The Great Disruption: Lessons from Retail

2014.01.20 - RetailRetail: The aftershocks The great disruption of retail by online commerce is in its infancy. We can't yet know how the pieces will fall in the end nor can we predict how they will re-form in a post-internet retail world. Last week, Chicago based research firm, ShopperTrak, reported that in November and December, retail sales grew by only 2.7% and worse, that foot traffic declined by 14.6%. This bodes badly not only for brick and mortar retail stores but more urgently for the real estate companies who own America's sprawling shrines of retail worship; the shopping malls. Although (according to the Department of Commerce), online has only captured 6% of total US retail sales, brick and mortar casualties just last week sent tremors through the industry. Loehmanns is going out of the fashion discount business after 93 years and Sears' sales during the nine-week holiday period slumped by 9.2%. Macys announced that they would retrench 2,500 people and close five department stores, while JC Penney has just announced the closure of 33 stores and retrenchment of 2,000 people.  Best Buy's holiday sales in the U.S. came in weaker than last year, sending shares down 28% on the announcement.  Barnes and Noble's brick and mortar sales fell by 6.6% last year and Target upped its estimate of the number of customers whose personal information was stolen to a possible 70M -- and so the list of woes goes on. It's not as if the on-line retail is sailing through blue skies either. Even though there seems to be a very slight downward trend in online retail fraud it is still between $3B and $4B per year or (around 1% of sales) according Paul Demery of the InternetRetailer. There is an even bigger cost to online retailing though, and one that is on a steep upward trend. Shelly Banjo of the WSJ quotes a Kurt Salmon report that a third of all internet purchases get returned with UPS predicting this year's returns to increase by 15%. The Cost of Convenience and the Value of Loyalty So here's the essence of my analysis of where retail is at and where it might need to go in the future. Without personal contact and real sensory in-store experience, online cannot acquire the type of customer loyalty that iconic brick and mortar stores built over decades. People generally buy online because of price and convenience not personal relationship and loyalty.  Online stores can therefore only capture market share by offering their customers increasing and unparalleled convenience. By diverting costs associated with brick and mortar stores to online convenience, they can lure customers away from the shopping malls and grow their current share of US retail sales. There are three strategic challenges associated with this approach:
  • One store's innovation in customer convenience rapidly becomes industry standards for everyone else. There is very little barrier to imitation in the online world.
  • The barrier to entry altogether is very low. As an incumbent online store invests more and more in customer convenience and rewards to keep its client-base, it is easy for new entrants to arise quickly, efficiently and visibly. The newcomers, even if not there for the long hall, can cause enough damage to disrupt incumbent dominance.
  • As customers come to expect more and more convenience from competing online retailers, the costs associated with these conveniences could erode margins and damage competitiveness. This could reopen the doors for brick and mortar firms who survive, to aggressively compete again.
Boutique or Bazaar? The challenge facing brick and mortar stores is that in an effort to compete with the efficiencies of the internet, they compromise their service standards becoming little more than frustrating fashion bazaars rather than providers of uplifting shopping experiences. Loehmann's fate might then spread to other great retail names. If these trends continue we could see:
  • An accelerating turnover of online retailers as incumbents are replaced by startups.
  • Titan's like Amazon continuing to dominate the space by acquiring potential competitors and by increasing its investment in brick and mortar logistics capabilities unmatched by anyone else in the industry.
  • More well-known brick and mortar retailers going out of business
  • The return of small, niche, specialized main-street stores replacing some branches of national chains in shopping malls.
  • Malls becoming entertainment centers rather than shopping centers.
Synthesis Steve Jobs realized he needed a superb brick and mortar capability just when Michael Dell led the way to take computer hardware sales exclusively online. Jobs knew that loyalty is built from human connection and growth is fueled by infectious passion. True connection and passion cannot be transmitted online, they need face to face human energy. Online provides convenience but brick and mortar offers connection. Online can deliver profits, but brick and mortar secures sustainability. Barnes and Nobles' separation of its Nook and brick and mortar businesses might prove to be a strategic blunder. The future of retail belongs to the successful synthesis of online with brick and mortar. The competitive advantage of Amazon, the master of online retail, is not in its superb platform but in how it has synthesized this platform with real relationships with providers of merchandise and its brick and mortar logistics. Google has its brick and mortar server farms, not just its search-engine interface and brilliant algorithms. Zappos's Tony Hsieh understands that "as unsexy and low-tech as it may sound, the telephone is one of the best branding devices out there." Online without brick and mortar is as unsustainable as brick and mortar is without online. The synthesis of both leads to an unassailable position of retail dominance. Any retailer, whether online or on the street, will need to blend real and virtual into a seamless experience that provides their customer with convenience, efficiency and speed as well as service, relationship and quality. It is perilous to see online and brick and mortar as irreconcilable polarities. They are polarities; but like most polarities they are interdependent rather than irreconcilable. Polarity is a necessary condition to create vibrant energy in any sphere of life. Being able to embrace interdependent poles will differentiate the winners of the future in all industries. Retail is no exception.

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