Maybe I am missing something, but how does Store “B” make money allowing Store “A” to sell their gift certificates? Or, maybe the question is how does Store “A” make any profit selling Store “B” gift certificates? For example, I buy a $25 gift certificate for Olive Garden at a convenience store. Yet, I fail to see where there is room for any profit to be made here. Can someone explain the thinking here?
How does a factory make any money allowing a store to sell its products. The store pays them for the products either before or after the sale. I assume gift certificates work the same way. Store B sells a $25 gift certificate for store A and pays store A $20 (a complete guess as to amount).
If you buy a $25 gift card for Olive Garden from Target, Target pays perhaps $20 to Olive Garden, keeping five bucks as its profit. And until you actually activate a gift card, it’s only a piece of plastic worth a few cents.
I dunno… Something elues me here. While a product can be made cheaper and then sold for more money, a gift certificate’s value cannot be haggled. Would you buy a roll of pennies for $1/roll? It’s a piece of plastic, but the original store is losing $5 they could claim if they exclusively sold them in their stores. I guess that’s why I am not in marketing! 
I don’t know why you think that the value of gift certificates/gift cards “cannot be haggled.” For example, Costco sells gift cards at a discount from face value. For example, you can buy two gift cards for California Pizza Kitchen good for fifty bucks each for $79.99.
$20 now is worth more than $25 a year from now. Olive Garden receives revenue immediately without actually having to do anything until someone uses the certificate. And a huge percentage of gift certificates are never used, anyway, which means it doesn’t really matter if you sell them for less than face value.
There are several things at work here. Let’s use Dewey Finn’s example.
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Olive Garden is very happy to give you $25 of food, even though Target only paid them $20 for the card that you’re using. Consider the card to be basically a “$5 off on a $25 purchase” coupon. Their profit margin is big enough that the $5 loss is well worth it.
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I also suspect that a good portion of gift cards end up never getting used. They get lost, forgotten, or whatever. A piece of the $5 loss is factored in as part of the gamble, and even if you’d use your card, another one got lost, and they are happy to play that game. Look at the numbers: Suppose 100 of these cards got sold. You think that Olive Garden has to supply $2500 of food, when they took in only $2000. But if just four of those cards get lost and never used, they’ll only have to supply $2400.
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Worst case scenario: Olive Garden has to supply $2500 of food. But they got their $2000 in December, and most cards won’t get redeemed until January - or even later in the spring. Pretty nice cash flow!
And, of course, it probably gets you to go with your family or a date or something, $25 doesn’t cover much more than one person, so that’s one or more meals extra that they got you to come in and pay for.
By the way, it’s funny that you should use that example, as a one-cent coin costs the US Government about two cents, including production and distribution costs. That’s mostly because of the cost of the metal in each coin.
Have you ever said “John wants a gift card to Olive Garden for Christmas, I’ll go to Target and get him one” (and then spent a bunch more money at Target while you were there)?
What Joey P said. Many stores sell stamps, newspapers, bus tickets and other items where the margin is slim or zero.
No, because nobody wants a gift card to the Olive Garden.
Retailers make money from gift cards because lots of people don’t use them, or don’t use the full balance. This article says:
“In 2009, Home Depot (NYSE:HD) reported $37 million in revenue from unused gift-card credits.”
Plus it’s often an impulse buy. You may just see the card hanging on a hook at the grocery store checkout line and think “Hey, Mom like Olive Garden!”, and now they get business they would not have had otherwise.
The first rule is to get 'em into the store. You can bet your ass that the vast majority of people who bring a $25 gift card end up spending over $50 and a chunk of that will be items that have a huge markup on like wine, beer, coffee, etc.
Grocery stores often do this will loss leaders. They put a gallon of milk on sale for $1.50 and they’re happy to lose 50 cents on each one because they know you’re gonna say “as long as I’m here…” and you’ll spend $40 or more. They make money just getting you into the store.
I considered that, but Jinx specifically used that example so I ran with it.
FTR, that’s not always good. Unused gift card money, while it is money the company gets to use for themselves, is a liability on the balance sheet. It’s money they owe to other people just like bills they owe to vendors.
That’s right, but it is a liability that does not carry interest. From a balance sheet perspective, it can be treated as an interest-free loan to the company. Of course, it’s a liability with a very short maturity - it can be withdrawn at any time (when the customer redeems the gift card). OTOH, that’s not bad either, since it brings in business. All in all, much better than any sort of third-party funding you can get on the capital markets.
FTR, the situation is actually very similar for airmiles. Airlines typically put unused customer airmiles as a liability onto their balance sheets, on the basis of some imputed valuation.
I’d be interested to hear what happens on the balance sheet when the gift card expires. My guess is that the expired amounts show up as a profit on the income statement.
Ou of curiosity, I just checked the 2012 report of Lufthansa; they have 205 billion Miles&More miles accounted for, which show up under various balance sheet items as liabilities totalling 1.66 billion euros. Gives you about 0.9 cents per mile.
If you do manufactured spend or use credit card bonus categories, you get to noticing what third party gift cards are sold at other stores. There seems to me to be a huge correlation of store profit margin to widespread availability of their gift cards. Sit down restaurant gift cards are everywhere- even places like Jcpenney that have an awful gift card rack have olive garden - so the olive garden must be selling them much cheaper than face value. On the other hand, Amazon, Target, and Walmart gift cards are much harder to find, and must sell at a much lower discount.
True, but it’s one of the first things to get written off if a business starts to get in trouble (at least I assume this is fairly universal) - when the UK entertainment store HMV went into receivership a couple of years back, the stores carried on trading until someone new took ownership of the business, but right at the outset, a sign went up saying gift cards would not be redeemed.
The new owners eventually started honouring them - although I’m not sure if this was a legal obligation or just courtesy/PR/business strategy.
I guess if the business went completely down the tubes, the gift card holders would be so far down the list of creditors, they’d get nothing.