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Why Penn's wine kiosk failed: Part 1

June 22, 2012 by Natsumi Nakamura — Marketing, PFU Systems

After reading fellow blogger Michael Ionescu's post "Bad execution: Why good kiosk ideas fail", I did some research to learn more about what was behind the failure of the Pennsylvania Liquor Control Board's Wine Kiosk project.

I found that the 102 page report of a special Performance Audit conducted by the Pennsylvania Department of the Auditor General provided a lot of information regarding the entire project including the contract between the Liquor Control Board and Simple Brands (the kiosk vendor), revenue and loss, mechanical and technological malfunctions, and other operational issues.

The report lists poor sales, high operating costs, erosion of customer confidence due to continued malfunctions, and shortfall in convenience as the reason for the project failure. Those reasons, as well as 1,000 reported kiosk malfunctions were definitely key issues (I will discuss this in detail in my next post). However, I feel the report did not address the fundamental problem: A huge underestimation of the complexity and risk of such a project.

When I first heard about this project in 2009, as much as I wanted them to succeed, I was really pessimistic about the results because of three primary reasons: First, this kiosk system was extremely complex requiring numerous I/O devices including wine dispenser, touch panel, ID reader, receipt printer, breath analyzer, camera, speaker, and credit card reader. Second, it was such a high-risk/low-return deal for the kiosk vendor.The vendor was to provide service and maintain kiosks at no cost to the Board while collecting small fees – a $1 convenience fee per transaction and a $0.50 advertising fee per bottle. In addition, the vendor agreed to compensate the Board with more than $2 million per year if the Board's expense in operation exceeded its revenue. Lastly, Simple Brand was a new company with no previous kiosk experience.

I strongly disagree with the report that the contract was advantageous to the kiosk vendor. The report also doubts the fairness of the procurement process because Simple Brands was the only company that submitted a bid. In my opinion, other kiosk companies viewed this project as far too risky to undertake.

The results

The results of the wine kiosk program were disastrous – revenues below expectations, costs far exceeding estimates, and continued malfunctions forced the Board to terminate the program in September 2011.

The revenue Simple Brands collected between October 2010 and March 2011, was less than $62,500 – about $36,389 for the transaction fee and $26,091 for the advertising fee. Meanwhile, as of March 2011, the vendor had spent approximately $5 million for development and $9 million for manufacturing. The manufacturing cost per kiosk was $93,000 and installation cost was $3,700 each.

The Board also suffered a loss. As of March 2011, the net income it earned from sales was $206,060, while costs were $1,131,375, ending with a net loss from sales of $925,315.

Not a sustainable business model

Since the report does not talk about the vendor's initial sales and cost projections, we really don't know what business model they had for this project. But even if the kiosks were fully functioning from the start of the project and sales were as projected, it still might not have been a sustainable business model for the kiosk vendor.

Let's assume the sales per kiosk are 210 bottles each week (their minimum sales threshold) and customers buy 1 bottle per transaction. Since it was contracted to run 100 kiosks, the annual revenue for the vendor would have been:

210 (bottles) x 52 (weeks) x 100 (kiosks) x $1.5 (transaction + advertising fee per bottle) = approx $1.6 million

Meanwhile, based on our experience, their development costs ($5 million) and the manufacturing and installation costs per unit ($93,000 + $3,700) don't seem to be too high considering the complexity of the kiosk system and the risk factors in using the new technologies.

$5 million + ($93,000 + $3,700) x 100 (kiosks) = approx $15 million

This $15 million covers only the initial costs and does not include various operating costs. In addition, based on the contract, the vendor was supposed to "bear any and all costs associated with improvements, upgrades, enhancements or other features, providing any and all maintenance services related to each wine kiosk at no cost". In our view, $1.6 million of annual revenue does not seem to be enough to collect the $15 million in initial costs within 10 years of the contracted term and generate a healthy profit.

Unfortunately, both Simple Brands and the Liquor Control Board seem to have underestimated the complexity and risk of the kiosk project, which lead to two devastating outcomes: an unfeasible and unsustainable business model as well as an abyss of technical issues.

In our next blog post, we will discuss what technical issues the wine kiosk faced and the lesson we can learn from them.

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