#135. Espresso is a new talk show from Loose Threads where we analyze important developments in the consumer economy. In our second episode, we discuss Birchbox’s 500 store partnership with Walgreens and Ferrari’s quest to pull back on licensing and shore up its luxury brand.

Check out the full transcript below. 

Richie: [00:00:01] Welcome to the second episode of Espresso, a new talk show from Loose Threads where we analyze important developments in the consumer economy.

Richie: [00:00:08] I’m Richie Siegel, the founder of Loose Threads, which analyzes and advises next-generation consumer companies, and FaceLift by Loose Threads, a retail incubator and accelerator for leading brands and retailers. For our latest analysis and insights, check out our free weekly newsletter at LooseThreads.com.

Richie: [00:00:21] Joining me for our discussion this week is Rebekah Kondrat, a partner at FaceLift by Loose Threads, and Caroline Tibbetts, who leads our research at Loose Threads. This week, we discuss Birchbox’s 500-store partnership with Walgreens and Ferrari’s quest to pull back on licensing and shore up its luxury brand. We hope you enjoy.

Caroline: [00:00:43] First, we’re going to talk about how Birchbox is opening 500 pop-up stores in Walgreens stores across the U.S. They have permanent locations in 11 Walgreens stores, but that’ll expand for the holiday season.

Richie: [00:00:56] I think it’s important, I guess, to start off with some context about Birchbox’s journey, because it is not pretty, to say the least. So they launch in 2010, raise about $10 million in revenue, raised another $60 million in 2014, valued at over $485 million—this is when they opened their first store. In 2016 they cut about 50% of their staff. In 2017 they open their second retail store. And, it seemed, from what they reported, a million subscribers, four million users, things were going well. They said they became profitable at some point in 2017. And then in 2018, all of a sudden, this, I believe, hedge fund or investor, invested $50 million to take a majority stake in the company. So we don’t, I guess, fully know how much they invested to take over, but the guess is after raising only about $71 million dollars at that point, to put an extra $15 million in to take a majority stake means there’s been like, a significant haircut to the valuation.

Richie: [00:01:50] And so, then, after that, they opened 11 permanent locations in Walgreens as kind of pulling back from physical retail into the shop-in-shop partnerships. And now they announce they’re gonna do 500 kind of holiday-focused, impermanent pop-ups across the country.

Rebekah: [00:02:08] I’d imagine it’s probably a test because it seems from a few articles—and there’s some kind of differing viewpoints on this—Walgreens would at least like for these to become permanent, it seems. So I’d imagine that this is just to test it if it goes well.

Richie: [00:02:23] It’s a hell of a test.

Rebekah: [00:02:24] It is a hell of a test.

Caroline: [00:02:26] What stands out to me is: why Walgreens? You have this indie beauty retailer, and Walgreens has been used, up until this point, of course—people go there for their basics. Are they going there really for discovery? Are people interested in trying out small sample-size versions of brands they have never heard of, and potentially pay double the price of what Pantene Pro-V shampoo is, versus their Moroccan oil options? And I know Walgreens has had some upscale brands in the past, like Professionnel L’Oreal or Fekkai, but there’s even been rumors that they were watered-down formulas, or not worth purchasing actually at Walgreens.

Rebekah: [00:03:07] If you kind of look at the pharmacy angle—which is what Walgreens started out as, and I guess you could argue it’s not anymore—CVS has recently opened Glam Squad pop-ups inside its shops. It’s also tried really hard to remake its image, saying that, by 2020, none of its images will be retouched in its beauty section. So like, it’s kind of leaning really into this, quote-unquote, “real beauty.” A lot of brands are doing this. This is kind of in line with what we’re seeing, these pharmacies are now, I don’t know, pharmacies-turned-department stores, doing? So, in that respect, it makes sense. It’s also good to note that Walgreens is a minority stakeholder in Birchbox.

Caroline: [00:03:49] Definitely.

Rebekah: [00:03:49] So that also makes sense that there would be a partnership there.

Richie: [00:03:53] I think I just question the size of it. It seems like it’s somewhere in between a test and a real thing. Like, a holiday pop-up makes sense, right? It’s for gifting and all those things. But it’s a pretty ambitious test, as far as a test goes. So it’s interesting that they went from 11 permanent Birchbox installations in Walgreens to 500 holiday pop-ups. I assume that would have to go down significantly after the holidays if they want to expand the permanent sections, but it’s just a lot of like, kind of, more and less and then more. Is the goal just sales? Is the goal to get more Birchbox customers?

Caroline: [00:04:30] Well, it’s interesting, too, because I didn’t visit the Soho store, but I used to frequent the one in Paris.

Richie: [00:04:35] Birchbox’s.

Caroline: [00:04:36] Birchbox’s, exactly. And it is a luxury feel. So it seems like a watering down of the brand mantra in general, from joining with Walgreens. And even with the CVS example of Glam Squad, it’s super-interesting because Glam Squad was this, like, luxury service that you were getting to have people come to your homes. And then they launched a line with CVS. But again, like, they could have partnered with a Bloomingdale’s or a Sephora and maintain that upscale nature, but they’ve chosen to take an upscale luxury service and present it to the masses.

Richie: [00:05:11] There is, I think, a natural watering down implicit in this move of like, this actually is not for people shopping at Sephora, it’s for people shopping at CVS. I think Glam Squad similarly has not had a thrilling ride. I mean, if you look at something like a Dry Bar, and something like a Glam Squad, they’re kind of at opposite ends of the spectrum in terms of success. It seems like a solid compromise, but I think it’s fair to say this was not the intention when these founders started the business to be in a 5’x5′ or 10’x10′ section at CVS, I assume, implicit in that, they’ve abandoned this luxury premium model to just make something work.

Caroline: [00:05:52] And this also kind of begs the question: do subscription boxes work, anyway?

Rebekah: [00:05:58] Exactly. I would attribute Birchbox’s biggest problem to that.

Richie: [00:06:01] You mean their whole business model?

Caroline: [00:06:05] But it could have gone the other way, if they went more into their own stand-alone stores. People don’t want the commitment and being inundated with these small samples on a monthly basis. And then you ultimately just end up going back to what you used in the first place. And I think a large part of Birchbox’s sales were using them as gifts.

Richie: [00:06:23] Right. Which is actually the only part that, to me, makes sense, is that this is a holiday thing. And maybe that actually is what this should have just been in the first place, is that Birchbox is like a holiday business. Maybe it is a super seasonal business—it actually isn’t a year-round business, and it was a subscription model applied year-round to a seasonal business, which is probably why it didn’t work.

Rebekah: [00:06:44] So there actually is a subscription beauty company that is taking a different direction called Ipsy that was started by Michelle Phan, who is a YouTube makeup influencer. They have kind of gotten way more into the experiential conference live events. And, because she was a YouTube influencer, she has brought in her YouTube influencer community and kind of crowd-sourced content. It’s a bag, not a box, but you get her bag, and the customer can unbox it and post their own videos on YouTube or respond to Michelle or her other YouTube influencer friends who are participating. I think there is a way where this can work, it’s just a very different business model.

Richie: [00:07:31] There’s nothing to really hook into, versus, like, you could connect with the person getting her recommendations. Versus Birchbox’s, you don’t know who’s talking to you, you don’t know who’s helping curate. We agree structurally there are issues with the model, but it seems like she has the less-bad version of it.

Caroline: [00:07:44] So if Kylie Cosmetics came out with a—

Rebekah: [00:07:47] Your favorite, Richie!

Richie: [00:07:49] They’re only going to curate products that Kylie makes, ’cause there’s so many of them…

Caroline: [00:07:53] Would that work?

Richie: [00:07:53] Well, in a funny way, she kind of does this, because she merges all her email lists together. So she’s marketing Kylie Skin to the Kylie Cosmetics list ’cause she owns both the brands. She cross-promotes on all the channels. I guess I look at her business and go, “Abstractly, that is a subscription box company. It just isn’t literally in a box and it literally is not a subscription.” But she’s kind of doing everything these companies—the Birchboxes, the Ipsys—would want to do, which is newness, limited inventory, more, more, more.

Caroline: [00:08:21] As a consumer, you’re experiencing surprise based on, you don’t know what’s coming out each month or what will be sold out. Because there is an element of surprise and uncertainty that I think we need to talk about here, and that’s what comes with signing up for Birchbox. You have no idea what you’re going to get. You fill out a quiz. Or a Stitch Fix, for example. You get four items. And, clearly, that’s working. That’s a box that has a future.

Rebekah: [00:08:43] I don’t—is it working, though? I think you can kind of, based on what they’ve done recently, which is allow you to buy single items, not from a box.

Richie: [00:08:51] I think what we’re seeing is basically all of these companies are starting to unbundle their model away from this very core lane that they had. I believe Birchbox drove a significant amount of its sales just through full product purchases.

Rebekah: [00:09:02] Yeah, the CEO has said, “The boxes were never the plan to make money,” which feels like a problem.

Richie: [00:09:10] There are two types of subscription offerings, right? One is a discovery-based one, which is the Birchbox. And the Ipsy, the others, are a replenishment-based one, which is effectively like “subscribe and save” on Amazon. That seems to be where all the money is, is giving you the same thing frequently on a cadence that you agree with, not throwing all this newness in front of you, ’cause I think there is a ceiling on that newness. And so when I look at what’s quote-unquote “working,” it’s the subscribe-and-save models that Amazon has. That—I think of Prose, the hair care product. They just want to keep replenishing and replenishing and replenishing. The boring business of like, “Do you need more white socks? Do you need more shampoo? Do you need more hand soap?” It’s those sorts of things where I think, again, this somewhat abstract model works. And everything else, you just can only take so much newness ’cause hopefully the stuff you have is somewhat working. And also, sustainability-wise, to just keep going into newness and to throw the old stuff out for the sake of newness is not the best place to be.

Rebekah: [00:10:03] Rockets of Awesome, which is a children’s subscription box. So, as your child grows—and children grow rather quickly, especially in the early years—and outgrow their clothes, you just up your sizes on your account. But it’s something you always need. Your kids are gonna need clothes as they grow. I feel like, even a Stitch Fix, which I have used personally, at some point I don’t need any more clothes ’cause I’m not growing anymore.

Caroline: [00:10:28] True.

Rebekah: [00:10:28] You know, and they’re not wearing out that fast. Beauty is kind of the same. Sure, you use up the product, you use up your lotion, you use up your foundation, like, it’s going to deplete and you’re going to need more, but you don’t need it in like teeny-tiny two-ounce sizes.

Caroline: [00:10:44] So, next we’ll talk about why Ferrari is scaling back on 50% of their licensing deals and they are venturing into the personal luxury space, which is small other goods and apparel collection, which will be run by Armani, in fact. So, super-luxury, a really crowded space, I would say.

Richie: [00:11:04] So here’s what’s interesting about this, though. You could think of this from a marketing perspective on time horizons of, not everyone can afford a Ferrari. Let’s hope that you can own a pen. And then, one day, if you’re rich enough, you can own a Ferrari. That’s one argument and I kind of buy that. The other argument, though, which is potentially more interesting is, is Ferrari only Ferrari because everyone knows about it, but so few people can have it? Given that, you need to know what a Ferrari is to desire it, but is the easiest way to spread that awareness via stuff like pens and baby bottles and so forth? So you can’t quantify that value in terms of revenue ’cause it’s less than 1%, but does that actually make the 99% of the revenue worth a lot more? Because everyone knows about it, but so few people can have it.

Caroline: [00:11:48] I feel like it’s just an age-old tale. Saint Laurent. Pierre Cardin, if you know the story of him, is like the licensing king. He literally went from being the top luxury designer and then to selling water bottles and lighter-branded items.

Richie: [00:12:02] Like a Kors, in a sense.

Rebekah: [00:12:02] This is just the way people dilute their brand image.

Richie: [00:12:06] But the one thing that’s different, though, is the 1%. Michael Kors’ Coach derives significant percent[ages] of their revenue from this licensing. Ferrari seems to be an outlier ’cause it’s only 1%. If Ferrari had 15%, 20% of revenue come from basically self-dilution, that would make a lot more sense to me. But there’s something curious about the fact that it’s a rounding error. But it seems to have had an out-sized effect on the perception, either in a good or bad way, and on the availability of what they do.

Rebekah: [00:12:37] I’m just wondering why they didn’t pay more attention to the 1%, because a lot of retailers that do third party products or get white-labeled products and sell them, the margins are much higher. And so I’m almost wondering if it has anything to do with, because they’re owned by Fiat Chrysler, 80% ownership, if they just like, don’t understand that. Whereas like on Michael Kors, or like, a Saint Laurent, or whomever else is doing it, like, really understands, “This is my brand and I should at least put it out there in a way that’s going to do something for me, my company, money-wise, but also mindshare-wise.

Richie: [00:13:16] Ferrari did—and this is 2017—€3.4 billion euros. So they’re making €34 million euros from licensed product.

Caroline: [00:13:24] It was almost like an afterthought.

Richie: [00:13:25] Exactly. And that’s just why it’s such a curious strategy. I fully could see that—it would be unfortunate for this to be the answer, but if the answer [is] simply, “Well, if everyone else did it, we should do it.” I could see that being the case, but I wonder if there’s something deeper there. Regardless, they’re undoing all of this now, or they’re kind of undoing it, right? They’re pulling back 50% of their licensing, they’re starting to go into apparel. My initial take from this is, why aren’t you pulling back 100%? 50 percent, again, seems like an interesting thing. If you believe it’s a problem, if you believe it’s leading to brand dilution…I believe their CEO said that is one of the factors, but they’re only doing it half.

Caroline: [00:13:59] Well it seems like their current setup is just completely scattered. From Amazon to Neiman Marcus to partnerships to collaborators. So maybe they know for certain they can scale back 50%, maybe the other agreements are just…

Rebekah: [00:14:10] They may be obligated in agreements.

Richie: [00:14:13] I fully understand that they have agreements, but a company like Ferrari can just pay to get out of them.

Caroline: [00:14:16] Right. But this luxury business they want to start won’t work if they have these licenses out there. At all.

Richie: [00:14:23] Right. Right. That’s what I’m saying, right? Is they have to terminate all of it. Nike comes to mind who went from, I think, 40,000 wholesale retailers at its peak to I think less than 40 now. RIMOWA, similar thing, cannibalized a significant part of its sales to go from wholesale to being a direct business. Again, Ferrari’s this weird outlier, where their sales didn’t rely on it, but they’re kind of taking this half-step.

Rebekah: [00:14:45] They’re definitely going for a total brand overhaul. I almost wonder, though, if they are hesitant to alienate that customer that will never own a Ferrari, because the new direction that they’re taking is heavy luxury. They’re spending on these driving simulators in their stores and they are opening restaurants. And the design of the new apparel is going to be very, like, fashion-forward from what I understand, not the machismo that like, you’re used to seeing from Ferrari. It’s going to be very like, flow-y and romantic from what I hear. So I wonder if they’re leaving some of it out there as almost like a hedge to see, like, if this doesn’t work. “What if our customers don’t like this?”

Caroline: [00:15:28] Well, I read also about like, just the changing culture and the transition from overt displays of wealth. Ferrari-branded stuff is associated with that. Whereas a luxury Armani Ferrari sweater probably will have a very small symbol that it’s Ferrari anywhere. So I think there is opportunity, specifically within the men’s market. I mean, initially upon hearing this, I thought, “Ah, it’s such a crowded space. Good luck.” Between Louis Vuitton and Hermes and Prada and everyone, but Vuitton is set up in the same way, right? Like, you will buy a cardholder with the hopes—they’ll make an $80 cardholder with the hopes that you’ll buy a Speedy bag in like, four years. With the hopes you’ll buy into ready-to-wear in like seven years.

Richie: [00:16:14] Right. The ladder there, though, is a lot easier to climb, than a $400 sweater into a $400,000 Ferrari.

Rebekah: [00:16:21] For sure.

Richie: [00:16:21] To me, they almost make more sense as a watch company. That is heavily based on mechanics and actually playing into their entire DNA. What are they going to be, like, “Well, we precision cut this pattern and so the shoulder…” Like, it’s just a very weird value proposition versus the different places they could go.

Rebekah: [00:16:38] It does feel like a bit of a mismatch. It feels like they’re still somewhat throwing spaghetti at the wall. They’re just doing it with more expensive products now.

Caroline: [00:16:46] Well, and with all the talks of sustainability and whatnot. You’re just bringing more product into the word, creating more mess, when you could be building on your electric car business.

Rebekah: [00:16:55] I actually think there’s something more interesting about the restaurants and the experiences for them because they have such a connection with quality. So, yes, hospitality excellence. I feel like you could double down on that instead of flow-y shirt.

Richie: [00:17:14] Also entertainment. I think of Disney+ launching, they just did a deal with Nickelodeon. Ford vs. Ferrari, the movie’s out right now as well.

Rebekah: [00:17:23] Right. Yes.

Richie: [00:17:23] I feel like that money could be so much better used working on a license to Netflix for a show, or Disney+, or…it just seems like apparel as a category is like, the most boring answer. And, frankly, the least relevant one that solves any of their actual problems.

Caroline: [00:17:40] Right. It’s not positioning them for the future.

Richie: [00:17:47] Thanks for listening to Espresso, a Loose Threads podcast. You can read full transcripts of the podcast and join the newsletter at LooseThreads.com. Feel free to leave a review on iTunes, we always appreciate it, and thanks to George Drake, Jr. for editing this episode. We’ll be back in a few weeks with more.