When Costco Comes to Town,Can Adjusting Product Variety Shield Incumbent Stores From Sales Loss? Insights From Retail Collocation,Category,and Preexisting Competition

Abstract

When a competitor enters a market, incumbent retail stores often adjust their product variety to avoid sales loss. However, no empirical evidence has been provided in the literature to justify the value of such product variety adjustments after a rival's entry. One difficulty is that the change in consumer demand due to rival's entry and changes in product variety simultaneously affect incumbents’ sales. When changes in sales at incumbent stores are observed after rivals’ entries, it is unclear whether the sales changes result from product variety adjustments or changes in consumer demand directly resulting from the entry. Even if adjusting product variety can potentially mitigate sales loss due to rivals’ entries, it is unclear whether such product variety adjustments provide a universal solution to all incumbent stores. This paper applies the difference-in-difference research design to develop a system of equations for product variety and sales at incumbent stores after rivals’ entries by exploiting the entries of warehouse clubs. The findings reveal that, on average, product variety at incumbent stores increased after the entries. This increased product variety mitigates the sales decreases caused by the entries with a diminishing return. After the entry of a warehouse club store, incumbent stores collocated with the new store have less sales loss than the noncollocated stores due to the trade-off between the substitution and agglomeration effects. Product variety adjustments at collocated incumbent stores experience greater sales benefits than noncollocated stores. Moreover, the sales loss that was mitigated by increased product variety at incumbent stores within the retail category of entrants is larger than others after the entry of a warehouse club store. Interestingly, the mitigation effect is not significant for certain incumbents, such as convenience and drug stores, which belong to different retail categories from entrants. This study also explores the heterogeneous effects by investigating preexisting competition and different warehouse club chains. The empirical findings offer valuable insights to managers of incumbent stores on how to adjust product variety to reduce sales loss resulting from a rival's entry.