Module 3
Retail and Financial Strategies
A. Central Concepts in a Retail Market Strategy
Envisioning just the right combination of products needed to organize and design
the perfect closet might be easy for people with innate design and spatial reasoning skills.
But for most of us, figuring out how the display in the store might look in our homes can
be a challenge, and the last thing anyone wants is to get home with boxes of shelving
only to find that nothing fits. This challenge is the impetus behind recently opened
versions of The Container Store in Dallas and Los Angeles, which exist primarily to
feature a vast variety of closet types, layouts, and options to help consumers envision
their future organizational potential.
Despite opening before the COVID-19 pandemic, the increasing trend of
consumers shopping online had prompted The Container Store to seek ways to optimize
the uses of its physical stores and draw customers’ attention. But with the arrival of
COVID-19, consumers began spending even more time at home, requiring home office
and classroom solutions to make their lockdown experience a little less painful. Many
retailers noted increased demand for home organization and storage solutions. The
Container Store was extremely well positioned to meet this demand already, but it also
launched new and expanded existing virtual in-home design options, which enable
consumers to work with professional designers online. They take measurements of their
work space, then consult virtually with the designers to determine and arrange the
products that will best suit their needs and homes. During these virtual consultations,
designers also get to see the space, so they can be even more efficient and effective in
their recommendations than might be possible with instore consultations.
The term strategy is frequently used in retailing. For example, retailers talk about
their merchandise strategy, promotion strategy, location strategy, channel strategy, or
branding strategy. The term is used so commonly that it might appear that all retailing
decisions are strategic decisions, but retail strategy isn’t just another synonym of retail
management. A retail strategy is a statement identifying (1) the retailer’s target market,
(2) the format and resources the retailer plans to use to satisfy the target market’s needs,
and (3) the bases on which the retailer plans to build a sustainable competitive
advantage.3 The target market is the market segment(s) toward which the retailer plans to
focus its resources and retail mix. A retail format describes the nature of the retailer’s
operations— its retail mix (type of merchandise and services offered, pricing policy,
advertising and promotion programs, store design and visual merchandising, typical
locations, and customer services)—that it will use to satisfy the needs of its target market.
A sustainable competitive advantage is one the retailer maintains over its competition that
is not easily copied by competitors and thus can last over a long period of time.
Rather than visiting their local drugstore to grab inexpensive, questionable quality
cosmetics or heading to a department store to visit high-end makeup counters, customers
shopping at Sephora encounter fun in-store environments that encourage them to play
with the products, which include both store brands and famous names. Unlike competing
beauty retailers, Sephora also provides customized experiences for each customer. In its
TIP (Teach, Inspire, Play) stores, customers can use augmented reality tools to try on
makeup products virtually and identify the most flattering shades for them to purchase
and wear.
With its stock of high-performance apparel, designed for activities such as trail
running, skiing, snowboarding, and rock climbing, Patagonia explicitly promises that the
production and sale of its quality products will leave the smallest impact possible on the
environment. Many of its products contain reusable and recyclable materials; throughout
its supply chain, it insists on fair and healthy working environments for all employees. It
actively contributes to other social movements, including voting rights initiatives.8 Thus
it appeals to consumers’ closely held personal and ethical values, with the recognition
that its customers tend to initiate their purchases after being inspired by a broader social
or environmental issue.9 Then as a market leader, Patagonia invests heavily in research
and technology to continue improving the sustainability of its production. Its
approximately 70 retail stores serve as physical locations for community gatherings. They
feature merchandise that has been designed exclusively for the geographic region in
which each store is located, along with freely available information about and guides to
the region. Then on the Patagonia website, customers can search for local nonprofits and
events to which they might contribute.
Even if it sells far fewer products than a traditional retailer, Apple is a clear
market leader in the consumer electronics sector, and it also ranks as the best retailer in
terms of sales per square foot. It earns more than $5,500 per square foot of retail space!
Apple’s signature, user-friendly design is a main feature of not only its products but also
its 500 stores worldwide. The retailer accordingly sought a patent for its store design, as a
unique form of intellectual property that it uses to showcase its distinctive products and
accessories.11 Good design considerations also inform the seamless omnichannel
experience that Apple provides. Customers can purchase products online and retrieve
them in physical stores, or if they happen to be at the mall already, they can simply pick
up a product and check out with their Apple account in stores. Beyond these sales
activities, Apple stores function as community centers. Working adults can access
meeting rooms with stadium seating and ample chargers. Then they can hang around after
work, to attend an artist forum, movie screening, or tutorial on how to use various
features of their Apple products. During “Hour of Code” workshops for children, staffers
teach Apple’s programming language, seeking to instill an interest in software
engineering, as well as a love of the Apple offerings, from an early age. Apple thus
exemplifies an innovative in-store experience designed to entice customers to visit and
spend time with the brand.
Each of the retail strategies described in the preceding section involves (1) the
selection of target market segment(s), (2) the selection of a retail format (elements in the
retailer’s retail mix), and (3) the development of a sustainable competitive advantage that
enables the retailer to reduce the level of competition it faces. A retail market segment is
a group of consumers with similar needs and a group of retailers that satisfy those needs
using similar retail channels and formats. The matrix in Exhibit 6–1 describes the
battlefields on which women’s apparel retailers compete— that is, the set of retail market
segments for women’s clothing. It lists various retail formats in the left-hand column.
Each format offers a different retail mix to its customers. Market segments are listed in
the exhibit’s top row.
Each square of the matrix in Exhibit 6–1 describes a potential retail market in
which retailers battle for consumers with similar needs. For example, Walmart stores in
the same geographic area fight each other by offering a full-line discount store format
that targets conservative customers. Bloomingdale’s and Neiman Marcus compete using
a department store format and targeting fashion-forward segments. The position on each
battlefield (cell in the matrix) indicates the first two elements of a retailer’s strategy: the
fashion segment (the x-axis) and the retail format.
After selecting a target market and a retail mix, the final element in a retail
strategy is the retailer’s approach to building a sustainable competitive advantage.13
Establishing a competitive advantage means that the retailer, in effect, builds a wall
around its battle position—that is, around its present and potential customers and its
competitors. When the wall is high, it will be hard for external competitors (i.e., retailers
operating in other markets) to scale the wall and enter the market to compete for the
retailer’s target customers.
Any business activity that a retailer engages in can be the basis for a competitive
advantage. But some advantages are sustainable over a long period of time, while others
can be duplicated by competitors almost immediately. For example, it would be hard for
Peets Coffee & Tea to establish a long-term advantage over Starbucks by simply offering
the same coffee specialties at lower prices. If Peets’s lower prices were successful in
attracting a significant number of customers, Starbucks would soon realize that Peets had
lowered its prices and quickly match the price reduction. This might lead to a price war
that Starbucks is likely to win, because it enjoys lower costs achieved through its larger
size. Similarly, it is unusual for retailers to develop a long-term advantage by offering
broader or deeper assortments of national brands. If the broader and deeper assortment
attracts a lot of customers, competitors will simply go out and buy the same branded
merchandise.
Customer loyalty means that customers are committed to buying merchandise and
services from a particular retailer. Loyalty is more than simply liking one retailer over
another. It means that customers will be reluctant to switch and patronize a competitive
retailer. For example, loyal customers will continue to have their car serviced at Jiffy
Lube, even if a competitor opens a store nearby and charges slightly lower prices.
Approaches for developing loyalty include building a strong brand image, creating a
unique positioning in the target market, offering unique merchandise, providing excellent
customer service, implementing a customer relationship management program, and
building a retail community.
Retailers build customer loyalty by developing a well-known, attractive image of
their brands and of the name over their doors. For example, when most consumers think
about fast food, hamburgers, or French fries, they think of McDonald’s. Their image of
McDonald’s may include many favorable beliefs, such as fast service, consistent quality,
and clean restrooms. If their image of McDonald’s is less favorable, though, they may
prefer and exhibit loyalty to a competitor like Burger King, which actively seeks to
establish an innovative reputation by changing up its menus to appeal to changing
consumer preferences, as Retailing View 6.1 explains. In these cases, customers are
unlikely to visit the other chain and perhaps even would drive a little farther to get to
their preferred source of burgers.
Perceptual maps are developed such that the distance between two retailers’
positions on the map indicates how similar those stores appear, according to consumers.
For example, Neiman Marcus and Saks Fifth Avenue are very close to each other on the
map, because consumers in this illustration anticipate that they offer similar services and
fashion. In contrast, Nordstrom and Marshalls are far apart, indicating that consumers
believe they are quite different. Note that stores close to each other compete vigorously
because consumers feel they provide similar benefits and have similar images. In this
example, Macy’s has an image of offering moderately priced, fashionable women’s
clothing with good service. T.J.Maxx offers slightly less fashionable clothing with
considerably less service.
It is difficult for a retailer to develop customer loyalty through its merchandise
offerings, because most competitors can purchase and sell the same popular national
brands. Specialty stores such as Victoria’s Secret, Casper, Glossier, and Levi’s create
loyalty by offering specific items that customers cannot find anywhere else; they also
reinforce that appeal by providing dedicated in-store experiences that match the unique
products.14 Many retailers thus develop privatelabel brands (also called store brands or
own brands) that are marketed by and available only from that retailer to keep customers
loyal.15 Costco’s highly regarded privatelabel brand, Kirkland Signature, engenders a
strong brand image and generates considerable loyalty toward Costco. The strong quality
image of these private-label products also makes significant contributions to enhance the
image of Costco.
Retailers also can develop customer loyalty by offering excellent customer
service.16 Consistently offering good service is difficult because retail employees will
always be less consistent than machines. Machines can be programmed to make every
box of Cheerios identical, but employees will never provide a completely consistent level
of service, because they vary in their training, motivation, and mood. It takes
considerable time and effort to build a tradition and reputation for customer service. But
once a retailer has earned a service reputation, it can sustain this advantage for a long
time because it’s hard for a competitor to develop a comparable reputation. For example,
a service provider like the Ritz-Carlton hotels is renowned for providing outstanding
customer service and has won the annual Malcolm Baldrige National Quality Award
multiple times.17 Employees at the Ritz gather daily for a 15-minute staff meeting,
during which they share accounts of how they or their peers have gone above and beyond
the call for conventional customer service, also known as “WOW stories.” A great
example involved a chef in a Balinese RitzCarlton who learned that a guest had extensive
food allergies and responded by having special eggs and milk flown in from a small
grocery store located in another country. Such WOW stories help maintain employees’
focus on customer service and give them recognition for the efforts they make.
Customer relationship management (CRM) programs, also called loyalty or
frequent-shopper programs, are activities that focus on identifying and building loyalty
with a retailer’s most valued customers.19 These programs typically involve offering
customers rewards based on the amount of services or merchandise they purchase. For
example, airlines offer free tickets to travelers who have flown a prescribed number of
miles, and local sandwich shops might give customers a free sandwich for each 10 they
purchase.
Some retailers use their websites and social media to develop retail communities.
A retail community is a group of consumers who have shared involvement with a retailer.
The members of the community share information with respect to the retailer’s activities.
Involvement in the community can range from simply becoming a fan of a retailer’s
Facebook page to meeting face to face with community members to share experiences.
Increased involvement in the community by its members leads to a greater emotional
feeling and loyalty toward the retailer.
A second approach for gaining a competitive advantage is to develop strong
relationships with companies that provide merchandise and services to the retailer, such
as real estate developers, advertising agencies, and transportation companies. Perhaps the
most important ones are relationships with vendors. For example, the relationship
between Walmart and Procter & Gamble (P&G) initially focused on improving supply
chain efficiencies. Today, the partners in this relationship share sensitive information
with each other so that Walmart is better able to plan for the introduction of new P&G
products and even develop some unique packaging for P&G’s national brands,
exclusively available at Walmart. Walmart shares its sales data with P&G so that P&G
can better plan its production and use just-in-time inventory management to reduce the
level of inventory in the system. By strengthening their relationships, both retailers and
vendors can develop mutually beneficial assets and programs that give the retailer–
vendor pair an advantage over competing pairs.
In addition to strong relationships with external parties, such as customers and
suppliers, retailers can develop competitive advantages by having more efficient internal
operations. Efficient internal operations enable retailers to gain a cost advantage over
competitors or offer customers more benefits than competitors at the same cost. Larger
companies typically have greater internal operations efficiency. Larger retailers can
invest in developing sophisticated systems and spread the fixed cost of these systems
over more sales. In addition to size, other approaches for improving internal operating
efficiencies are human resource management and information and supply chain
management systems.
The use of sophisticated distribution and information systems offers an
opportunity for retailers to reduce operating costs— the costs associated with running the
business—and make sure that the right merchandise is available at the right time and
place.23 Information flows seamlessly from Walmart to its vendors to facilitate quick and
efficient merchandise replenishment and reduce stockouts. Walmart’s distribution and
information systems have enabled it to have a cost advantage that its competitors cannot
overcome.
Committed relationships with customers and vendors and efficient internal
operations are important sources of advantage, but location (physical and digital) is
perhaps the most pervasive form of advantage in retailing. The classic response to the
question “What are the three most important things in retailing?” is “Location, location,
location.” Location is a critical opportunity for developing competitive advantages for
two reasons: First, location is the most important factor determining which store a
consumer patronizes. For example, most people shop at the supermarket closest to where
they live. Second, location is a sustainable competitive advantage because it is not easily
duplicated. Once Walgreens has put a store at the best location at an intersection, CVS is
relegated to the second-best location.
To build an advantage that is sustainable for a long period of time, retailers
typically cannot rely on a single approach, such as good locations or excellent customer
service. Instead, they use multiple approaches to build as high a wall around their
position as possible. For example, McDonald’s long-term success is based on providing
customers with a good value that meets their expectations, having efficient customer
service, possessing a strong brand name, and offering convenient locations. By building
strategic assets in all of these areas, McDonald’s has developed a strong competitive
position in the quick-service restaurant market. In addition to the unique products and
associated customer loyalty, customers loyal to IKEA appreciate its strong and quirky
brand image and the stimulating shopping experience it provides in stores. Walmart
complements its size advantage with strong vendor relationships and the clear positioning
of a retailer that offers superior value. Starbucks combines its location advantage with
unique products, committed employees, a strong brand name, and strong relationships
with coffee growers to build an overall advantage that is very difficult for competitors to
erode.
B. Growth Strategies
In the preceding sections, we focused on a retailer’s strategy, its target market and
retail format, and the approaches that retailers take to build a sustainable competitive
advantage and defend their position from competitive attacks. When retailers develop
these competitive advantages, they have valuable assets. In this section, we discuss how
retailers leverage these assets to expand their businesses.
Four types of growth opportunities that retailers may pursue—market penetration,
market expansion, retail format development, and diversification—are shown in Exhibit
6–4.24 The vertical axis indicates the synergies between the retailer’s present markets
and the growth opportunity—whether the opportunity involves markets the retailer is
presently pursuing or new markets. The horizontal axis indicates the synergies between
the retailer’s present retail mix and the retail mix of the growth opportunity— whether
the opportunity exploits the retailer’s skills and knowledge in operating its present format
or requires new capabilities to operate a new format. In addition, we discuss the
possibility that retailers choose to engage in the opposite of growth, in the form of
strategic downsizing.
A market penetration growth opportunity is a growth opportunity directed toward
existing customers using the retailer’s present retailing format. Such opportunities
involve either attracting new consumers from the retailer’s current target market who
don’t patronize the retailer currently or devising approaches that get current customers to
visit the retailer more often and/or buy more merchandise on each visit. Market
penetration approaches include opening more stores in the target market and/or keeping
existing stores open for longer hours. Other approaches involve displaying merchandise
to increase impulse purchases and training salespeople to crosssell. Cross-selling means
that sales associates in one department attempt to sell complementary merchandise from
other departments to their customers. For example, a sales associate who has just sold a
Blu-ray player to a customer might walk the customer over to the accessories department
to sell special cables to improve the performance of the player.
A market expansion growth opportunity involves using the retailer’s existing
retail format in new market segments. For example, Dunkin’ has opened new stores
outside its traditional target market in the northeastern United States. Lord & Taylor
underwent substantial shrinking, including the closure of its New York flagship store,
together with dozens of other locations. On its comeback mission, though, Lord & Taylor
is finding ways to expand by integrating its remaining retail stores with a fashion rental
service, as well as pop-up options that can get urban trendsetters interested. The retailer
was purchased by a tech company, called Le Tote, which also runs the rental service, and
recent experiments include expanding its rental counters in department stores. During a
holiday season, it hosted a short-term pop-up store in New York’s hip Soho
neighborhood, trying to remind young working women that they could visit a storefront
as well as rent their professional clothing online. Le Tote plans to continue opening
small-scale, segment-specific, and dedicated Lord & Taylor–branded stores (e.g.,
featuring only beauty brands) in various locations throughout the country in coming
months.
A retail format development growth opportunity is an opportunity in which a
retailer develops a new retail format—a format with a different retail mix—for the same
target market. The UK-based retailer Tesco has employed a retail format development
growth strategy by operating several different food store formats that all cater to
essentially the same target market. The smallest is Tesco Express, with formats up to
3,000 square feet. These stores are located close to where customers live and work. Tesco
Metro stores are 7,000 to 15,000 square feet, bring convenience to city center locations,
and specialize in offering a wide range of ready-to-eat meals. Tesco Superstores, up to
50,000 square feet, are the oldest format. Finally, Tesco Extra stores, more than 60,000
square feet, are designed to be a one-stop destination, with the widest range of food and
nonfood products, from housewares and clothing to garden furniture.
A diversification growth opportunity is one in which a retailer introduces a new
retail format directed toward a market segment that’s not currently served by the retailer.
Diversification opportunities are either related or unrelated. Related versus Unrelated
Diversification In a related diversification growth opportunity, the retailer’s present target
market and retail format share something in common with the new opportunity. This
commonality might entail purchasing from the same vendors, operating in similar
locations, using the same distribution or management information system, or advertising
in the same newspapers to similar target markets. In contrast, an unrelated diversification
growth opportunity has little commonality between the retailer’s present business and the
new growth opportunity.
Vertical integration describes diversification by retailers into wholesaling or
manufacturing. For example, some retailers go beyond designing their private-label
merchandise to owning factories that manufacture the merchandise. When retailers
integrate backward and manufacture products, they are making risky investments,
because the requisite skills to make products are different from those associated with
retailing them. In addition, retailers and manufacturers have different customers. The
immediate customers for a manufacturer’s products are retailers, while a retailer’s
customers are consumers. Thus, a manufacturer’s marketing activities are very different
from those of a retailer. Note that designing private-label merchandise is a related
diversification because it builds on the retailer’s knowledge of its customers, whereas
actually making the merchandise is an unrelated diversification.
When a retailer engages in strategic downsizing, it reduces its reach in some way,
purposefully and in an effort to ensure that it can operate efficiently and effectively.
Home Depot’s decision to rid itself of its unrelated diversification was one example;
another comes, perhaps surprisingly, from Amazon. Whereas Amazon’s growth is well
known and seemingly constant, it takes a strategic approach to its growth strategy,
pulling back from expansions once it has gained what it wanted from them. For example,
at one point it maintained 87 pop-up stores in the United States in varied locations and
sites, such as within Kohl’s stores, in separate storefronts in malls, and with kiosks in
Whole Foods stores. The pop-up experiment primarily was designed to gather and give
information. That is, Amazon sought to obtain new and expanded data about how people
interacted with its products, like Echo and Alexa-enabled devices, as well as which items
they sought out from the pop-up stores. At the same time, the physical spaces enabled it
to share information with consumers about new offerings, including services and
products like its tablets. Once it was satisfied with the information gained and granted,
Amazon announced that it would be closing all 87 pop-up stores, even those that it had
opened just a few months prior.
Typically, retailers have the greatest competitive advantage and most success
when they engage in opportunities that are similar to their present retail operations and
markets. Thus, market penetration growth opportunities have the greatest chances of
succeeding because they build on the retailer’s present bases of advantage and don’t
involve entering new, unfamiliar markets or operating new, unfamiliar retail formats.
When retailers pursue market expansion opportunities, they build on their advantages in
operating a retail format and apply this competitive advantage in a new market. A retail
format development opportunity builds on the retailer’s relationships and loyalty of
present customers. Even if a retailer lacks experience or skills operating in the new
format, it hopes to attract its loyal customers to it. Retailers have the least opportunity to
exploit a competitive advantage when they pursue diversification opportunities.
C. Global Growth Opportunities
Three factors that are often used to determine the attractiveness of international
opportunities are (1) the potential size of the retail market in the country, (2) the degree to
which the country does and can support the entry of foreign retailers engaged in modern
retail practices, and (3) the risks or uncertainties in sales and profits. Some indicators of
these factors are shown in Exhibit 6–5. The (+) or (-) indicates whether the indicator is
positively or negatively related to the factor. Note that the importance of some country
characteristics depends on the type of retailer evaluating the country for entry. For
example, a retailer of video games, such as GameStop, would find a country with a large
percentage of people under 19 years of age to be more attractive than a country with a
large percentage of people over 65 years. High-fashion retailers that sell expensive
merchandise, such as Neiman Marcus and Cartier, would find a country that has a
significant percentage of the population with high incomes to be more attractive than a
country that has a large percentage of people in poverty.
In India and most emerging economies, the retail industry is divided into
organized and unorganized sectors. The unorganized retailing sector includes small
independent retailers—local kirana (small neighborhood) shops, owner-operated general
stores, paan/beedi shops, convenience stores, and handcart and street vendors. Most
Indians shop in open markets and the millions of independent kirana. Less than 13
percent of India’s retail sales are through organized retail channels.
When it comes to retailing at least, government regulations are much less onerous
in China than in India, and direct foreign investment is encouraged. China thus
consistently ranks as the top emerging retail market in Kearney’s annual Global Retail
Development Index (GRDI).35 Even as growth in its gross domestic product has slowed,
China maintains a thriving retail market, likely to reach the $15 trillion mark soon and
surpass the United States as the world’s largest.36 Five global food retailers (Auchan,
Ito-Yokado, Metro, Walmart, and Seven & I) maintain strong operations in China, though
much of this retail development has taken place in large, eastern coastal cities such as
Shanghai, Beijing, Guangzhou, and Shenzhen.37 The infrastructure needed to support
modern retailing also continues to develop: Highway density in China has approached
levels similar to those in the United States, and the country has excellent airports and
railroad networks.
In Russia, the impediments to market entry are less visible but more problematic.
Whereas it ranked among the top countries in terms of retail growth in the early 2000s, its
retail growth prospects have slipped. Still, the market is large enough that retail firms
might not be able to ignore it.38 In particular, Russia’s Internet market, which includes
90 million customers, is Europe’s largest.39 But it also is marked by rampant corruption,
and various administrative authorities can impede operations if they do not receive what
they regard as appropriate bribe payments.
Entry into nondomestic markets is most successful when the expansion
opportunity builds on the retailer’s core bases of competitive advantage. For example,
Walmart and ALDI enjoy significant cost advantages that can facilitate their success in
international markets in which price plays an important role in consumer decision
making. However, they also require those markets to offer a distribution infrastructure
that enables them to exploit their advantageous logistical capabilities. For H&M and
Zara, success instead is more likely in international markets that value lower-priced,
fashionable merchandise.
To be global, retailers must think globally. It is not sufficient to transplant a
home-country culture and infrastructure to another country. In this regard, Carrefour is
truly global. In the early years of its international expansion, it started in each country
slowly, an approach that reduced the company’s ethnocentrism. Further enriching its
global perspective, Carrefour has always encouraged the rapid development of local
management and retains few expatriates in its overseas operations. Carrefour’s
management ranks are truly international. One is just as likely to run across a Portuguese
regional manager in Hong Kong as a French or Chinese one. Finally, Carrefour
discourages the classic overseas “tour of duty” mentality often found in U.S. firms.
International assignments are important in themselves, not just as steppingstones to
ultimate career advancement in France. The globalization of Carrefour’s culture is
perhaps most evident in the speed with which ideas flow throughout the organization. A
global management structure of regional committees, which meet regularly, advances the
awareness and implementation of global best practices. The proof of Carrefour’s global
commitment lies in the numbers: It has had more than 30 years of international
experience in more than 30 countries, both developed and developing.
Expansion into international markets requires a long-term commitment and
considerable up-front planning. Retailers find it very difficult to generate short-term
profits when they make the transition to global retailing. Although firms such as
Walmart, Carrefour, Office Depot, and Costco often initially have difficulty achieving
success in new global markets, these large firms generally are in a strong financial
position and therefore have the ability to keep investing in projects long enough to
become successful.
Four approaches that retailers can take when entering nondomestic markets are
direct investment, joint venture, strategic alliance, and franchising.45 A firm can choose
from many approaches when it decides to enter a new market, which vary according to
the level of risk the firm is willing to take. Many firms actually follow a progression in
which they begin with less risky strategies to enter their first foreign markets and move to
increasingly risky strategies as they gain confidence in their abilities and more control
over their operations, as illustrated in Exhibit 6–6. We examine these different
approaches that marketers take when entering global markets, beginning with the most
risky.
Direct investment occurs when a retail firm invests in and owns a retail operation
in a foreign country. This entry strategy requires the highest level of investment and
exposes the retailer to the greatest risks, but it also has the highest potential returns. A
key advantage of direct investment is that the retailer has complete control of the
operations. For example, McDonald’s chose this entry strategy for the UK market,
building a plant to produce buns when local suppliers could not meet its specifications. A
joint venture is formed when the entering retailer pools its resources with a local retailer
to form a new company in which ownership, control, and profits are shared. A joint-
venture entry strategy reduces the entrant’s risks. In addition to sharing the financial
burden, the local partner provides an understanding of the market and has access to local
resources, such as vendors and real estate. Many foreign countries require that foreign
entrants partner with domestic firms. Problems with this entry approach can arise if the
partners disagree or the government places restrictions on the repatriation of profits.
A strategic alliance is a collaborative relationship between independent firms. For
example, a retailer might enter an international market through direct investment but use
independent firms to facilitate its local logistical and warehousing activities. Franchising
offers the lowest risk and requires the least investment but also has the lowest potential
return on investment. The retailer has limited control over the retail operations in the
foreign country, and any potential profits must be split with the franchisee. Once the
franchise is established, there is also the threat that the franchisee will break away and
operate as a competitor under a different name. In this case, the expanding retailer runs
the risk of creating its own local competitor. Still, the agreement can work to everyone’s
benefit: The UK-based Marks & Spencer, for example, has franchised stores in 57
countries.
D. The Strategic Retail Planning Process
In the previous sections, we reviewed the elements in a strategy statement, the
approaches for building a sustainable competitive advantage, the growth opportunities
that retailers consider, and the factors they consider when evaluating and pursuing a
global growth opportunity. In this section, we outline the process retailers use to review
their present situation and decide on a strategy to pursue. The strategic retail planning
process is the set of steps a retailer goes through to develop a strategy and plan48 (see
Exhibit 6–7). It describes how retailers select target market segments, determine the
appropriate retail format, and build sustainable competitive advantages. As indicated in
Exhibit 6–7, it is not always necessary to go through the entire process each time a
strategy and plan are developed (step 7). For instance, a retailer could evaluate its
performance and go directly to step 2 to conduct a SWOT analysis.
The first step in the strategic retail planning process is to define the business
mission. The mission statement is a broad description of a retailer’s objectives and the
scope of activities it plans to undertake.50 The mission statement attempts to answer two
main questions: What type of business are we? What do we need to do to accomplish our
goals and objectives? These fundamental business questions must be answered at the
highest corporate levels. Although most firms value the goal of maximizing stockholders’
wealth by increasing value of the firms’ stock and paying dividends, modern mission
statements often place more emphasis on the companies’ social values and philosophies.
After developing a mission statement and setting objectives, the next step in the
strategic planning process is to conduct a SWOT analysis. A SWOT analysis involves an
analysis of the retailer’s internal environment (strengths and weaknesses) and external
environment (opportunities and threats). The internal analysis identifies the retailer’s
strengths and weaknesses—the retailer’s unique strategic capabilities relative to its
competition. These unique capabilities are the assets, knowledge, and skills that the
retailer possesses, such as the loyalty of its customers and the quality of its relationships
with its vendors. These capabilities reflect the retailer’s ability to develop a strategic
advantage as an opportunity it is considering.
The external analysis identifies the retailer’s opportunities and threats—the
aspects of the environment that might positively or negatively affect the retailer’s
performance. These factors associated with the market, competition, and environment
dynamics are typically beyond the retailer’s control. The attractiveness of a target market
in which a retailer is involved or considering is affected by the size of the market, market
growth, cyclicality of sales, and seasonality. Market size is important because it indicates
a retailer’s opportunity to generate revenues to cover its investment.
Growing markets are typically more attractive than mature or declining markets.
For example, retail markets for limited-assortment, extreme-value retailers are growing
faster than are those for department stores. Typically, the return on investment may be
higher in growing markets because competition is less intense than in mature markets.
Because new customers are just beginning to patronize stores in growing markets, they
may not have developed strong store loyalties and thus might be easier to attract to new
retail offerings. Firms are often interested in minimizing the business cycle’s impact on
their sales. Thus, retail markets for merchandise that is affected by economic conditions
(such as cars and major appliances) are less attractive than retail markets that are less
affected by economic conditions (such as food). In general, markets with highly seasonal
sales are unattractive because a lot of resources are needed to accommodate the peak
season, and then the resources go underutilized the rest of the year. Retailers can take
steps to reduce seasonality; for instance, ski resorts can promote summer vacations.
The nature of the competition in retail markets is affected by barriers to entry, the
bargaining power of vendors, and competitive rivalry.52 Retail markets are more
attractive when barriers to entry are high. Barriers to entry are conditions in a retail
market that make it difficult for other firms to enter the market. Some of these conditions
are (1) scale economies, (2) customer loyalty, and (3) the availability of great locations.
Scale economies are cost advantages due to a retailer’s size. Markets dominated by large
competitors with scale economies are typically unattractive because the dominant firms
have sustainable cost advantages. For example, an entrepreneur would view the drugstore
market as unattractive because it is dominated by two large firms: Walgreens and CVS.
These firms have considerable cost advantages over an entrepreneur because they have
significant bargaining power over suppliers and can buy merchandise at lower prices.
They have the resources to invest in the latest technology and can spread the fixed costs
of such investments across more outlets.
Another competitive factor is the bargaining power of vendors. Markets are less
attractive when only a few vendors control the merchandise sold in the market. In such
situations, vendors have the opportunity to dictate prices and other terms (like delivery
dates), reducing the retailer’s profits. For example, the market for retailing fashionable
cosmetics is less attractive because two suppliers, Estée Lauder (Estée Lauder, Clinique,
Prescriptives, Aveda, Jo Malone London, Bumble and Bumble, Tommy Hilfiger, MAC,
and Origins) and L’Oréal (Maybelline, Giorgio Armani, Redken, Lancôme, Garnier, and
Ralph Lauren) provide most of the desirable premium brands. Because department stores
need these brands to support a fashion image, the vendors have the power to sell their
products to retailers at high prices.
After completing the SWOT analysis, the next step is to identify opportunities for
increasing retail sales. Kelly Bradford presently competes in gift retailing using a
specialty store format. The fourth step in the strategic planning process is to evaluate
opportunities that have been identified in the SWOT analysis. The evaluation determines
the retailer’s potential to establish a sustainable competitive advantage and reap long-
term profits from the opportunities being evaluated. Thus, a retailer must focus on
opportunities that utilize its strengths and its competitive advantage.
After evaluating the strategic investment opportunities, the next step in the
strategic planning process is to establish a specific objective for each opportunity. The
retailer’s overall objective is included in the mission statement; the specific objectives are
goals against which progress toward the overall objective can be measured. Thus, these
specific objectives have three components: (1) the performance sought, including a
numerical index against which progress may be measured; (2) a time frame within which
the goal is to be achieved; and (3) the level of investment needed to achieve the objective.
Typically, the performance levels are financial criteria such as return on investment,
sales, or profits. Kelly’s objective is to increase profits by 20 percent in each of the next
five years. She expects she will need to invest an additional $25,000 in her apparel and
other nongift merchandise inventory.
The sixth step in the planning process is to develop a retail mix for each
opportunity in which an investment will be made and control and evaluate performance.
Decisions related to the elements in the retail mix are discussed in Sections III and IV
The final step in the planning process is to evaluate the results of the strategy and
implementation program. If the retailer is meeting or exceeding its objectives, changes
aren’t needed. But if the retailer fails to meet its objectives, reanalysis is required.
Typically, this reanalysis starts with reviewing the implementation programs, but it may
indicate that the strategy (or even the mission statement) needs to be reconsidered. This
conclusion would result in starting a new planning process, including a new SWOT
analysis.
The planning process in Exhibit 6–7 suggests that strategic decisions are made in
a sequential manner. After the business mission is defined, the SWOT analysis is
performed, strategic opportunities are identified, alternatives are evaluated, objectives are
set, resources are allocated, the implementation plan is developed, and, finally,
performance is evaluated and adjustments are made. But actual planning processes have
interactions among the steps. For example, the SWOT analysis may uncover a logical
alternative for the firm to consider, even though this alternative isn’t included in the
mission statement. Thus, the mission statement may need to be reformulated. The
development of the implementation plan might reveal that the resources allocated to a
particular opportunity are insufficient to achieve the objective. In that case, the objective
would need to be changed, the resources would need to be increased, or the retailer might
consider not investing in the opportunity at all.
E. Objectives and Goals
There are some things that shoppers just can’t do online. And then there are some
other things they may do too much of when they shop online. Accordingly, even as some
omnichannel retailers such as Nordstrom and Kohl’s are shrinking their physical
footprints and expanding their digital presence, offprice retailers are bucking those
trends.1 For these retailers, whose strategy makes low price points a constant priority,
such as Burlington Coat Factory, T.J.Maxx, and Ross Stores, several trends combine to
make the strategic decision to limit their operations to offline channels an appealing one.
For full-price retailers, such trends push them to downsize their operations and
explore other sales channels to offset diminishing sales in traditional settings.3 For off-
price retailers, though, they suggest another response: These retailers already are well
positioned to provide cash-strapped consumers with appealing products at low costs, by
leveraging the overstock created by both traditional and e-commerce retail channels. In
this seemingly simple model, these stores buy, at a discount, overproduced items that the
original retail supply chain cannot dispose of efficiently, then sell them at a discounted
price. By leveraging their vast size and scale, the off-price supply chains attain
substantial operational efficiencies, which they can leverage to ensure wider profit
margins for the business.
During the peak months of the COVID-19 pandemic, this strategy created
something of a challenge in that most stores were forced to close for extended periods
under lockdown mandates. As those stay-athome orders loosened, the retailers saw an
initial bump in sales, but it was temporary. Thus, for the first half of 2020, most of them
are reporting diminished performance. Their gross margins (i.e., the difference between
the price customers pay and the cost to the retailer to obtain the merchandise) were down;
at both TJX and Ross, topline sales decreased by more than 30 percent.6 Still, the
retailers saw reason for optimism, especially when loyal shoppers proclaimed their
determination to come back and buy, such that their conversion rates (i.e., shopping trips
that include purchases) continued to grow.
Still, in many instances in-store operations give customers opportunities to try on
items before purchasing them, which can reduce the rates of returns. In contrast, when
people shop for clothing online, they often order multiple sizes of the same garment or
several similar styles, reasoning that they can simply return anything that does not fit.
Accordingly, both return rates and the costs of handling returns are much higher—by
factors of as much as 10—for online channels. For low-price retailers, such costs directly
undermine their ability to compete on prices. If they cannot contain their operating costs,
they cannot earn profits on the inexpensive items they sell. That risk was particularly
prominent when consumers sheltering at home increased their purchases and returns.
There are differences across off-price retailers as well. For example, during the
pandemic, overall return on assets (ROA, defined as the net profit, after taxes, divided by
total assets) for TJX fell from a positive ratio of 33 to a negative value of –8. Ross also
suffered a decline in its ROA, but with its fewer stores and less inventory, the decline
went from a low value of 0.05 to a slightly lower value of 0.02, which meant its ROA
stayed positive, even if just by a little.11 Overall, though, the design and financial
strategy adopted by off-price retailers seems uniquely effective in contemporary times.
They give shoppers a brief respite from sheltering at home, a fun atmosphere in which to
hunt for bargains, and access to appealing products for not much money.
When assessing the financial performance of a firm, most people focus on profits:
What were the retailer’s profits or profit as a percentage of sales last year, and what will
they be this year and into the future? But the appropriate financial performance measure
is not profits but return on assets. Return on assets (ROA) is the profit generated by the
assets possessed by the firm. A retailer might set a financial objective of making a profit
of at least $1 million a year, but the retailer really must consider the assets it needs to
employ to make the desired $1 million. The retailer would be delighted if it made $1
million and needed only $5 million in assets (a 20 percent ROA) but would be
disappointed if it had to use $40 million in assets to make a $1 million profit (a 2.5
percent ROA).
Societal objectives are related to broader issues that make the world a better place
to live. For example, retailers might be concerned about providing employment
opportunities for people in a particular area or for underrepresented populations or for
people with disabilities. Other societal objectives might include offering people unique
merchandise, such as environmentally friendly products; providing an innovative service
to improve personal health, such as weight reduction programs; or sponsoring community
events. Compared with financial objectives, societal performance objectives are more
difficult to measure. But explicit societal goals can be set, such as specific reductions in
energy usage and excess packaging, increased use of renewable resources, and support
for nonprofit organizations such as United Way and Habitat for Humanity.
Many retailers, particularly owners of small, independent businesses, have
important personal objectives, including self-gratification, status, and respect. For
example, the owner-operator of a bookstore may find it rewarding to interact with others
who like reading and authors who visit the store for book-signing promotions. By
operating a popular store, a retailer might become recognized as a well-respected
business leader in the community. While societal and personal objectives are important to
some retailers, all retailers need to be concerned about financial objectives or they will
fail. Therefore, the remaining sections of this chapter focus on financial objectives and
the factors affecting a retailer’s ability to achieve financial goals.
F. Strategic Profit Model
The strategic profit model (SPM), illustrated in Exhibit 7–1, is a method for
summarizing the factors that affect a firm’s financial performance, as measured by ROA.
Return on assets is an important performance measure for a firm and its stockholders
because it measures the profits that a firm makes relative to the assets it possesses. Two
retailers that each generate profits of $1 million on $20 million in net sales, at first
glance, might look like they have comparable performance. But the performance of the
retailers looks quite different if one has $10 million in assets and the other has $25
million. The performance of the first would be higher because it needs fewer assets to
earn its profit than does the other. Thus, a retailer cannot concern itself only with making
a profit. It must make a profit efficiently by balancing both profit and the assets needed to
make the profit. The net profit margin (in %) refers to how much profit (after taxes,
interest income, and extraordinary gains and losses) a firm makes divided by its net sales.
Thus, it reflects the profits generated from each dollar of sales. If a retailer’s net profit
margin percentage is 5 percent, it generates income of $0.05 for every dollar of
merchandise or services it sells.
These two components of the strategic profit model illustrate that ROA is
determined by two sets of activities—profit margin management and asset turnover
management— and that a high ROA can be achieved by various combinations of net
profit margin percentages and asset turnover levels. To illustrate the different approaches
for achieving a high ROA, consider the financial performance of two very different
hypothetical retailers, as shown in Exhibit 7–2. La Chatelaine Bakery has a net profit
margin percentage of only 1 percent and an asset turnover of 10, resulting in an ROA of
10 percent. Its net profit margin percentage is low because it is in a highly competitive
market with little opportunity to differentiate its offering. Consumers can buy basically
the same baked goods from a wide variety of retailers, as well as from the other bakeries
in the area. However, its asset turnover is relatively high because the firm has a very low
level of inventory assets—it sells everything the same day it is baked.
The information used to examine the profit margin management path comes from
the retailer’s income statement, also called the statement of operations or profit and loss
(P&L) statement. The income statement summarizes a firm’s financial performance over
a period of time, typically a quarter (three months) or year. Exhibit 7–3 shows income
statements adapted from the annual reports of Walmart and Target Inc.
The components in the profit margin management path are net sales, cost of goods
sold (COGS), gross margin, operating expenses, interest and taxes, and net profit margin.
These factors have some unique characteristics when a retailer uses multiple channels to
sell its goods, as Retailing View 7.2 explains. Net sales are the total revenues received by
a retailer that are related to selling merchandise during a given time period minus returns,
discounts, and credits for damaged merchandise. The cost of goods sold (COGS) is the
amount a retailer pays to vendors for the merchandise the retailer sells plus transportation
costs. Gross margin, also called gross profit, is the net sales minus the cost of the goods
sold. It is an important measure in retailing because it indicates how much profit the
retailer is making on merchandise sold, without considering the expenses associated with
operating the store and corporate overhead expenses.
Some retailers have additional revenue sources related to merchandise sales, such
as payments from vendors. For example, grocery retailers often charge vendors for space
in their stores, known as a slotting fee or slotting allowance. Retailers may also require
that vendors pay a chargeback fee if merchandise bought from the vendor does not meet
all the terms of the purchase agreement, such as if the delivery is late. Such payments
from vendors are typically incorporated into the income statement as a reduction in the
COGS.
Operating expenses, also called selling, general, and administrative (SG&A)
expenses, are the overhead costs associated with normal business operations, such as
salaries for sales associates and managers, advertising, utilities, office supplies,
depreciation, amortization, transportation from the retailer’s warehouses to its stores, and
rent. Operating profit margin is the gross margin minus the operating expenses. In
retailing management decisions, we usually focus on the operating profit margin because
it reflects the performance of retailers’ fundamental operations, not the financial
decisions retailers make with regard to nonoperating income/expense, interest, and taxes.
Even though Walmart has almost 7 times the sales of Target, Target has a higher
gross margin percentage. This difference in gross margin percentage can be traced back
to the retail strategies of the companies. Higher-end discount stores like Target generally
have higher gross margin percentages than discount stores like Walmart with an everyday
low pricing (EDLP) model, because they target less price-sensitive customers who are
interested in branded fashion merchandise. That is, customers are willing to pay a little
more for a dress or appliance branded by a well-known designer that they can get only at
Target, but they expect very competitive and low prices for a six-pack of plain white T-
shirts or a pound of Great Value coffee at Walmart.
Assets are economic resources (e.g., inventory, buildings, computers, store
fixtures) owned or controlled by a firm. There are two types of assets, current and
noncurrent. We examine examples of these assets and how they play into the financial
pictures of Target and Walmart. Current Assets that can normally be converted to cash
within one year are considered current assets. For retailers, current assets are primarily
cash, merchandise inventory, and other current assets such as accounts receivable. Cash
and cash equivalents include currency, checks, short-term bank accounts, and
investments that mature within three months or less.
Merchandise inventory is a retailer’s lifeblood; the primary reason the retailer
exists is to sell its merchandise inventory. Getting the right merchandise in the right
quantities at the right time and place is critical. Stocking more merchandise enhances
sales because it increases the chances that customers will find something they want. But
it also increases the investments that retailers must make in this asset. Such
considerations even can have ethical implications, as Retailing View 7.3 describes in
relation to the inventory demands of retailers that adopt multilevel marketing models.
Inventory turnover, which measures how effectively retailers utilize their investment in
inventory, is another important ratio for assessing retail performance. Inventory turnover
shows how many times, on average, inventory cycles through the store during a specific
period of time (usually a year).
Asset turnover, or net sales divided by total assets, provides a relevant measure of
the performance of the asset management component in the strategic profit model.
Walmart’s asset turnover is about 20 percent greater than that achieved by Target. This
difference is due to Walmart’s higher inventory turnover. In terms of the profit margin
management path, Target has a higher operating profit margin percentage and thus
performs better than Walmart on profits. But Walmart has a higher asset turnover.
Although these performance outcomes should be expected, considering the two retailers’
overall strategy and retail formats, both of them also strive to increase their performance
on the key ratios. The two retailers’ overall performance, measured by ROA, can be
determined by considering the effects of both paths—that is, by multiplying the net profit
margin by asset turnover.
The profit margin management and asset turnover management paths in the
strategic profit model suggest different approaches for improving financial performance.
Focusing on the profit margin management path, the operating profit margin could be
increased by increasing sales or reducing COGS or operating expenses. Best Buy has
sought to increase its sales by adding a lending arm to its operations, as Retailing View
7.4 explains. As another example, Walmart could increase its sales by increasing
promotions to attract more customers. The increase in sales would have a positive effect
on Walmart’s operating profit margin percentage and its ROA, as long as the increase in
promotional expenses generates more gross margin dollars than the costs. In addition, the
increase in sales increases Walmart’s asset turnover, because sales increase but assets
remain the same. The net effect would be a positive impact on ROA.
The strategic profit model illustrates two important issues. First, retailers and
investors should consider both operating and net profit margin and asset turnover when
evaluating their financial performance. Firms can achieve high performance (high ROA)
by effectively managing both profit margin and asset turnover. Second, retailers need to
consider the implications of their strategic decisions on both components of the strategic
profit model. For example, increasing prices might increase the gross margin and
operating profit margin in the profit margin management path. However, increasing
prices could also result in fewer sales, with negative impacts on both total gross margin
and net operating profit margin dollars. At the same time, assuming the level of assets
stays the same, asset turnover will decrease. Thus, a simple change in one strategic
variable, such as pricing, has multiple repercussions on the strategic profit model, all of
which need to be considered when determining the impact on ROA.
G. Evaluating Growth Opportunities
To illustrate the use of the strategic profit model for evaluating a growth
opportunity, let’s look at the opportunity that Kelly Bradford, from Chapter 6, is
considering. Recall that Kelly owns Gifts To Go, a two-store chain in the Chicago area.
She’s considering several growth options, one of which is to open an Internet channel
called www.GiftsTo-Go.com. She has determined that the market size for this channel is
large but very competitive. Now she needs to conduct a financial analysis for the
proposed online channel, compare the projections with Gifts To Go stores, and determine
the financial performance of the combined businesses. We’ll first look at the profit
margin management path, followed by the asset turnover management path. Exhibit 7–7
shows income statement information for Kelly’s Gifts To Go stores and her estimates for
Gifts-To-Go. com and the combined businesses.
Kelly Bradford thinks she can develop Gifts-To-Go.com into a business that will
generate annual sales of $440,000. She anticipates some cannibalization of her store sales
by the Internet channel; some customers who would have bought merchandise at Gifts To
Go will no longer go into her stores to make their purchases. She also thinks the Internet
channel will stimulate some store sales; customers who see gift items on her website will
visit the stores and make their purchases there. Thus, she decides to perform the analysis
with the assumption that her store sales will remain the same after the introduction of the
Internet channel.
Kelly plans to charge the same prices and sell basically the same merchandise,
with an extended assortment, on Gifts-To-Go.com as in her stores. Thus, she expects the
gross margin percentage for store sales will be the same as the gross margin percentage
for Gifts-To-Go.com sales. Initially, Kelly thought that her operating expenses as a
percentage of sales would be lower for Gifts-To-Go.com because she would not need to
pay rent or have highly trained salespeople. But she discovered that her operating
expenses as a percentage of sales will be only slightly lower for Gifts-To-Go.com
because she needs to hire a firm to maintain the website, process orders, and get orders
ready for shipment. Also, Gifts To Go stores have an established clientele and highly
trafficked locations with good visibility. Although some of her current customers will
learn about the website from her in-store promotions, Kelly will have to invest in
advertising and promotions to create awareness for her new channel and inform people
who are unfamiliar with her stores. Because the gross margin and operating expenses as a
percentage of sales for the two operations are projected to be about the same, Gifts-
ToGo.com is expected to generate a slightly higher operating profit margin percentage.
Another investment that Kelly might consider is installing a computerized
inventory control system that would help her make better decisions about which
merchandise to order, when to reorder merchandise, and when to lower prices on
merchandise that is not being bought. If she buys the system, her sales will increase
because she will have a greater percentage of merchandise that is selling well and fewer
stockouts. Her gross margin percentage will also increase because she won’t have to
mark down as much slow-selling merchandise.
Looking at the asset turnover management path, the purchase of the computer
system will increase her fixed assets by the amount of the system, but her inventory
turnover will increase and the level of inventory assets will decrease because she is able
to buy more efficiently. Thus, her asset turnover will probably increase because sales will
increase at a greater percentage than will total assets. Total assets may actually decrease
if the additional cost of the inventory system is less than the reduction in inventory.
H. Setting and Measuring Performance Objectives
In the previous sections, we discussed the measures used to evaluate the overall
financial performance of a retailer, including ROA and its components. In this section,
we review some measures used to assess the performance of specific assets possessed by
a retailer—its employees, real estate, and merchandise inventory. Retailers use these
measures to evaluate their firm’s performance and set objectives. Setting performance
objectives is a necessary component of any firm’s strategic management process.
Performance objectives should include (1) a numerical index of the performance desired
against which progress may be measured, (2) a time frame within which the objective is
to be achieved, and (3) the resources needed to achieve the objective. For example,
“earning reasonable profits” isn’t a good objective. It doesn’t provide specific goals that
can be used to evaluate performance. What’s reasonable? When do you want to realize
the profits? A better objective would be “earning $100,000 in profit during calendar year
2022 on a $500,000 investment in store displays, computer equipment, and inventory.”
Setting objectives in large retail organizations entails a combination of the top-
down and bottom-up approaches to planning. Top-down planning means that goals get
set at the top of the organization and are passed down to the lower operating levels. In a
retailing organization, top-down planning involves corporate officers developing an
overall retail strategy and assessing broad economic, competitive, and consumer trends.
With this information, they develop performance objectives for the corporation. These
overall objectives are then broken down into specific objectives for each buyer and
merchandise category and for each region, store, and even department within stores and
the sales associates working in those departments.
This top-down planning is complemented by a bottom-up planning approach.
Bottom-up planning involves lower levels in the company developing performance
objectives that are aggregated up to develop overall company objectives. Buyers and
store managers estimate what they can achieve, and their estimates are transmitted up the
organization to the corporate executives. Frequently there are disagreements between the
goals that have trickled down from the top and those set by lower-level employees of the
organization, which are resolved through negotiations. For example, a store manager may
not be able to achieve the 10 percent sales growth set for his or her region because a
major employer in the area has announced plans to lay off 2,000 employees. If the
operating managers aren’t involved in the objective-setting process, they won’t accept the
objectives and thus will be less motivated to achieve them.
At each level of the retail organization, the business unit and its manager should
be held accountable only for the revenues, expenses, cash flow, and contribution to ROA
that they can control. Thus, expenses that affect several levels of the organization (e.g.,
labor and capital expenses associated with operating a corporate headquarters) shouldn’t
be arbitrarily assigned to lower levels. In the case of a store, for example, it may be
appropriate to set performance objectives based on sales, sales associate productivity,
store inventory shrinkage due to employee theft and shoplifting, and energy costs. If the
buyer makes poor decisions and has to lower prices to get rid of merchandise and
therefore profits suffer, it is not fair to assess a store manager’s performance on the basis
of the resulting decline in store profit.
Many factors contribute to a retailer’s overall performance, and this makes it hard
to find a single measure to evaluate performance. For instance, sales are a global measure
of a retail store’s activity level. However, as illustrated by the strategic profit model, a
store manager could easily increase sales by lowering prices, but the profit realized on
that merchandise (gross margin) would suffer as a result. An attempt to maximize one
measure may lower another. Managers must therefore understand how their actions affect
multiple performance measures. The measures used to evaluate retail operations vary
depending on (1) the level of the organization at which the decision is made and (2) the
resources the manager controls. For example, the principal resources controlled by store
managers are space and money for operating expenses (such as wages for sales associates
and utility payments to light and heat the store). Thus, store managers focus on
performance measures like sales per square foot, employee costs, and energy costs as
percentages of sales.
Output measures assess the results of a retailer’s investment decisions. For
example, sales revenue, gross margin, and net profit margin are all output measures and
ways to evaluate a retailer’s input or resource allocation decisions. A productivity
measure (the ratio of an output to an input) determines how effectively retailers use their
resources—what return they get on their investments in inputs. Input measures are the
resources or money allocated by a retailer to achieve outputs, or results. For example, the
amount and selection of merchandise inventory, the number of stores, the size of the
stores, the employees, advertising, markdowns, store hours, and promotions all require
managerial decisions about inputs.
At a corporate level, retail executives have three critical resources (inputs)—
merchandise inventory, store space, and employees—that they can manage to generate
sales and profits (outputs). Thus, effective productivity measures of the utilization of
these assets include asset and inventory turnover, sales per square foot of selling space,
and sales per employee. As we have discussed, ROA is an overall productivity measure
combining the operating profit margin percentage and asset turnover. Another commonly
used measure of overall performance is comparable-store sales growth (also called same-
store sales growth), which compares sales growth in stores that have been open for at
least one year. Growth in sales can result from increasing the sales generated per store or
by increasing the number of stores. Growth in comparable-store sales assesses the first
component in sales growth and thus indicates how well the retailer is doing with its core
business concept. New stores do not represent growth from last year’s sales but rather
new sales created where no other sales existed the year before. Thus, a decrease in
comparable-store sales indicates that the retailer’s fundamental business approach is not
being well received by its customers, even if overall sales are growing because the
retailer is opening more new stores.
The critical resource (input) controlled by merchandise managers is merchandise
inventory. Merchandise managers also have the authority to set initial prices and lower
prices when merchandise is not selling (i.e., take a markdown). Finally, they negotiate
with vendors over the price paid for merchandise. ventory turnover is a productivity
measure of the management of inventory; higher turnover means greater inventory
management productivity. Gross margin percentage indicates the performance of
merchandise managers in negotiating with vendors and buying merchandise that can
generate a profit. Discounts (markdowns) as a percentage of sales are also a measure of
the quality of the merchandise buying decisions. If merchandise managers have a high
percentage of markdowns, they may not be buying the right merchandise or the right
quantities, because they weren’t able to sell some of it at its original retail price. Note that
gross margin and discount percentages are productivity measures, but they are typically
expressed as an input divided by an output, as opposed to typical productivity measures
that use outputs divided by inputs.
As we have discussed, the financial measures used to assess performance reflect
the retailer’s market strategy. For example, because Walmart has a different business
strategy than Target, it earns a lower profit margin percentage. But it earns a comparable
ROA because its inventory and asset turnovers are higher than those of Target. In
contrast, Target’s higher-priced merchandise assortment results in a higher operating
profit margin percentage and net profit margin percentage. Overall, its ROA thus is
higher than Walmart’s. In other words, the performance of a retailer cannot be assessed
accurately simply by looking at isolated measures, because they are affected by the
retailer’s strategy. To get a better assessment of a retailer’s performance, we need to
compare it against a benchmark. Two commonly used benchmarks are (1) the
performance of the retailer over time and (2) the performance of the retailer compared
with that of its competitors.
To assess performance over time, the retailer would compare its own recent
performance with its performance in preceding months, quarters, or years. Then it needs
to determine the reasons for any differences. For example, if ROA increases, is that
because the retailer improved its asset turnover or its operating profit percentage? And, if
there was a change, why did it occur? To benchmark performance against competitors,
the retailer could consider how direct competitors for its customers have performed. That
is, Walmart would not benchmark against Nordstrom because they are not direct
competitors. Instead, it would likely consider how well Target performed recently.
