Canard Du Jour: Profit from all, invest in none: Is more profit per unit always better?

Every price cutter flea circus charlatan has promised consumers lower prices by “cutting out the middle man”.  Yes, the hated “middle man” is the one standing between consumers and a fair deal.  This kind of thinking is what resonates with every mass marketer pitch for 150 years and is very, very old school.

Let’s take a current example of how this works on the Internet, not just limited to music.  The “middle man” is often your local retailer, or to be more precise, your local bricks and mortar retailer.  You’ve seen these shops, probably your whole life.  The local store that is not a chain—or said another way, the local store that has not been commoditized.  Your local grocery, independent book store, independent record store, local pharmacy, local retail clothing store.

These are all merchants who don’t actually make the goods they sell but they sell the goods that others make.  They employ members of your local community to help promote goods that are often designed, developed, manufactured and distributed outside your local community.  Sometimes these stores start local but get big—such as Whole Foods.  But many, such as Book People, Waterloo Records, or Peoples’ Pharmacy start local and stay local.  And who do they fight for their competition?

It used to be chain stores, Crown Books, Barnes & Noble, Walgreens, CVS, Macy’s, Best Buy, Tower Records.  Those chain stores—the bricks and mortar chain stores—came into local communities and stayed.  They, too, employed local residents, paid taxes—especially sales taxes—and did their part to help the local economy.  They were able to use their national chain buying power to get better wholesale prices and were able to pass those savings on to consumers.

Local stores often competed with these mass merchants by having more specialized inventory or more in depth training for their staff.  Sales staff who helped answer questions about products and helped to develop consumer loyalty—without loyalty programs.  Tell the truth–would you go to Best Buy or Waterloo Records for a tip on a new record by an indie band?

All of these retailers offered many of the same benefits to consumers that their local counterparts did—they took something that already existed and helped to sell it.  The more interchangeable the good was, the more likely the national brand could hurt the local independent.

In return, both chain and indie store got to keep part of the margin they charged and in some cases they got to return unsold goods to the person—or company–who made them, a kind of complicated consignment deal.

With either the chain or the local independent, consumers do not see behind that curtain of how the good came to be made in the first place, how it got to the store, who financed its manufacture and who advertised the product.

Then Internet retailers came along and we were told that the Internet brought a new disruptive retail model—you remember, endless choice created unlimited demand according to the geniuses at Wired Magazine.  (Tip:  If anyone ever uses “endless” and “unlimited” in the same sentence, check to make sure your wallet is still in your pocket or purse.)

Because of “endless choice” and “unlimited demand”, Internet retailers were going to cut out the middleman and pass the savings along to the consumer while at the same time letting consumers order exactly what they want and ship the goods directly to their door.

That last part is fine, consumers should be able to order exactly what they want and if they want the goods shipped directly to their door—usually the only way to get the low, low price by cutting out the hated “middle man” because there’s no retailer network to hold the goods in inventory and hand it to you over the counter.

And of course, there is the real rub from a commercial point of view—Internet retailers benefit from consumers going into bricks and mortar retail establishments with an app—such as Amazon Mobile—that allows consumers to walk into a competitor’s store, try on clothes, listen to music, learn how to use a camera, or otherwise use the retailer network, then scan the barcode and buy the same good online.  And walk out of the store having used the services of the store under a false pretext.  One might say that Amazon is a free rider on the store’s services.  You know, the hated “middle man.”

What the Internet retailer really did and still does, is essentially free ride on the existing network of other retailers of the same goods and appeal to the price sensitive consumer who already knows what they want when they come to the Internet retailer’s online store often because someone else has created that demand.  As you saw with Amazon’s contemptible battle over paying local sales tax, one of the ways that online retailers “cut out the middle man” is by cutting out the burdens that fall on the middle man from operating inside of the bricks and mortar retailer network.

Again, this says nothing about how the goods get made in the first place and how the consumer finds out about the good.  But it is a good example of an income transfer.  What the online retailer has “innovated” is how to transfer to the online retailer that part of the local retailer’s investment in their end of the distribution network.  And of course, compared to the chain merchandiser, the independent local retailer is the most vulnerable, particularly in a long-term recession/depression.

Understand that this is not about being competitive—it is about one firm learning how to free ride on another, without the host being able to get rid of the parasite.  MTP readers especially will not be surprised to learn that the academy has developed a complicit community that attempts to justify firms that profit from this parasitic activity.  Of course they did.

The term of art appears to be “outlaw innovation”—or how “communities” code and distribute tools  that allow hackers to violate the manufacturers’ intensions of how their product is to be used or distributed and may also violate or avoid a variety of legal rights that protect those manufacturers.  Surruptiously, of course, hence the groovy ”outlaw”.

So in many ways, Amazon itself is a hack from a local retailer’s point of view.   We refer to this as “parasitic innovation” because the parasite (Amazon) is dependent on the host (Waterloo Records and thousands of other local retailers) to continue to provide a retail staff to support the sale of Amazon’s goods.  Amazon then gives its consumers a tool that they can take into Waterloo concealed in their pocket to find a better price online than Waterloo can afford to give because Waterloo bears the cost of the employee who told the consumer about a new release and pays those pesky sales taxes that allow the consumer to enjoy the benefits of their “real community.”

Profit from all, invest in none.

Here’s an idea—why not have each city provide an app that would allow consumers to determine whether police protection would be cheaper in another city during a home invasion burglary or perhaps check the tax burden of fire departments when their home is burning down?