Wall Street’s simple, surefire–and mostly wrong–strategy to fix retail

Show me a struggling retailer and I’ll tell you what many Wall Street analysts will say is that company’s quickest path to new-found prosperity. Close stores. Or better yet, close a whole bunch of stores.

This was supremely evident with the frenzy that erupted on Twitter prior to JC Penney’s Analyst Day last week. Here’s a paraphrased exchange I had with one “famous”–mostly for posting photos of crappy Sears stores–Wall St. type.  Note: this is highly edited and paraphrased for brevity (and perhaps levity).

HIM: Penney’s is about to announce a bunch of store closings.

ME: I doubt it.

HIM: But they must close stores, lots and lots of stores!

ME: No they don’t. (I proceed to tell him why).

HIM: You don’t understand. They must close stores, lots and lots of stores! They need to have the same number of stores as Macy’s!

ME: That’s dumb.

HIM: You’re dumb.

The Analyst Day presentation concludes. Penney’s announces no store closings.

ME: I don’t want to say ‘I told you so’ but…

HIM: Hey, want to see my photos of really crappy Sears stores?

Now don’t get me wrong. Overall, the retail industry is over-stored. And the growth of e-commerce is causing a fundamental re-think of the number of stores a retailer requires, the size (and configuration) of these stores and how these stores need to operate. A contraction and re-working of gross retail space is inevitable.

But the knee-jerk reaction in favor of wholesale store closings is focused on the wrong problem. Struggling chains like Radio Shack and Sears aren’t in dire trouble because they have too much retail space. They are struggling because their overall value proposition isn’t working. If Radio Shack and Sears had a business model that was fundamentally sound, their needed store count overtime wouldn’t necessarily be dramatically different from what they have today. Show me a nationally branded, omni-channel retailer that is closing a lot of stores and I’ll show you one that is likely on the way to extinction.

What many on Wall Street often don’t get is that the cost of real estate for many of these established retailers is really quite low, making it easy for even chronically low productivity stores to be cash positive. And while Wall Street likes to cite the growth in e-commerce as the reason why store counts need to shrink dramatically, the reality is that for any decently integrated retailer, stores help drive the online business–and vice versa. Total customer and cross-channel economics need to be taken into account when doing a store closing analysis. When you do this analysis, along with the cash flow calculations, it turns out that closing a lot of store often makes things worse.

As for JC Penney, they are certainly far from out of the woods. They have a ton of work to do to refine and execute a merchandising and customer experience strategy that can regain share in an intensely competitive sector of the market. They are rightly focused on honing a new brand positioning and strengthening their omni-channel capabilities. My educated guess–having done this sort of analysis for other department store retailers–is that with conservative sales growth assumptions, only around 5% of Penney’s stores would be sensible candidates for near-term closure. Penney’s management is likely watching this list closely as they see how new strategies take root and they better understand the omni-channel effect.

For me, if Penney’s were to announce a large number of stores closings in the next year–say 75 or more–it wouldn’t be evidence that they are smart managers, it would be a sign that their overall strategy isn’t working.

 

 

JC Penney: Better isn’t the same as good

I bought some JC Penney shares on Thursday in advance of their earnings announcement.

I almost never buy individual stocks, but this was an easy decision. Penney’s execution has improved dramatically since Ron Johnson’s departure. Two major competitors–Sears and Kohl’s–are flailing. The year-over-year comparison is absurdly easy. Inventory seems to be tightly managed, which virtually guarantees a solid lift in gross margin. But mostly importantly, negative Wall Street sentiment has been fueled by much fundamental misunderstanding–as evidenced by the large amount of short interest.

My hunch was right. Penney’s reported better than expected performance. And the stock has popped some 15%.

Yet I am keenly aware that better is not the same as good. Penney’s has a huge amount of work to do just to get back to the performance level of the pre-Johnson era which, frankly, was solidly mediocre. The moderate department store sector has basically become a zero sum game where top-line growth must come from stealing share from the competition. And competition is, and will remain, intense.

I am, however, optimistic about the immediate-term. The self-inflicted wounds of the Johnson era are gone. Marketing and merchandising are moving in the right direction. Appropriate attention is now being placed on e-commerce and omni-channel capabilities. As Sears sinks into oblivion, JCP is poised to gain market share and leverage their real estate position. Mike Ullman’s back-to-basics strategy is appropriately conservative and should result in steadily improving gross margins.

It’s also important to note that a year ago Penney’s had done virtually everything one could think of to chase customers away. Importantly, a significant percentage of their stores were off-line in preparation for the home re-launch. Gross margins were getting pummeled by clearance markdowns. Lastly, retail remains a relatively high fixed cost business. As sales improve (both in-store and on-line) Penney’s will start to see tremendous operating leverage.

So for me, better is a virtual certainty for Penney’s–at least for the next few quarters. And those who see the brand at the brink and in need of massive store closings are going to be disappointed (and, as an aside, they also fail to understand the importance of physical stores in driving the online business and overall omni-channel strategy).

Better is easy.

Good? That’s a whole different question.

Attraction, not promotion

If you are familiar with 12-step recovery programs you know that most employ the Eleventh Tradition of Alcoholics Anonymous, which goes as follows: “Our public relations policy is based on attraction rather than promotion.”

The obvious reason for this practice is that 12 Step programs have the anonymity of their attendees at their core. Moreover, AA–and its many spin-off programs–reject self-seeking as a personal value. But it goes deeper.

Most people do not wish to sold to or want to heed the clarion call of “pick me, pick me.” If I have to hit you over the head again and again with my message, perhaps you are not open to hearing it. Or maybe what I’m selling isn’t for you. Constantly reducing your price or pitching me all sorts of deals may be an intelligent way to clear a market, but all too often it’s a sign of your desperation.

12 Step programs are among the first viral programs to scale. They gained momentum through word of mouth and blossomed into powerful tribes as more and more struggling addicts came to be attracted to and embraced the lifestyle of successful recovery. No TV. No radio. No sexy print campaigns. No 3 suits for the price of 1. When it works it’s largely because those seeking relief come to want what others in the program have.

In the business world, it’s easy to see some parallels. Successful brands like Nordstrom and Neiman Marcus run very few promotional events, have little “on sale” most days of the year and have very low advertising to sales ratios. Customers are attracted to the brands because of the differentiated customer experience, well curated merchandise and many, many stories of highly satisfied customers. Net Promoter Scores are high.

Contrast this with Sears and JC Penney who inundate us with an onslaught of commercials, a mountain of circulars and endless promotions and discounts. How many of their shoppers go because it is truly their favorite place to shop? How many rave about their experience to their friends? Unsurprisingly, marketing costs are high and margins are low.

Migrating to a strategy rooted firmly in attraction vs. promotion does not suit every brand, nor is it an easy, risk-free journey. Yet, I have to wonder how many brands even take the time to examine these fundamentally different approaches? How many are intentional about their choices to go down one path vs. the other? How many want to win by authentically working to persuade their best prospects to say “I’ll have what she’s having” rather than keep beating the dead horse of relentless sales promotion.

Maybe you can win on price. Maybe you can out shout the other guy. Maybe, just maybe, if you can coerce just a few more customers to give you a try you can make your sales plan.

Maybe.

 

 

 

 

Shrinking to prosperity: The store closing delusion

Yesterday Radio Shack announced it’s closing 1,100 stores, nearly 20% of their total. Earlier this year, JC Penney took the axe to 33 units, amidst a rising call of analysts pushing for more aggressive real estate pruning. Sears has closed some 300 units across the last 3 years, including recent decisions to shutter its downtown Chicago and Seattle “flagships.”

For those pushing a shrinking to prosperity agenda, the rationale is that eliminating the weakest units in the portfolio improves overall productivity. Well, yes, that’s just math. Unfortunately you don’t make money on ratios.

They also claim that with the growth in e-commerce fewer stores are needed. While there is an element of truth to this, it ignores the vital inter-relationship between physical stores and digital channels. For the vast majority of multi-channel retailers the web drives store traffic and stores drive e-commerce. Close stores and you hurt your e-commerce business because your brand become less accessible, and therefore less relevant.

Now don’t get me wrong. If a company is hemorrhaging cash and the data show that a given location cannot be made cash positive quickly (including the effect on the digital business, net of closing costs), it needs to go. Marginal economics 101. And certainly with shifting populations, rapidly evolving consumer behaviors and changes in real estate conditions, there is always going to be a steady stream of real estate rationalization.

Yet the heart of the matter for all the retailers at the center of the store closing debate is this: their value proposition is not working. Unless you shift your business model to becoming more destination driven–or somehow more regionally focused–closing a bunch of stores is likely to make things worse in the aggregate. You lose economies of scale and scope. You become less convenient to your target consumers. Your brand visibility declines.

Brick and mortar retail is not dying. But it certainly is becoming different. Yet it’s not hard to find many examples of winning brands that continue to open plenty of stores (e.g. Walgreen’s, Michael Kors). In fact, in the face of all this talk about mass store closings, formerly e-commerce only players like Warby Parker and Bonobo’s are now opening physical locations. I guess they must be really stupid.

I cannot recall a single retailer that engaged in large-scale store closings in the last decade that is thriving today. Actually every one I can think of is either gone or gasping for breath.

For Radio Shack and Sears, the hacking of their store count signals that they don’t have a viable strategy to survive and that their store closings are more rooted in desperation and the desire to keep the wolf from their door. For Penney’s, if they are able to craft (and execute) a value proposition that fights and wins in the middle market–no easy task–chances are they can support more stores, not fewer. If they announce plans to cut more than 10% of their units, it’s likely the beginning of their slide into oblivion, not a sensible bit of financial engineering.

 

 

 

JC Penney: The way, way back (Part 2: The action plan)

In part 1, I laid out the context in which JC Penney must recover from the disastrous performance of the past 2 years. In particular, I posited that their performance is likely to get better in the near-term. But I also pointed out that better is not the same as good. Even a return to the “decent”  2012 performance levels–which won’t come any time soon–is not an acceptable long-term outcome.

Now, from my outside looking in perspective, are what I believe to be the essential components required for Penney’s to make its way back to long-term viability.

  • Nail the positioning/Evolve the value proposition. To gain top-line momentum and assure near-term financial stability, Ullman and team are bringing back “legacy” products for their traditional core customer and returning to intensive sales promotion. This is necessary, but not sufficient. The value proposition of 3 years ago is not sustainable. Like all retailers serving the moderate market and offering a wide range of products, the challenge is crystallize your competitive positioning and to ruthlessly edit against the key customer segments, purchase occasions and price points you wish to own. Deep customer insight is key to getting this right. Penney’s must figure out how to attract a younger, more fashion forward customer over time, while not alienating its historical core. A tricky proposition to be sure and one that must be approached as an evolution rather than the catastrophic revolution that Johnson attempted. Once this is decided upon, it must become the “true north” that guides all future strategic execution.
  • Accept that it’s about ‘share of wallet” and plan accordingly. Maybe the economy will begin to grow above the rate of inflation. Maybe the long-term secular decline in the moderate mall-based department store sector will reverse. Maybe I will be starting quarterback for the Cowboys. But let’s not plan on it. The reality is that Penney only thrives, must less survives, by stealing share. The good news is they are likely to get a bounce from Sears’ slow slide into oblivion. But the rest will not come easily. Copying Macy’s and Kohl’s won’t cut it. Sucking less is not a strategy. Carefully choosing the customers Penney’s wishes to serve, understanding the levers to their engagement and loyalty and out-executing the competition are the table stakes. And since it’s a battle for share, expect the competition to fight back fiercely.
  • Defy the sea of sameness. Visit any of Penney’s key competitors–on or off-the-mall–and you’re struck by the lack of differentiation in product, presentation and experience. Take the brand name off the circular and, except for color scheme and typeface, all the advertising looks virtually identical. During the Johnson regime JCP obviously went too far and too fast on just about everything. But the underlying logic should not be lost. Penney’s must build stronger proprietary brands, while selectively bringing in (or amplifying) differentiating national brands to win in targeted consumer segments and price points. They must relax their seeming obsession with depth and get behind key items that solidify their new positioning. And advertising must be about this differentiation, not just price promotion. You can’t own “discount.”
  • (Re) Build a customer data & insight asset/Treat different customers differently. Ron Johnson’s eschewing of customer research and analytics, along with his dismantling of Penney’s CRM capabilities, contributed to Penney’s implosion. More and more, those brands that have the deepest understanding of customer behavior, the ability to reach a large percentage of their customer base on an individually addressable basis AND the willingness to progressively customize their offerings will gain considerable competitive advantages. Penney’s historical strengths in direct-to-consumer, large private label credit card base, burgeoning loyalty program and an e-commerce business that is (finally!) beginning to tap its inherent potential are all important building blocks. It’s time to step on the gas. More dollars to direct marketing. More personalization, less mass. More “test and learn. Rinse and repeat.
  • Invest aggressively in frictionless commerce/Own the moderate omni-channel customer. Right now cross touch-point shopping behavior is the norm. Right now only retailers talk about channels. The growing reality is that consumers think brand first and are becoming increasingly channel agnostic. They are expecting a seamless experience between digital and brick & mortar worlds. The growth in mobile further blurs any distinctions. For Penney’s, organizational silo busting must be a priority. They need to learn from the success that Macy’s and Nordstrom are having and translate that to a brand appropriate omni-channel strategy that will make them the undisputed leader in their competitive set.
  • Re-invigorate and evolve the brand. The JC Penney brand is a blessing and a curse, resonating strongly with some, not connecting well with many. JCP simply cannot win without retaining many core customers, deepening relationships with infrequent shoppers and attracting a new generation of potential high spenders. This is a hell of a challenge and the only certainty is that it will take tremendous investment and many years to prove successful (think Cadillac). Current marketing efforts are, understandably, about winning back customers Johnson “fired”, clearing old merchandise and securing financial stability. The basics of this should be accomplished by mid-year. Then the tide needs to turn to a multi-year strategy that shifts the focus on discounting to emphasize trust, value and the key elements of product and experiential differentiation. Plans need to assume it will take 5-10 years to make a meaningful dent in the minds of the critical Millennial segments.
  • Re-energize the culture. Deep customer insight, well articulated value propositions and kick-ass operational capabilities are great. But it is leaders, their teams and the determined perseverance of individuals that make the difference between a compelling strategy and its actual impact. The wrong-headedness of Johnson’s strategy, his inept management style and his gutting of key personnel has set back Penney’s mightily. I know of many talented, loyal Penney’s associates who both wish for and believe in Penney’s resurrection, but who have elected to leave for more secure career opportunities after enduring more than 2 years of craziness and disappointment. Ullman’s instincts in this regard seem spot on, but one should not underestimate the challenge of rebuilding key organizational capabilities, attracting the new talent necessary to take the brand beyond where they were in 2012 and building a customer-centric culture for the brave new world of omni-channel. Improving results will help, but this too is a multi-year substantial investment.
  • Don’t get distracted. Wall Street will push for cost reduction and store closings. To be sure, there will be incremental opportunities to ferret out buckets of productivity. But Penney’s issue–just like Sears’–is sales productivity and growing target customer share of wallet. They need to keep their eyes on the prize.
  • Settle in for the long-haul. I’m not about to get into the timing issues inherent in the signs Wall Street values that might cause Penney’s stock to pop. Having said that, I do think many of the liquidity issues are overblown. I do think new spring merchandise and easy comparisons to last year’s dead on arrival Home strategy should generate solid comps. I do think that gross margins will steadily improve. And I do think that many of the investments Johnson’s team made in upgrading layouts and presentation can serve as a stronger platform as new merchandise hits the store. Do with that what you will. But the transition from better to good will not come in a few quarters. Even in a best case scenario I expect it will take Penney’s at least 3 years to get back to 2012 performance levels. Whether they can do what it takes to be around a decade from now remains a huge open question and will remain so for quite some time.

 

Note, if you are desperate for entertainment and/or wish to check out my early call on the inevitable failure of the Ron Johnson strategy, just Google my name and “JC Penney” for my many JCP related blog posts of the past 2 years.

JC Penney: The way, way back (Part 1: The challenge)

Yesterday JC Penney reported its first quarterly same store sales increase in more than 2 years.

Given the free fall the company found itself in during the Ron Johnson era, this news provides a measure of hope. After all, there can be no ascent from a dive without passing through stabilization. And even though the gain was paltry–about 2%–it came during a period of consumer ennui, crappy weather and intense sales promotion throughout the industry. Later this month, when Penney’s reports quarterly earnings, we’ll get a clearer picture of the toll aggressive discounting took on margins.

Unlike some doom-sayers on Wall Street, I am cautiously optimistic about Penney’s near-term. Product assortments are improving, which bodes well for continued top-line growth. While the company still has a bit more work to clear all of Johnson’s merchandise debacles, I expect improving margins as the company better matches inventory to consumer demand. A return to more typical promotional marketing has Penney’s back in the competitive mix. E-commerce improvements are starting to make meaningful contributions. 

But of course better is not the same as good.

First of all, we should not lose sight of the fact that even before Johnson’s messianic arrival, JCP was struggling. Despite many attempts to re-invent itself, they remained a middling performer at best, stuck in neutral, in a moderate department store sector that continues to shrink. A transformation was, in fact, needed. Just not the one Johnson and team inflicted upon them.

Second, during the past 2 years Penney’s has lost roughly 1/3 of its sales. That means they need to increase revenue by well over 40% just to get back to where they were in the pre-Johnson, more than a bit mediocre, days.

Retail is still largely a high fixed cost business, and even with some additional pruning in real estate and a shift to more e-commerce, there is simply no way to earn an adequate return without dramatically improved brick and mortar sales productivity. And of course they must accomplish this in an environment of lackluster consumer spending and intense battles for market share. Though, Sears’ slow slide into oblivion should be the gift that keeps on giving.

To be sure, there is much of the proverbial low hanging fruit to be picked. Basics of execution were lost during the past two years. The Johnson merchandise and marketing strategy showed a poisonous contempt for Penney’s core customer. New product concepts were rolled out that were dead on arrival, creating many pockets of incredibly low sales productivity (I’m looking at you Bodum!). The increasingly critical digital channel was left  twisting in the wind. 

Addressing many of these glaring gaps should come fairly easily and quickly. Crafting a winning, long-term strategy is a totally different challenge.

Coming in Part 2: The action plan

I love the way you lie

Whether you stumbled upon Richard Chang’s excellent article “Outlets may not be the bargain you think“–or happen to remember my post from 3 years ago entitled “Faux clearance: Do outlet customers really care”–you may already know that the vast majority of merchandise sold through outlet and off-price channels is made specifically for those stores. Moreover, most of the purported discounts are entirely made up.

With few exceptions, much of the product sold through “regular” channels–department stores, specialty stores, e-commerce–is sold at a discount, and often a substantial one. Open today’s newspaper, or go on-line, and you will see tons of product discounted 20-50%. If you are a Joseph A. Bank customer you can often get a “Buy 1, Get 2 Free” deal. Take advantage of an additional savings coupon, or use your store credit card at many retailers, and you’re likely to reap at least another 10% discount.

While, arguably, we have seen an uptick in promotional intensity in recent years, the notion of marking something up to be able to then claim big savings has been a core component of most brands’ playbooks for at least as long as I’ve been in retail–and that’s over 20 years. For many retailers, the concept of “regular” price is purely fictional.

An essential part of Ron Johnson’s attempt at transforming JC Penney was the concept of every day, “fair and square” pricing. Surely–his left brain must have told him–customers would understand that $40 every day is better than $60 some days and $40 only on the days we happened to be running a sale. No more smoke and mirrors! No more waiting for a sale! No more wasted costs on advertising and store expenses to manage this expensive con job!

Well, we all know how that turned out.

My hope is that brands will be far more transparent in their pricing and discounting strategy. But barring legislative action, my experience tells me that holding my breath for this wish will only turn my face blue.

Whether it’s out of customer ignorance or some weird twist in evolutionary biology, the reality is we’re all part of a grand delusion.

We love the way you lie. And more, apparently, is better.