I saw this at one of my regular lunch spots in downtown Evanston today:


They are offering $125 gift certificates at the price of $100.  Should you take it?  The answer is after the jump.

At first glance it is an attractive offer.  You are effectively being offered a 20% discount.  But note that if they wanted to offer a 20% discount they could just lower prices by 20%.  Instead, in order to qualify for the “discount” you have to commit to buy $125 worth of food.  At this moderately-priced restaurant it would take some prodigious consumption to amass a bill of $125.  Almost everyone would be spreading this “gift certificate” over two or three visits to the restaurant.  That’s about 3 weeks for even the most frequent visitors like myself.

So the sign that is hastily taped to the window of this restaurant is actually an application for a short-term loan offering a rather generous interest rate of 25% over about a 3 week period.  Sounds even better when put in those terms right?  But wait.  Why are they offering a 25% interest rate?  (Don’t say that the cost to the restaurant is lower than this 25% suggests because the marginal cost of the food is less than the price they are charging on the menu.  Since that is the profit-maximizing price, it reflects the opportunity cost of the food.)   And why now and not yesterday?

The answer must be that the restaurant’s opportunity cost of promising $125 of food 3 weeks from now has just significantly dropped.  And the most likely reason for this is that the chance that there will be no restaurant 3 weeks from now to keep that promise has significantly increased.  (Apropos this WSJ article showing an historic drop in US expenditure on food, especially in restaurants.)

In other words, this restaurant is a victim of the double whammy of the precipitous drop in demand and the credit crunch (which explains why they are begging for cash now) and is likely to be driven out of business by both within a very short time.  Which is why you should definitely not buy a gift certificate.