at a fair price. But unless you’ve found a commodity that must remain a commodity, a fair price is not always the lowest price. Not when you understand that price is just one of the many tools available.

A short version of this riff: The low-price leader really doesn’t need someone with your skills.

That’s Seth Godin and that’s from his blog.

Something to consider when evaluating business opportunities

From Blake Masters’ notes of Peter Thiel’s (founder of PayPal) class on startups (emphasis added).

Suppose you want to start a restaurant in Palo Alto that will serve only British food. It will be the only such restaurant in Palo Alto. “No one else is doing it,” you might say. “We’re in a class of our own.” But is that true? What is the relevant market? Is it the market for British food? Or the restaurant market in general? Should you consider only the Palo Alto market? Or do people sometimes travel to or from Menlo Park or Mountain View to eat?

These questions are hard, but the bigger problem is that your incentive is not to ask them at all. Rather, your incentive is to rhetorically shrink the market. If a bearish investor reminds you that 90% of restaurants fail within 2 years, you’ll come up with a story about how you’re different. You’ll spend time trying to convince people you’re the only game in town instead of seriously considering whether that’s true.

You should wonder whether there are people who eat only British food in Palo Alto. In this example, those are the only people you have pricing power over. And it’s very possible that those people don’t exist.

Many bad business decisions are based on bad market analysis. There may be a reason why you’d be the only British food restaurant around — nobody wants it.

I see this mistake made often in the business world. Business leaders see something like ‘no British food restaurants around’ and mistake that opportunity for an opportunity like ‘the world really needs an iPod.”

Granted. It is hard to tell those two types of opportunities apart. But, so often is the case that the person making the decision doesn’t consider that they might be wrong, or see if it has already been tried and, if so, consider why it didn’t work the other times it was tried.

They should also deeply consider who will value their product and why, which gets to Thiel’s comment about pricing power. These are the only people who want it.

I can do without potato chips. They don’t do much for me. I never buy them for myself. I sometimes eat them if they come with a meal that was provided for me or if I just feel too lazy to ask for a substitution.

Potato chip companies have no pricing power over me. They can raise and lower their prices all they want, that won’t make me buy any less or any more potato chips. Fortunately, for them, there are plenty of people who do value potato chips and are willing to buy them.

(HT: Marginal Revolution)

Why did you buy that?

Art Carden writes that Entrepreneurs Serve Public Better Than Politicians (H/T: Speedmaster at The Pretense of Knowledge).

I agree. I agree.

While on a trip to Vegas, Carden found a profit opportunity. Two nearby Starbucks were selling coffee at different prices. The higher priced Starbucks was busier (sounds like they got their pricing right). Carden bought two cups of coffee at the cheaper (and less busy Starbucks), brought them to the line at the busier and more expensive Starbucks and sold them for a profit to people standing in line.

As Carden sums it up:

The 97 cents I earned was my reward for taking a risk on my hunch that two cups of coffee would be more valuable downstairs than upstairs.

According to Deirdre McCloskey, this is the key to the wealth of the modern world. That we live in a world in which buying low and selling high is at least tolerated encourages economic growth. The great irony of this is that merchants tend to be scorned or otherwise not trusted. But who is the real public servant: the politician deciding he will take more of your money by force so that he can accomplish his goals, or the merchant who decides he wants more of your money and offers you a hot cup of tasty coffee in return?

I have one beef with the column. To make his great point that business folks do more to serve their fellow-man than politicians, he brushed over a key point on value creation.

Most people think of business people as McCloskey put it, someone who buys low and sells high.

That’s too simple.

Why were the folks in line at the more expensive Starbucks willing to pay Carden more than he paid for the coffee?

The answer to that is why business people can “sell high”, if they’re lucky. That is the value creation process.

And the beauty of that process is that it’s sometimes hard to pinpoint the reasons we’re willing to pay what we pay for things.

Perhaps Carden’s buyers were in a hurry, he had what they wanted, so he saved them time. Maybe Carden looks like a trustworthy fellow, had a big smile on his face and his buyers got some value out of his charm. Or maybe, they saw him speak the day before, and thought that he was up to something clever, so they thought they’d play along.

If the reason they bought Carden’s coffee had anything to do with saving time, then Carden had solved what economist Friederich Hayek called the knowledge problem. Carden had knowledge of the particular circumstances of time and place. He knew of a nearby Starbucks with lower prices and shorter lines.

This is knowledge that most of the folks waiting in line at the other Starbucks did not have or did not value enough to act on.

Two people valued it and bought out Carden’s inventory.

Carden took a risk. He could have wound up with no takers, in which case he would have two grande cups of coffee to drink.

Since Carden wasn’t sure whether anyone would buy from him, he didn’t invest much.  He exhibited prudence, as I wrote about in the previous post, by limiting his risk to two cups of coffee.

Business people experiment all the time. They usually don’t know what people will value any more than you or I. They are following their hunches, observing and trying things to find something people value.

It doesn’t always work. Most business owners have experienced failures. They bought two cups of coffee and couldn’t find buyers.

The businesses we trade with every day are the few experiments that worked. For each one, there were likely dozens or maybe even hundreds that failed.

Further, once a business has established its success, we tend to take its success as a given and forget the failures and risk the business owners took to find the success. We have a tendency to question their profits rather than praise the value they bring us.

We forget that even Carden’s customers profited. Most likely, they gained time that was valuable to them.

“I’m not your best friend, I’m your only friend”

Mitt Romney should adapt this speech from Larry the Liquidator, from the movie Other Peoples Money, for his campaign.

I especially like Larry’s 10-year analysis. Here’s Larry’s version (to shareholders):

For the last ten years, this company has bled your money. Did this community ever say, ‘we know times are tough, we’ll lower taxes, reduce water & sewer.’ Check it out. You’re paying twice what you did 10 years ago.

And our devoted employees, who have taken no increases for the past 3 years, are still making twice what they made 10 years ago.

And our stock? 1/6th what is was 10 years ago.

Here’s a version for Romney:

For the last 10 years, our government has bled our money. Did they ever come to you and say, ‘we know times are tough, we’ll share your pain, we’ll lower government spending so you can invest more and grow the economy, that way we’ll all do better?”

No. They increased spending in the good times and increased it more in the bad. They don’t care about you. They care about growing their power and telling you its for your own good.

Check it out. They’re spending twice as much as ten years ago.

Our debt? It’s tripled in the last 10 years. It was about $16 thousand for every man, woman and child back then. That was plenty. Did you just have a baby? Congratulations! She was born owing $50 thousand.

Other parts of Larry’s speech that I really liked:

• It doesn’t pay to grow market share in shrinking market. The last buggy whip maker was probably the best, but you wouldn’t have invested in it.
• Take the buyout, then go invest your money in growing businesses. You’ll help the economy, you’ll create jobs and “God forbid, you’ll make a couple bucks!”

That last one is another good one for Romney.  ”God forbid that I pursued the American dream and SUCCEEDED. You can too!”

Spoiler alert: Other Peoples Money had a happy ending. Larry the Liquidator gained control of the company off the strength of his speech (hint, hint Romney), but discovered that the company could produce something useful.  I believe it was kevlar or gore-tex fabric, or something like that. So everyone got to keep their jobs and the company became a success again, without being liquidated.

Short lesson in value proposition

I find that many folks don’t quite understand what I mean when I talk about value proposition. Value proposition is the complex web of reasons that you may choose one product over another or may not choose any product at all.

I don’t care for potato chips. I would eat no more potato chips if potato chip companies gave them to me for free. For me potato chips have no value proposition.

I thought of another example to illustrate value proposition with something I use often: iPod/iPhone ear buds. I have three sets.

The first set came with the iPhone. They sound nice and I use them when I listen to podcasts while working around the house where there isn’t a lot of background noise.

The second set I bought because I quickly discovered that the standard ear buds fall out of my ears when I exercise. This set has hooks that go over my ears to hold the ear buds in place.

The third set I bought because I quickly discovered that my other two sets were not good for situations with lots of background noise, like flying in an airplane or mowing the lawn. This set insulates the background noise with cushy buds that I stuff into my ears.

All do well for their specific niche, but not so well for other niches. I purchased two additional sets of ear buds. The makers of the exercise ear buds could not have persuaded me to buy my third set from them if all they did was lower the price of their exercise ear buds.  I already have a set of exercise ear buds, I don’t need another.

The best way for that manufacturer to persuade me to buy their brand is to make what I want for my third set — a set of noise insulating ear buds.

Good thoughts on business strategy

I agree with what Chris Zook, head of Bain Capital’s strategy practice, had to say about business strategy on a recent Harvard Ideacast.

His advice (in my own words):

1. Know why customers choose your product.
2. Make sure everyone in your organization knows why customers choose your product.
3. Make sure your organization can learn and respond to what your customers want.

I’ve dealt with a number of business managers who think they know why customers choose their products, but are dead wrong and they make disastrous business decisions and often lose their jobs because of it. Then they go to the next organization and repeat.

Such organizations tend to be bureaucratic and set up to follow the leaders’ commands and satisfy the leaders’ egos instead of learning what satisfies customers. These organizations are the vast majority of companies.

In an organization that does well on the three principles above, you’ll tend to see decentralized management and an environment that encourages lots of little experiments with the customers. Customer response drives which of these rise and expand. McDonald’s and Starbucks are a couple of good examples.

Zook used Enterprise Rent-a-Car as an example. Each Enterprise location is rated and ranked each week against each other on one simple metric: what percentage of customers would recommend Enterprise. This is the “Ultimate Question” that Fred Reichheld developed. It’s simple and telling. Customers won’t recommend your business unless you satisfy them.

The branches review their scores and rankings and try to learn from their better ranked locations what they can do to improve their scores. This is a good example of decentralized management.

In bureaucratic organizations, you’ll see more centralized control with the “troops” executing the new-fangled and untested strategy designed by the bureaucrats and their consultants. Little experiments will languish and innovation resources will be directed at the whim of the bureaucrats to satisfy whatever they think sounds good — until they’re fired.

Discovering why customers choose your product can be tricky. We tend to over simplify and over complicate these reasons. More on that in a future post.