Trader Joe's, Where Less Is More
How Trader Joe's Profits from Offering Limited Product Selection
Posted Sep 08, 2010
Or maybe you've heard the paradox debunked: some researchers have been unable to replicate the more-choices-is-bad effect. As Tim Harford ("The Undercover Economist") has written, "There seem to be circumstances where choice is counterproductive but, despite looking hard for them, we don’t yet know much about what they are."
There do seem to be conditions under which a multitude of choices doesn't paralyze people. If the decision isn't a huge one in terms of cost or consequence, people can usually make up their minds. It may take you longer to choose an entree from a 10-page restaurant menu than from a single page, but chances are that either way you won't walk out of the restaurant without having chosen anything. On the other hand, having a gazillion options for a more complex and lasting decision—say, a kitchen remodel—can keep customers procrastinating for years.
Most decisions fall somewhere in between, or involve other variables, so there's more research to be done to find out when too many choices is bad. For example, as we write in the book, Kay-Yut experiments on retailers' stocking and pricing decisions show that too much decision freedom yields poor results—but what constitutes "too much" or "too frequent" depends a lot on context.
What does all this have to do with Trader Joe's? Unlike many retailers, TJ's drastically restricts customers' choices. Not only will you not find household-name brands (a topic we'll return to in a later post), but even within a particular product category—say, salad dressing—you'll likely find only a handful of options, compared to the dozens offered at the likes of Safeway or Ralphs.
The store's intent may not be psychological: we simply don't know because the privately held company is notoriously secretive. But whether it helps customers to make decisions or not, TJ's limited selection seems to be helping. Part of the reason undoubtedly has to do with volume: Because Trader Joe’s buys from fewer suppliers, the chain can bring more business to each of those suppliers—and therefore gains more negotiating clout. (The more you buy, the lower the price you can demand.)
Not only that, but TJ's can do a better job than other supermarkets at pooling risk, a concept we discuss in our chapter on uncertainty. Imagine a customer coming into a store with her mind set on buying a jar of peanut butter. If you have 40 varieties (or SKUs) you have to stock at least 1 jar per SKU to ensure this customer will be able to find what she needs. That means at least 40 jars. But if you regularly only have 10 SKUs, you need only 10 jars. That's a good thing: when you stock inventory, you must always balance the chance of too much and not enough—and with fewer SKUs, it takes a lot less inventory to achieve the same balance. That can turn into substantial savings, enabling you to profitably price your products at a lower price than your competitors.
Of course, Trader Joe's isn't for everyone: people who want a liter of Coke and a bag of Doritos won't go to Trader Joe's because TJ's simply doesn't stock these brands. But Trader Joe's 300+ bustling U.S. stores (and growing) suggest that what the chain loses with less product variety they more than make up for in other ways.
Copyright Kay-Yut Chen and Marina Krakovsky, http://www.secretsofthemoneylab.com