HBR CA5E STUDY

Stuck with excess inventory,

Neptune Gourmet Seafood

istoying with the idea

of launching a second,

inexpensive product line.

But if Neptune stoops

to conquer, rivals might

retaliate with price cuts,

and the new line might end

up cannibalizing the old.

Class-orMass?by IdaleneF. Kesnerand Rockney Walters

J IM HARGROVE'S Startled expressionwould have been amusing had he

not been in such a pitiable state. Hewas standing in the yacht's magnifi-cently appointed galley, wondering ifhis stomach would be able to holddown the cola he was pouring into acrystal flute, when his colleague, RitaSanchez, said something outrageous.Now the drink had spilled down thelength of his pleated khakis, and he wassputtering. "You aren't seriously sug-gesting that we reduce prices by 50%.Are you?"

It had been a long day for Hargrove,marketing director of $820 million Nep-tune Gourmet Seafood, North Amer-ica's third-largest seafood producer.When the firm's chairman and CEO,Stanley Renser, had invited his seniormanagers to sail with him to inspectone of Neptune's new freezer trawlers.

Hargrove had demurred. He hated sail-ing on small boats-they made him sick,he told his boss. Renser had pointed outthat the 120-foot yacht he owned wasn'texactly small. Besides, Poseidon II neverrolled, even in a storm; the renownedTommaso Spadolini had designed it. Infact, it was one of the last boats built byItaly's famous Tecnomarine boatyard!Eventually, Renser had won him over,and Hargrove had arrived that Fridaymoming as eager to see the yacht as hewas to visit one of the state-of-the-artfishing vessels on which Neptune hadbet its future.

Hargrove hadn't felt seasick all morn-ing. There were no swells that day. Flatand glassy, the ocean glittered in shadesof turquoise, silver, and gold. Aboardthe freezer trawler, he had been fasci-nated by the technologies that allowedthe vessel to catch fish in an environ-

mentally sustainable way and to freezethem in a manner that gave Neptune anedge over rivals. But when the yacht hadstarted to head back to Fort Lauderdale,Hargrove had crumpled. While his col-leagues had made a beeiine for thesundeck, he had spent the afternoon inthe oak-lined main saloon, where he'dsunk into a leather sofa, clenching andunclenching his muscles to fight theocean's incessant motion.

Tired of trying to take his mind offthe problem by focusing on the distanthorizon, Hargrove was exploring thegalley when Sanchez, his counterpartin sales, had walked in.

"Hey, Jim. You better?"she had askedsolicitously.

"I'll survive," Hargrove had grimaced."We can't be too far from home now.But let's not talk about it. What's hap-pening topside?"

HBR's cases, which areJictiomI, present common managerial dilemmas and offer concrete solutions fiom experts.

APRIL 2005 35

H B R C A S E S T U D Y • Class - or Mass?

"Oh, nothing much. Stanley's show-ing people the garage where he parksthe water scooters and Windsurfers,"Sanchez informed him. She gave Har-grove a challenging look and added:"You want to hear something that'llreally take your mind off your seasick-ness? I 'm convinced that we have to dropour prices by 40% to 50%-and soon."

Big Fish in a Small PondHargrove snatched a stack of cocktailnapkins to mop up the cola, but hiseyes never left Sanchez's face. He hopedshe'd break into a smile to indicate thatshe was teasing him about the price cut.It had to be a joke, right? Seafood wasa high-end business in North America,and Neptune was an upmarket-manybelieved the most upmarket-player inthe $20 billion industry. During the past40 years, the company had earned a rep-utation for producing the best seafood,and Neptune did everything it couldto preserve that premium image amongcustomers.

The company reached its consum-ers, who were extremely demanding,through various channels. Neptune gen-erated about 30% of its revenues by sell-ing frozen and processed fish productsto U.S. grocery chains, like Shaw's Su-permarkets, and organic food retailers,like Whole Foods Market, all along theeastern seaboard and in parts of theMidwest.

The Neptune's Gold line of seafoodproducts, manufactured in two sophis-ticated plants near Cedar Key, Florida,and Norfolk, Virginia, dominated mostsegments in terms of quality, and there-fore sold at premiums compared withother brands. For example, Neptune'sGold canned salmon, tuna, sardines,mackerel, herring, and pilchard enjoyeda 30% higher price point, on average,

Idalene F. Kesner (ikesner(d)indiana.edu)is the Frank P. Popqff Chair of StrategicManagement and MBA program chair-person, and Rockney Walters (rwalters@indiana.edu) is a professor of marketingand the Ford Teaching Faculty Fellow, atIndiana University's Kelley School of Busi-ness in Bloomington.

than other brands; and Neptune's Goldlump crabmeat, anchovies, clams, lob-ster meat, mussels, oysters, and shrimpcommanded a 25% premium over rivalproducts.

That wasn't the company's biggestmarket, though. Neptune had emergedas the supplier of choice to the best res-taurants within 250 miles of its FortLauderdale headquarters as well as tothe biggest cruise lines, which togetheraccounted for a third of the company'ssales. Another 33% came from whole-salers that distributed the company'sproducts to restaurants all over theUnited States. In fact, sushi bars fromNew York to Los Angeles increasinglybought Neptune's frozen fish insteadof buying fresh fish and freezing itthemselves. And, befitting the humbleorigins of founder John Renser, approx-imately 4% of Neptune's sales camefrom a fish market outside Fort Laud-erdale that the company owned andoperated.

It wasn't easy to live up to the tagline"The Best Seafood on the Water Planet."Dogged by competition - especiallyfrom China, Peru, Chile, and Japan-aswell as tough fishing laws, Neptune in-vested heavily to stay ahead of rivals.Stanley Renser, the company's largestshareholder, had recently expanded thefirm's equity base, although doing sohad shrunk his share to 10%. The capitalinfusion allowed Neptune to invest$9 million in six freezer trawlers of thekind Hargrove had visited. Those ships'autopilot mechanisms guided them tothe best fishing grounds, manipulatedfishing gear, landed catches, and re-ported data to shore. Other systems,along with new fishing equipment, en-sured that only mature fish were caughtand that the nets were not overfilled,thus reducing damage to the haul. Asa result, Neptune increasingly landedonly top-quality catches.

What's more, the freezer trawlersused a new technology to superfreezefish to -70° F (instead of the usual -10° For -23°F) within four hours of capture.The fish would freeze so quickly withthis method that ice crystals couldn'tform in them or on them. That allowed

the fish to retain their original fiavor,texture, and color; and when cooked,they tasted like they were fresh out ofthe water. Moreover, by packing thecatch in snow made from dry ice andsurrounding it with liquid nitrogen, theprocess increased shelf life by 50%. Nowonder the gourmet magazine Con-noisseur's Choice had rated Neptune'sproducts foremost in quality for thetenth year in a row.

Against the CurrentTo Hargrove, the company's premiumimage, investments in new technolo-gies, and obsession with quality madeany price cut - let alone the notion ofchopping prices in half - unthinkable.But Sanchez refused to back down.'Tmnot kidding, Jim. It's pretty clear that wehave a big inventory problem. We haveto slash prices to get rid of those excessstocks."

Hargrove knew exactly what Sanchezwas talking about. In the past threemonths, Neptune's finished goods in-ventory had shot up to 60 days' supply-twice the normal level and three timeswhat it had been a year ago. Like manyof his colleagues, Hargrove consideredthe inventory pileup a temporary phe-nomenon; stocks had risen because thecompany had added ships to the fieetand could process catches more effi-ciently than before. Surely, if Neptunesold some old ships and stuck to its planof launching ready-to-eat, fish-basedmeals, its inventory would soon fall tonormal levels.

Sanchez and her sales team, however,were convinced that they faced a moreenduring situation. "1 told you this amonth ago, Jim, and I'll say it again.The new laws have reduced our accessto fish near the coast and forced us togo farther out to sea. Because the fish-ing grounds are richer there, and be-cause we're using new technologies, ourcatches have grown bigger on average.That's why, even in the past four weekswhen we've seen demand reach an all-time high, our inventory has continuedto grow."

"First of all, it makes no sense to meto cut prices when demand is rising,"

36 HARVARD BUSINESS REVIEW

Class-or Mass? • HBR CASE STUOV

Hargrove said, exasperatedly. "Besides,think about how customers would per-ceive a large price cut. If you slash pricesby 50%, people will think there's some-thing wrong with the fish-like it's rot-ten or full of mercury! It would destroyour premium image and permanentlyerode our brand equity."

Sanchez shook her head. "Custom-ers recognize that we sell a perishableproduct and that the supply of fish fiuc-tuates from day to day. They expectprices to vary. The prices of fruits, veg-etables, and fiowers change all the time,don't they? A few years ago, coffee beanprices plummeted when growers real-ized they'd be better off selling inven-tories than watching the beans rot.Since then, coffee prices have gone upagain. No one seems to object when thepricesof chicken, beef, or pork rise andfall because of changes in the market-

place. I'm not willing to leave money onthe table by refusing to react to supply-and-demand fiuctuations."

"But why do you want to cut prices sodrastically? Why not just offer custom-ers a 10% discount? I can see us doingthat in the winter, when sales are slow,anyway," Hargrove pointed out.

Sanchez shook her head again. "Itwon't work, Jim. Our warehouses are sofull that it's going to take a lot morethan that to make a difference. Andwith $9 million tied up in the new ships,you know we won't be keeping themin harbor. Our inventories are going tokeep growing unless we do somethingradical."

"Selling product at a loss is radical,all right," Hargrove muttered grimly.On many of its products, Neptune wasn'tmaking enough profit after manufac-turing costs to sustain a deep price cut

In fact, the company's margins had al-ready shrunk by 10% in the past yearbecause of rising costs and growingcompetition.

"You're talking about sunk costs,"Sanchez shot back."Selling product at aloss to generate some revenue is betterthan throwing it away. What I'm propos-ing, though-"

"Have you considered how our com-petitors will react?" Hargrove cut in."Ifwe do this, some of them are bound toretaliate with even deeper price cuts,and then we'll be in a price war noneof us can afford - Neptune least of all,given our cost structure."

Sanchez held up a hand."Of course, ofcourse. But you're assuming it says 'Nep-tune's Gold'on the discounted product.I actually envision a new brand."

Hargrove exploded."You don't createa new brand to deal with a temporary

APRTI 2005 37

H B R C A S E S T U D Y • C l a s s - o r Mass?

increase in supply! Besides, you won'tfool anybody. Everyone will know who'sresponsible for flooding the market anderoding margins."

It was clear to Sanchez that shewasn't making much headway withHargrove."Look,Jim,this really isn't theplace for this discussion, and perhapsI'm not being as clear as I should be.1 want to put this issue on the MOC'sagenda for Friday." The Marketing andOperations Council, which comprisedNeptune's top executives, met twiceper month.

"Fine, as long as Stanley is at themeeting, too. I'll go up on deck and talkto him right away," said Hargrove, his sea-sickness all but forgotten. "The sooneryou stop thinking about a price cut, thebetter."

Swimming with the SharksAs the week progressed, word spreadabout the solution that Sanchez hadproposed to tackle Neptune's inventoryproblem. Both Hargrove and Sanchezwere drawn into lively debates withtheir colleagues, and they soon realizedthat whether people were in favor ofprice cuts or against them, everyone hadan opinion on the subject.

A day before the MOC meeting, San-chez received an unexpected visitor. Itwas Nelson Stowe,the company's legalcounsel and a longtime confidant of theRenser family, hovering at her door."Ah,Rita. Got a minute?" Stowe asked in hismild-mannered fashion.

Realizing that this was no ordinaryvisit- Stowe had never called on her be-fore-Sanchez quickly invited him intoher office. After they had settled in,Stowe got slowly to the point." I've beenhearing that you want to launch a mass-market brand. Interesting! You know,before we opened the fish market, JohnRenser wanted to do something similar.He wanted to sell some of our fish at alow price so that more people would eatseafood. But that was a long time ago.

"I'm sure you're thinking through theimplications of your strategy," he con-tinued, "but one issue concerns me.Have you thought about how the Asso-ciation will react?"

Stowe was referring to the powerfulU.S. Association of Seafood Processorsand Distributors, whose members, suchas Neptune, accounted for 80% of Amer-ica's seafood production. The ASPD in-fiuenced American and global policiesrelated to the fishing industry and im-posed quality standards on members. Italso conducted surveys of wholesale andretail seafood prices and, twice a year,published benchmark prices that in-fiuenced the pricing policies of seafoodproducers and distributors.

"I don't know. Nelson,"Sanchez sighed."But I doubt that the Association can doanything."

"1 wouldn't be so sure," said Stowe."At the prices you're suggesting, you'relikely to endanger our ASPD Gold Sealof Approval. We're the only companythat has the seal on every product wesell. But the Association could easilychange that."

"No!" Sanchez cried out."lt can't! Re-gardless of the prices we charge, ourproducts will still meet the ASPD's qual-ity standards. Besides, we're just sellingthe same fish under a different brand."

"Don't fool yourself, Rita. The Asso-ciation has a great deal of discretionabout who gets the Gold Seal and whodoesn't. If it believes that our pricingstrategy will cost the fishing industry alot of money, it might withhold the sealon our low-end products-for starters.I 'd like us to remember that the Associ-ation isn't going to stand by idly whilewe disrupt the industry," Stowe warnedas he got up to leave. "Keep me posted,will you?"

A Pretty Kettle of FishAt 8 AM on Friday, Sanchez walked intothe conference room on Renser's heels."How was Newfoundland?" she asked.

"Lousy," croaked Renser, who had re-turned late the previous night after de-livering the keynote address at the Cana-dian Fish Producers' annual conference."I caught a cold," he complained. "Hap-pens every time I fiy commercial."

"At least riding in planes doesn't makeyou feel nauseated," Hargrove quippedas he joined them. "That's more thanI can say for riding in boats."

Once everyone had settled down,Hargrove got the meeting under way."We have several routine items on theagenda,"he began."But Rita and I haveadded a topic we think is important, soI suggest we move to that first." Wheneveryone nodded in agreement, Sanchezand Hargrove ran through the issuesthey had discussed on the yacht.

As they concluded their summaries,Bernard Germain, Neptune's COO, spokeup."Do we know which of our rivals areconsidering price cuts? We aren't theonly company facing overcapacity. Itwould be naive of us to believe that al!our competitors will hold prices for theindustry's good."

"I can't believe it!" Hargrove burstout. "You're in favor of price cuts?"

"1 don't know yet, Jim. I'm trying tounderstand why Rita's suggestion thatwe introduce a low-priced seafoodbrand is so off-the-wall. Why can't weuse a new brand to appeal to value-minded customers? Seems to me thatwe have the product; we can distributeit using our existing channels; and wecan achieve a new positioning throughpackaging, advertising, and pricing. Idon't see the difference between thisstrategy and what companies like Kel-logg do with their private-label busi-nesses. In fact, if we don't want tolaunch a second brand, we could thinkabout supplying retailers with private-label products."

"I'm not suggesting that we get intothe private-label business," Sanchez wasquick to reply."That can pose problems,as many consumer goods manufactur-ers have discovered. 1 feel we shouldcreate a mass-market brand called, say,Neptune's Silver."

"That's terrible!" snapped Hargrove."By calling it Neptune's Silver, you'repositioning the cheap product rightnext to Neptune's Gold in the eyes ofconsumers. Then they'll be more likelyto try it and, once they do, they'll realizethere's no difference in quality. We'll endup cannibalizing our own sales. Whywould any company in a high-end seg-ment do something so crazy?"

"I guess you don't remember whattranspired in the wine industry a couple

38 HARVARD BUSINESS RtVIEW

ADVERTISE MENTof years ago," responded Pat Gilman,thehead of Neptune's institutional busi-ness, whose taste for high-end productswas well known. "A Califomia vintner.Bronco Wines, did something exactlythat 'crazy.' It was the same kind of sit-uation: a glut of grapes, huge invento-ries. They slapped a new brand name onthe stuff and sold it through Trader Joe'sfor $1.99 a bottle. It's called CharlesShaw, but people nicknamed it Two-Buck Chuck."

"Not only do I know about it, but I'vealso tried it," Sandy McKain, head of thecompany's consumer business, piped in."I can tell you, it's worth every penny.But Pat, I don't think the scenario is ex-actly the same. Even in Bordeaux, a lotof winemakers offer a premium wineand several cheaper wines, but theyuse grapes of different qualities tomake the different grades. Would webe doing that?"

"In Bronco's case, it was the samegrapes they'd been using for higher-priced wines," Gilman said. "As for Jim'spoint, I'm sure they had some customersmigrate to the cheaper stuff. But thinkabout the upside. In the United States,88% of wine sold is consumed by 12% ofthe population-"

"Hey, Pat,"Hargrove called out."Howmuch of that do you personally ac-count for?"

Gilman joined in the laughter beforecontinuing: "The point is, more peoplewill opt for a bottle of wine with din-ner if they can get a passable one onthe cheap. Wine sales have grown at theexpense of other beverages in recentyears. The same thing could happen tous. Even with people eating healthierthings, seafood sales lag behind thoseof beef, chicken, and pork. The way Isee it, this isn't about reducing inven-tory. It's about introducing our productsto a bigger market: the more budget-conscious consumer. And if it's likewine, the educated consumer will thentrade up to Neptune's Gold."

A furious discussion followed abouthow hard it would be for Neptune towin shelf space in supermarkets for anew brand, particulariy for a low-pricedproduct that might go head-to-head

APRIL 2005

with the grocers' own private-label of-ferings. The group was also dividedabout whether it should sell a secondbrand through the same channels orthrough different ones. Germain won-dered aloud whether Neptune shouldtarget new geographic markets-likeSouth America and Central America -with a low-priced offering.

"Hang on!" exclaimed a clearly frus-trated Hargrove. "When we started,weren't we debating whether it madesense to launch a new brand to dealwith a temporary inventory problem?That would mean we'd kill it once wesolved that problem. I - "

"If customers like our new brand, itmight constitute a better growth strat-egy," Sanchez interrupted. "The way Ilook at it, the second brand could proveto be a win-win proposition."

"I don't know if it's as simple as tbat,"Germain said slowly."Every luxury com-pany I know of-Gucci, Mercedes-Benz,BMW, Tiffany, even Hyatt - has strug-gled to go mass without destroying itspremium image. For that matter, whenfashion designers like Isaac Mizrahi cre-ate an affordable line for a retailer likeTarget, I wonder if that adds to thebrand's luster or tarnishes it?"

Renser, who had been quiet until then,cleared his scratchy throat. His col-leagues were starting to rehash territorythey had already covered, and insteadof sharpening their arguments, theyseemed to be obfuscating them. On onehand, they appeared to agree that itwould be important to keep the twobrands separate. On the other hand,they were talking about migrating cus-tomers from the low-end brand to thehigh-end brand, which would meanlinking the two. Renser knew that thegroup was waiting to hear where hestood, but he didn't yet know what tosay. How long could he leave them hang-ing - along with his company's for-tunes - between the devil and the deepblue sea?

Should Neptune launch a mass-market brand? • Five commentators

offer expert advice.

' THE FRENCHMAYBEEXPERTS ONFOOD ANDWINE, BUTWHAT CANTHEY TEACHUS ABOUTRUNNINGA COMPANY?''

Armando Zagalode Lima of Xeroxappreciates theFrench tastefor innovativemanagement asmuch as he enjoystheir taste for thegood life.

(see next page)