Adam Keesling at Napkin Math has an informative write up on "How Costco Convinces Brands to Cannibalize Themselves." Costco's private label, Kirkland, will contract with a branded company to supply a product for Costco under the Kirkland brand at perhaps a 20% discount on the wholesale price. That way, consumers can choose from the branded product and, usually on the shelf beside it, the same product at a 20% lower retail price. Hypothetical P&L statements provide an explanation as to why this a supplier would agree to this. Essentially, the supplier is outsourcing the marketing of the product to Costco. These products are marketed under the Kirkland brand so the supplier's marketing expense is drastically reduced. There are two reasons why it works out. First, most customers don’t know
(Michael Ward) considers the following as important: 14. Indirect price discrimination, 23. Managing vertical relationships
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There are two reasons why it works out. First, most customers don’t know how Kirkland products are made. ...
Second, it’s important to remember the sheer vastness of Costco’s revenue. In 2019, Costco brought in over $149 billion of revenue, good for 14th on the Fortune 500 list.
This is all well and good, but, there is likely a bit more to the story. This represents an opportunity for the supplier to price discriminate. Mr Keesling relates that Costco demands that their store brand suffer no quality degradation and likely an improvement. But this is not consumers expectations with most store brands. Similar supplier/retailer relationships exist in many other situations from generic gasoline to packaged foods at supermarkets to to "branded generic" medicines to off-the-rack fashion. Usually, customers expect a quality/price trade-off. The elastic consumers sort into the store brand while the inelastic consumers sort into the producer brand.The producer can sell its brand at a premium because the elastic customers were siphoned off into the store brand.
HT: Marginal Revolution