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Retail therapy: Making strategic relationships work

Book cover

by Rob Jones with Dan Murphy, Palgrave Macmillan, 2003.

Abstract

Designing a successful retail business depends on relationships with four groups of people: customers, employees, suppliers and shareholders. This book shows how to redesign those relationships for the business conditions of the new century. In each case, it is about bringing the human element back into strategy to increase its objectivity and extend its reach.

(Reviwed by Kevin Barham in September 2005)

(These book reviews offer a commentary on some aspects of the contribution the authors are making to management thinking. Neither Ashridge nor the reviewers necessarily agree with the authors’ views and the authors of the books are not responsible for any errors that may have crept in.

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Designing a successful retail business depends on relationships with four groups of people: customers, employees, suppliers and shareholders. This book shows how to redesign those relationships for the business conditions of the new century. It asks questions about where retail has "got stuck" and how it might free itself. In each case, it involves bringing the human element back into strategy to increase its objectivity and extend its reach.

The authors, both retail consultants, argue that retailers have traditionally focused on their internal processes, operations and systems in order to improve performance. As a result, they have failed to respond to global changes and customer requirements. In recent years retailers everywhere have been prone to the same problems. Fifteen years ago, consumer markets were relatively well-ordered, demand was relatively stable and predictable. Retailers knew they could order products on reasonably long lead times and when the goods arrived in the stores the customers would buy them. Taking advantage of this stability, retailers built massive economies of scale into their "upstream" operations (i.e. from supplier to retailer), opting for large order quantities, long planning lead times and sophisticated supply chain management systems which managed the planning and ordering of product ranges. As long as the consumer market remained relatively stable, these economies of scale delivered some great results for retailers in the 1980s and early 90s.

However, in the early 90s global consumer markets began to change. Consumers started to become less predictable, fussier and less loyal, and shopping trends became increasingly unstable. Previously popular ranges stopped selling, competition from niche retailers increased, and the big multiples suffered from large overstocks and the margin erosion forced on them by the need to mark down unsold stock. With exposure to culturally diverse influences, customers' expectation of choice exploded, putting pressure on retailers to provide more diversity in their range assortments. The explosion of consumer power was combined with and reinforced by the growth of communication technology, mobile phones, email and the web.

Unfortunately, multiple retailers were in the middle of a massive and hugely expensive implementation of integrated resource planning systems designed to maximise the economies of scale underpinning their efficiency and profitability. The growth in consumer unpredictability clashed with the inflexibility of upstream streamlining in systems and processes. It has been this fundamental disconnect between the two halves of the system, say the authors, that has been at the root of most multiple retailers' problems over the last decade or so.

Relationships with customers have also been changing from "transactional" (merely selling and buying) to value added – where retailers have to start considering the problems and needs of the customer and how these can be resolved. Building successful relationships with customers means opening up and responding to the consumer market in an active way – in other words, becoming one with your market and environment. It means moving from a "reactive" state to a "responsive state" where our actions are not simply mechanical reactions to external events, but instead are involved and subjective responses which strengthen our sense of "being part of the system".

Organisation capabilities need to be designed with the customer, the employees, the suppliers and the shareholders in mind. These are the four "external" interfaces of a business which determine its success. Fixing the four key relationships and striking the right balance between them is the secret to retail design. Each relationship is a complex network of tensions and priorities which are highly dependent on emotions. Relationships should not be based on exploiting weakness; it is about establishing trust and co-operation and making life better for all parties concerned.

Customers and the true nature of the retail brand. Customers have a relationship with your brand and are emotionally involved with your stores. This (say the authors) goes back to the early days of human society. Humans went through a long period where they either figured out how to handle relationships and keep a social group together or they perished. They evolved various mental gadgets to help them, including 'modules' – pre-programmed templates that help people with social interaction. Brands tap into pre-existing modules concerned with co-operation.

Trust and co-operation are the keys to the tight-knit co-ordination and mutual reliance demanded for survival in a hostile environment. One of the mental modules handles "social accounting" whereby we subconsciously keep track of who contributes to the group and who lives off the group. Complicated social environments usually result from taking on tasks that require a lot of co-ordination. The more complicated our environment gets, the more important it is to be on the lookout for cheats.

Hunter-gather societies also trade between groups whenever practical as a way of reallocating resources so that everyone benefits. We keep track of trading relationships and we gossip about reputation. We assume that group leaders and representatives speak for their groups and treat their behaviour as a sample of what we can expect from their groups. It is in the nature of things that we focus on the negative – particularly in a society where honouring obligations is vital to survival. Mentally, we have a group level entity like our concept of a person. We automatically use this "group" concept to store all sorts of information about a community – trustworthiness and previous dealings, etc.

Retail brands take our ability to profile a group of people and apply it to a business, specifically to the people who deal with customers. Retail brands are based on the same mental schemes as the community relations of old. They work by engaging the social accounting module. The goal is to have the customer treat the company as though it were a community or neighbouring group with which there is a trading relationship. We have to persuade customers to open a mental account for our business, to make our business the "community" they most like to visit when they want something.

Consistency is important because the company is trying to slot neatly into the mental space available for a single group with a single leader. Somehow, a disparate group of employees at a myriad of locations must appear to be members of a single retail tribe. Once the company has passed inspection as a single group, the social accounting module opens a mental account for the business in the customer's mind. Strong branding and consistency encourage customers to maintain a mental group profile for a retailer, complete with personality and appearance.

Brands use the mental machinery we evolved for dealing with representatives and groups. Once customers have set up a mental account for a brand they become involved with and more receptive to that brand. When we acknowledge a relationship, we automatically track how it's going. We pay attention to a brand's marketing message because we are figuring out how we feel about the people behind it. We are constantly judging the relationship – and judging it according to an ancient set of rules.

This has special implications for the staff in the stores. They have to see themselves as representatives of the brand and this means undertaking "emotional labour" – acting with the intention of creating particular emotional feelings in clients. This is the vital ingredient which is missing from many customer/staff interactions.

Being a representative means putting your feelings aside, playing a role and maintaining the "illusion" that there is a relationship going on – because from the customer's side of things there is. It is imperative that staff do not push in the opposite direction by stressing their individuality, autonomy and independence from the brand. Explain to sales staff that they are there purely as representatives of the brand. They are playing a role; any emotions they display, any apologies they make, are on behalf of the brand.

Representatives are at the heart of the brand. With careful handling a customer who is passionately unhappy can be turned into a customer who is passionately loyal. It all depends on what happens when the customer raises the problem and whether the representative behaves in an emotionally appropriate way. By training staff and setting up processes in support of the brand relationship, retailers have a huge opportunity.

Relationships with employees. There is a similar emotional infrastructure that lies beneath employees' connection to their jobs. As a species we evolved and adapted to life as members of working communities in hunter-gatherer societies. The evolutionary imprint of those times has left us with an instinctive need to belong, to trade our efforts for rewards, to pursue status within our group and to build relationships. Although we don't know everybody if we work in a large organisation, we are prepared to make a conceptual leap and include the whole firm in that emotional bond.

Work taps into something more fundamental and innately human than just salaried employment. The employee thinks of the company as a single entity just as the customer does. We treat the members of the group as representatives – in the case of the company, these are our managers. Just as customers treat all the interactions and experiences they have in your stores as though they were all part of a single relationship with the brand, employees do something similar on the inside of the business – they act as though there is an internal version of the company brand with which they have a bond.

Our ancestral programming in communities based on mutual dependence and teamwork has left a dormant repertoire of group-level instincts and sentiments that today lack a focus. There is a whole layer of relationships we are capable of for which we have no outlet. Our group-level mental machinery is only partly successful in substituting the workplace for the ancestral community because it is only a partial match to the original structure.

Sense of community is something that we are programmed by evolution to have strong feelings about. It means that companies have the potential to inspire one of the strongest motivating emotions humans are capable of – i.e. team spirit. This is an innate part of us and something that will develop automatically under the right conditions if companies manage the relationship properly.

The important thing is for managers to recognise their role as local spokesperson for the brand. Because managers don't realise they are spokespeople, they continually say or do the wrong thing. They have to learn to perform "emotional labour" in the same way store staff do. A manager needs to set aside his own point of view and say: "What would the brand representative do?" Consistency in the way we treat employees is the key. If our relationship with our companies was managed in harmony with our subconscious expectations we might all experience job satisfaction and high motivation.

Relationships with suppliers. The authors argue that current relations with suppliers do not offer a path to sustainable profit growth. Margin pressure and rising targets have forced buyers to look for quick and easy margin fixes by pressuring suppliers through adversarial negotiating to encourage them to offer rebates and deals. Concessions and rebates, however, focus attention away from the customer and onto supplier deals. They are short-termist and addictive. What we need is not a "tough-guy" approach aimed at providing "quick wins", but a more collaborative approach based characterised by openness and information sharing that will have a bigger payback in the longer term. This is based on the notion of the "collaborative dividend".

The authors suggest that, if a manufacturer possessed accurate demand forecasts they could plan their production so that it always remained within their efficiency zone. They could eliminate a lot of buffer stocks, lower their costs and free up capital. This financial improvement would constitute the "collaborative dividend". In exchange for providing this information, the retailer would receive a share of the dividend. Better forecasting would help the supplier anticipate orders, shortening lead times and increasing reliability. Retailers could lower buffer stocks while at the same time increasing their stock availability.

For it to work, the collaborative dividend would need to be sizeable. The authors ask those who might be sceptical of the idea to imagine a retailer placing orders without knowing their own stock or sales position. How efficient would their stock management be? What sort of improvement might be expected if you then provided the missing data? This sort of information can significantly lower costs and suppliers are in a similar position.

At the moment, the very act of demanding that the supplier cut its prices drives the supplier's costs up because the associated information "blackout" prevents good forecasting. Profits could actually increase with the right information flows and those profits could then be available for equitable distribution. The forecasts of demand have to be useful to the supplier, the retailer has to be prepared to stand by them and the supplier has to believe them. If retailers have to commit to those forecasts and tie themselves into order commitments, their accuracy suddenly becomes paramount.

A retailer will only give up a strong negotiating position and tie themselves into order commitments if it is in their best interests. It would help them to see it that way if, instead of penalising the retailer for deviating from their forecasts, we thought of it as rewarding them for conforming to forecasts. Suppliers could use a retailer's forecasts to ensure stock was available when the retailer needs it. This also allows the manufacturer to plan their manufacturing for peak efficiency. The lowest cost scenario is when the retailer's orders exactly match their forecast. So why shouldn't that coincide with the cheapest prices? If the retailer deviates from the forecast, the supplier's costs go up, so why shouldn't their prices go up? If the retailer helps the supplier lower their costs, they share the benefit.

One problem is that the trust has to run both ways. Not only does the supplier have to trust the retailer's forecasts, the retailer has to trust the supplier's sharing of profits. Why not therefore break the ultimate rule in supplier negotiations and publish your real prices? If more suppliers let the world know what their deals were and refused to offer all the "back-door" concessions and payments, the retailer wouldn't need to rely on trust. Competition and the free market would keep everyone on their toes. The best supplier prices would be on offer to retailers who make the suppliers' lives easier through collaboration. As it is up to the retailer to pick a supplier to collaborate with, the retailer can still shop around. It wouldn't matter that retailers can't force the price down, because in a free market competition takes care of price control.

As the authors acknowledge, a lot of work and a big change in attitudes is required for any of this to happen.

Finance – relationships with shareholders. Retail businesses, say the authors, should be run using a shareholder-oriented definition of success to benefit both retailer and shareholder alike. Value-based management links operational activities to a strategic measure of success, the Weighted Average Cost of Capital (WACC). Companies create value for shareholders by earning a return on the invested capital that is higher than the cost of that capital. WACC is an expression of that cost and is used to assess whether proposed investments, strategies, projects or purchases are worthwhile to undertake. Failure to achieve that rate effectively costs your investors money. Anything that a company can do that has a higher return than the WACC is adding value.

The WACC is the key to shareholder value. Only projects that will beat the WACC should be approved. Value creation – "value added" – becomes the top level Key Performance Indicator for the business, a single gauge that tells you how well the company is running. Any operational lever you can pull to make the needle rise more rapidly is in the best interests of the business. In effect, you treat your business as if it was one big capital project.

Directors often say that shareholders are short-termist and too sensitive to small pieces of bad news. The authors say that it is not long-term investment that shareholders penalise, it is bad investment. While companies are often uncomfortable sharing lots of detail with outsiders, the less people hear the more nervous they become. The way to prevent volatile market reactions is not to get better at "spinning" the news, but to be more open. Value-based management can improve relations with shareholders – they hear that their best interests are the yardstick for every decision in the company and they are kept informed about progress. The more informed shareholders are, the more readily they will understand the context of any problems and the less unnerved they are likely to be by setbacks.

We also need to link every employee with the strategy by providing all job roles with aligned Key Performance Indicators (KPIs). This gives each employee a "commercial view", an understanding of how their actions fit into the big picture.

Currently, the value stored in relationships is invisible. Markets can lose faith in these invisible investments. Making the value visible and learning to manage it will bring enormous benefits – including a healthy relationship with investors. The best way is to acknowledge the intangible investments in relationships, to explain them and to develop a consistent approach to managing them. The first step is to understand where the intangibles reside – in the minds of customers. An important aspect of managing obligations is to make sure both sides acknowledge each transaction. In the case of customers, it means making sure that when you do something extra for them, they notice.

There is a lot more to this book than is possible to mention in a summary. The authors admit that much of what they describe is an "idealised future", but say that if their ideas were implemented, they could create a retail organisation that continually adapts to its environment, improves its own efficiency and makes itself much easier to manage.

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