U.S. distribution companies, which account for about 30% of total industry profits, run the risk of being acquired by larger entities or directly disappearing.
Bain & Company’s ‘The Future of Retail: Winning Models for a New Era’ study alerts the industry to the need to address specific deficiencies in scale, innovation and data-driven consumer insight.
The report recalls that the rules of retailing have changed, as traditionally success was reduced to being larger than competition, so that leading companies used to enjoy higher profit margins than the rest. However, in the age of digitisation, local leadership is only part of the formula for success.
The document identifies seven business models in the retail sector: ecosystem operators, scale warriors, value champions, hitchhikers, regional gems, lagging heirs and unsustainable innovators, the top five being the winning structures within the market.
Amazon embodies the characteristic role of ‘ecosystem operators’, i.e. entities that build one-stop shops for consumers: places to browse, shop, read, chat, play and more. Their ecosystems also offer integrated solutions to other providers, providing access to both customers and logistics services, advertising, analysis and payments.
If companies cannot become ecosystem operators (and few can), today’s large retailers aspire to be ‘scale warriors’. Those who follow this model have access to absolute scale, as well as a relatively leading market share at the local level. This category includes firms such as Carrefour, Tesco or Ahold Delhaize.
Scale warriors have the potential to grow even more in the future through organic growth as well as mergers and acquisitions. However, size is not its only defining characteristic. They also move fast despite their mass and are skilled in innovation.
Low cost insurance and proximity
The ‘value champions’ is another model that should have a secure future. They are low-cost chains that specialise in passing on savings to their customers. But low prices are not enough. The real value of operators such as Aldi, Lidl, Costco or Primark is to be able to offer a sufficiently good experience, as the study indicates.
Value champions will grow, largely through the opening of new stores, although in mature markets, they will need to manage the risk of eroding profitability through over-expansion and be wary of price wars in comparable references. To prosper in the future, they will need to expand distribution points in markets with lower penetration, reducing their supply costs and innovating to make their product range and value more attractive.
Hitchhikers, on the other hand, are a relatively small group of retailers who have distinctive capabilities in areas such as product design and development. However, they lack the absolute scale currently required to keep up with the pace of essential investments in logistics, IT systems, advanced analysis and other capabilities.
To solve this strategic challenge, they borrow scale by partnering with other companies, effectively hitchhiking with them. Examples of this group are Levi Strauss & Co. and Adidas, which sell directly through Amazon.com, as well as smaller retailers that allow users to buy with popular applications such as WeChat or Alipay. However, there are other options, such as shop-in-shop experiments, such as Darty (inside Carrefour hypermarkets).
Like hitchhikers, ‘regional gems’ also lack the full scale, increasingly vital in the industry. However, their strong local leadership position has given them an advantage in the past and may continue to give some of them a defensible niche.
Regional gems often have deep connections with customers and a variety in tune with local needs. They gain competitive advantages through their knowledge of employees, local advertising and acceptance of community causes.
However, all these advantages are threatened by online operators, who offer a much wider assortment. The best defense for regional gems may be to invest even more in frontline staff and digital tools.
And what about retailers that don’t fit any of these five winning models? These companies will face a difficult challenge to meet the strategic demands of the future and can be classified into two groups: The lagging heirs and the unsustainable innovators. The first are those companies that were once powerful, but fell into disgrace and are now struggling to adapt to market changes.
The study recalls that it is difficult for these retailers to increase revenues and profits. They can still achieve their short-term profit targets, but are often forced to close stores, sell real estate and aggressively reduce costs.
Executives of lagging heirs tend to focus on business operations, rather than innovate. They don’t invest in data analysis because they know their teams don’t have the expertise to exploit it. Some of these victims are Sears, Toys ‘R’ Us, RadioShack and Debenhams.
The companies in the group of inherited stragglers may not survive the next ten years. Some, however, still have the opportunity to find a way to more viable models. They can achieve this by increasing scale through mergers and acquisitions or by allying with a larger rival.
The other group of retailers under threat is ‘exciting but unsustainable innovative’ companies. They stand out as pioneers, often with digital technology. However, easy access to capital can mask the fact that they are subscale and lack an adequate profit engine to support their ongoing investments.
Many of the companies in this group will be acquired before they can achieve sustained profitability. Some have already been bought, such as Jet.com, acquired by Walmart in 2016, or Chewy, the online pet product retailer bought by PetSmart in 2017.
“The threats to the industry are diverse, but we believe retailers are still in time for an approach that brings them closer to success,” says Marc-Andre Kamel, head of retail at Bain & Company. “Similarly, those who are already in a strong position will have to move even faster to maintain their competitive advantage,” he adds.