A new study by a management consulting group suggests consumer spending is polarizing across a number of industries. Consumers are trading up to more luxurious goods in areas that matter to them, while trading down and shopping for bargains in areas that matter less.
When trading up, consumers are willing to pay more for high-quality branded products and services. They fund their high-priced purchases by trading down and seeking the lowest-cost items -- often switching brands or buying private-label products -- in categories that matter less.
This trend has important implications for a number of industries. For example, traditional grocery chains are caught between discounters like Costco that offer much lower prices (but less variety) and stores like Whole Foods that have a higher quality offering.
The Boston Consulting Group, a management consultancy, released a report last month that examines this trend across several product categories -- everything from transportation to beer. The report is an update on the book Trading Up: The New American Luxury that two of the consulting group's partners published last year.
The report includes an in-depth discussion of the travel industry, with a particular focus on a seemingly unlikely segment: over-the-road bus transportation. The study authors say bus travel provides an outstanding illustration of the polarization of consumer spending.
Traditionally, bus travel has been dominated by standardized, one-size-fits-all offerings from Greyhound, the Trailways affiliates, and a handful of other regional operators.
However, in the competitive Boston-to-New York market, customers have an opportunity to shift their spending away from these traditional offerings.
At the high end of the spectrum is LimoLiner, a luxury bus service whose coaches seat 28, in comparison to the 55-seat capacity of a conventional 45-foot coach. (See story on Page 1.)
Launched last October, LimoLiner charges $138 round-trip, more than double the $55 charged by Greyhound (but significantly less than the airline shuttles). LimoLiner provides roomy leather seats, Internet access, TV, power outlets and an on-board concierge.
At the other end of the spectrum is Fung Wah Bus. This service has been carrying passengers from Chinatown in Boston to Chinatown in New York for $10 for the past eight years. The seats on Fung Wah are cramped, there are no on-board services, and there is no terminal at either end -- passengers are picked up and dropped off curbside.
But, the company claims to be the largest bus service operating between New York and Boston.
The Boston Consulting Group report suggests that traditional demand curve economics don't always hold. In Economics 101, we were taught the demand curve is fundamental in a competitive market. There is a trade-off between price and quantity, and companies either have a high-price, low-volume niche of an industry, or they sell large quantities at a relatively low price.
The Boston consultants make the point that if companies are able to tap into a polarization of customer spending, they can sell a higher-priced product and increase volumes at the same time.
Starbucks is the classic example. Coffee consumption in the U.S. was decreasing before Starbucks entered the market; since its entrance, the volume of coffee sold in the U.S. has increased despite the fact that a cup of coffee at Starbucks can easily cost more than $3.
Profits are weighted at the ends of the spectrum. The consultants estimate that in most product categories, new luxury goods (goods on which consumers are splurging) account for only about 20 percent of industry volume, but as much as 60 percent of profits. At the same time, the low-cost end of the spectrum can also be highly profitable for companies with the leanest cost structures, as Wal-Mart and Southwest Airlines have clearly demonstrated.
Though still not yet readily evident in all consumer segments of the economy, the polarization of customer spending appears to be a fundamental and growing trend.
The next time you find yourself shelling out $60 for a ticket to a Cyndi Lauper concert and show up for the event in slacks you had dry cleaned for $1.75, it may be worth thinking about where you personally trade up and trade down, and whether there is an application to segments of your business.