The corner drugstore. I can’t help but think of It’s a Wonderful Life, one of my all-time favorite movies. Young George Bailey dishing up ice cream for his future wife, unaware that she wasn’t there for the ice cream. Old Man Gower receiving the telegram about his son. It’s an iconic movie scene. Today, our drugstores look nothing like those of yesteryear. Walgreens and CVS are on every block. If you ask why in the popular search engines, twenty different answers pop right up. Both of these chains spend millions on determining the best location, no question. But why would Wallgreens go to the expense of another building-utilities, inventory, scanners, employees? Often, there is another one across the street.
Well, the answer is cannibalization. For example, take a three block radius.
W___No Store___No Store = Annual Store Revenue is 1,000,000.
W___No Store___W = Annual Store Revenue is 750,000.
Despite the cost of the new store, the second configuration is probably more profitable. More revenue. The numbers may be off as it’s hard to measure the number of new customers in a three block radius.
Then, there is this model:
W___W___W = Annual Store Revenue is 500,000.
Conventional wisdom would be not to open the third store. It’s the same amount of revenue as the second configuration. Worse, the expense ratio would increase. So, why break ground?
W___CVS___W = Annual Store revenue of 500,000.
Well, you open it because of competition. If someone else buys the lot down the street, you have to be more aggressive on pricing, inventory, and more. Assuming foot traffic is equally distributed you’d lose a third of the customer base. It’s easier to cannibalize your own business than let someone else do it for you.