T-Shaped #2: The point is to lose money…

Welcome to the second issue of the T-Shaped Newsletter!
June 24, 2023
T-Shaped

…said nobody ever. Or maybe actually did, and after saying that made a lot of money?

The second issue of T-Shaped is focused on the counter-intuitive strategy of loss leader and how you can actually use it beyond generating growth for your company. I also think about you, asfdf a professional and human being too. Costco is well-known for its strategy concerning rotisserie chicken. The company sells rotisserie chickens at a consistently low price of $4.99, a price they've maintained for many years despite inflation and increasing costs. Costco's rotisserie chickens are often placed at the back of their stores, so customers have to walk past many other items they might be tempted to buy.

The company's CEO has even been quoted as saying they'd be willing to lose money on the chicken because it brings people in the door. The strategy appears to be very successful. Costco sells millions of these chickens every year, and the product has become something of a cult item among Costco shoppers. Let’s see if it works for other brands too.

Examples of loss leader strategy in business

1. Video Game Consoles: Companies like Sony, Microsoft, and Nintendo often sell their gaming consoles at a loss. They make up for this by selling video games, online subscription services, and accessories with high-profit margins.

2. Printers: Printer manufacturers often sell printers at low prices, sometimes even at a loss, but make their profit from selling ink cartridges, which have a high-profit margin. I work remotely from Portugal (HQ is Poland), and a few months ago had to print out some documents to send them in paper. So I bought a printer for 60 Euros and did the job. Recently the cartridge got finished so I bought a new one - 30 euro for two tiny boxes of ink - half of the printer’s value.

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3. Amazon Prime: Amazon offers Prime membership which includes free shipping, streaming of movies, music, and more. Amazon doesn't profit directly from Prime memberships and often takes a loss due to the high cost of these services, especially the fast and free shipping. However, Prime members tend to shop more frequently and spend more on Amazon, which makes them highly valuable customers.

4. Razors: Companies like Gillette often sell razors at a meager cost or give them away for free. They profit from the replacement blades, which are sold at a high price.

5. Hotels in Las Vegas - Do you truly believe that a night at the Luxor in Las Vegas is valued merely at $70? The hotel anticipates that you might indulge in their dining offerings, and most importantly: gamble. Some people will lose a high multiple of what they could pay for a premium hotel room.

6. Low-cost airlines -  These airlines offer extremely low ticket prices, which attract customers who are seeking the most affordable way to travel. Of course, if you start doing the check-in process on the Ryanair website you will end up paying almost the same as a normal flight, unless you want to fly in the baggage compartment with no food, or drinks.

7. Ultimate loss leader of all - Free Trials and Freemium Models: Many SaaS companies use a free trial or freemium model as a loss leader. The idea is to get users in the door with a free or low-cost offering, and then convince them to upgrade to a paid plan. Examples include… almost every software that you’re using.

What is a loss leader strategy, then?

I’ll keep it short: a loss leader is a product sold at a low price (at cost or even below cost) to stimulate other profitable sales. It's a common strategy to draw customers into the store and then cross-sell them with other goods.

Psychology of loss leader and why so many businesses don’t get that?

The reason people are unable to accept loss leaders as part of their strategy in business or in life is our built-in system of loss-aversion described by prospect theory.

Prospect theory, also known as "loss-aversion" theory, suggests that individuals perceive gains and losses differently, which influences their decision-making.

Specifically, when presented with two identical choices, one characterized by potential gains and the other by potential losses, individuals are more likely to choose the option framed as a gain.

You’ve evolved in a way that makes you very reluctant to accept losses which is an ecologically sound idea, but in the business or arcane world of social interactions, it can actually sometimes work against you - prohibiting you from getting the benefits of “losing some to gain some”.

Are personal losses more intuitive for us?

In our personal life, we’re usually good at using the loss leader strategy, and life is full of examples that can be labeled as such:

  1. Doing Unpaid Internships or Volunteering: Here, you invest your time (and sometimes money) into work that doesn't pay or pays less than you could earn elsewhere. It's a loss in the short term, but the experience, connections, and resume enhancement could lead to better job opportunities in the future, the "gain".
  2. Hosting a Party: You might spend a significant amount of money and time organizing and hosting a party at your place, which can be seen as a "loss". However, the "gain" can be in the form of strengthened social connections, the joy of making others happy, and a boost to your social standing.
  3. Free Tutoring: If you're particularly good at a subject, you might offer to help or tutor others for free. It's a "loss" in terms of time and energy, but the "gain" can be in the form of improved relationships, enhanced understanding of the subject (since teaching often reinforces your own knowledge), and a reputation as someone who is knowledgeable and helpful.

In all of those examples, your upfront investment is your personal marketing budget that you use to build relationships, reach, personal brand, and sometimes (internship) some market testing.

How to make it easier for your business? This is exactly the way you should treat a loss leader product or service - a part of your marketing budget.

Nomen est omen - potential perils of loss leader strategy

Implementing a loss leader strategy in business can be challenging for several reasons:

  1. Profit Margins: The biggest risk with a loss leader strategy is that it can hurt profit margins. This strategy involves selling a product or service at a price that does not cover its cost. If customers only purchase the loss leader and not the higher-margin products, the strategy can lead to financial losses.
  2. Customer Behavior: Predicting customer behavior can be difficult. There's always the risk that customers may take advantage of the loss leader without purchasing other items, or they might stock up on the loss leader while it's cheap and then not return until there's another such deal.
  3. Brand Perception: Regularly selling items at a loss can lead to a reduction in perceived value. If customers get used to buying certain products at a very low price, they may resist purchasing them at regular prices in the future. This can harm the brand's image and value proposition.
  4. Competitor Reactions: Competitors might start their own loss leader strategies, leading to a price war. This can further erode profits and make it harder for any business to maintain profitability.
  5. Legal and Regulatory Issues: In some jurisdictions, loss leader strategies are considered anti-competitive and are heavily regulated or even illegal. Businesses must be aware of these legal constraints before implementing such a strategy.
  6. Supply Chain Considerations: If the demand for the loss leader product is higher than expected, it could strain the supply chain. Businesses need to ensure they can meet the increased demand without compromising the quality or delivery of the product.

Given these challenges, a loss leader strategy requires careful planning and management. It should be part of a broader marketing and sales strategy, and you must closely monitor the strategy's performance to ensure it yields the desired results. Otherwise, your loss leader might turn out to be…  just a loss.

Help me with my loss leader strategy, which is this newsletter

Make this free newsletter my loss leader strategy example and share it with your friends and co-workers. They will learn interesting stuff and I will get some more clicks.

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