The Economics of Liquidation

Andrea Chang has a story about Circuit City shoppers being angry that liquidation discounts aren't larger:

"What happened to 30%? Lies!" shouted customer Gabriel Ifrah, 52, at the Circuit City on La Cienega Boulevard in Los Angeles on Monday, where most items were priced at 10% off.

Jim Surowiecki has no sympathy for such people -- and neither do I, frankly. But I can understand where the confusion comes from, and it's not the "up to 30%" discounts promised in the ads. Rather, it's the message implied by big "Going Out of Business" signs, as well as news articles saying that Circuit City's merchandise is being "liquidated".

Such signs carry a clear implication of bargain-basement fire-sale prices, and it's easy to see how shoppers might be disappointed to turn up to a fire sale, only to find most items marked down by no more than 10% -- especially when the store's own pre-liquidation sale prices might well have been lower still.

The fact is that liquidations tend to be pretty bad places to find a bargain. It's worth remembering that a liquidation isn't the kind of sale put on by a store which needs to clear out their shelves in order to make space for new merchandise: there's no new high-margin merchandise coming in for shoppers to buy, and so the opportunity cost of keeping the old merchandise on the shelves is actually very low. Circuit City stores are going to be open through March: there's little point in having them simply sit there empty thanks to too-big early discounts.

What's more, liquidators only get one shot at maximizing their revenues. They don't care about mindshare or anything like that: there's no benefit to them from people fondly remembering the great discount they got at a certain store, and therefore being more likely to return in future. Quite the opposite, in fact: they're in the business of getting people into the store for one final shopping trip, never to return. In that business, it doesn't really matter if your customers are angry. If liquidators could legally promise a free pony with every patch cable, they probably would.

The lesson of this story is quite simple: treat liquidation sales with extreme prejudice, and pay attention only to price levels, not to headline discounts. Things like the Amazon iPhone app can come in very handy to get an idea of what real market prices are. If you're looking for something specific at a great price, don't expect to find it at a liquidation sale. And if you're just looking for fire-sale bargains, wait until a few days before the stores are going to close. The pickings might be slim, but at that point, at least, you know that they'll be cheap.