retail – Thomas the Think Engine

The six stages of Costco

This story originally appeared over at The New Daily (a news site you ought to check out). They’ve agreed for me to host it here too.

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CostCo has been running in Australia for six years now, but the big American retailer just opened its first stores in Brisbane and Adelaide in the last 12 months.

Shopping at Costco is a rollercoaster ride. Here, for the uninitiated, are the Six Stages of Costco.

1. Fearing

In this stage, the shopper is bewildered by the membership-based discount warehouse concept.

Those in the fearing stage can be identified by the following class of statements:

Costco sounds weird. Is it just a supermarket? I can’t find a catalogue online.

It’s not near my house. How do I get there?

I hear it costs $60 to even be able to shop there! Who do they think they are?

Many will never leave this stage. Those that do will likely make the leap because of word-of-mouth. (Costco doesn’t advertise).

2. Learning

In the learning stage, the shopper’s fear and confusion is rapidly replaced with a sense of wonder.

The shopper begins to form an elementary map of their Costco store and assumes they will one day be able to navigate it confidently. (This assumption is false.)

The learner can be identified by the following kind of statements.

Look at the size of this place! Wow!

Things are so cheap here! I can get Veuve Clicquot around $50 a bottle!!

It’s mostly real brand name stuff – Nutella, Sony, Levis. It’s not like Aldi.

There’s even jewellery for sale … and you can buy holidays!

You can get a hot dog at the end for just $1.99. Delicious.

Coming to Costco is fun. It’s more like a theme park than a supermarket!

3. Loving

In the loving stage, the shopper’s very identity seems to merge with their membership of the discount warehouse.

You don’t need to ask to identify them as a Costco lover: they’ll tell you. You will be subjected to non-stop statements like these:

Did you know Costco works out 15-25 per cent cheaper than Coles or Woolworths on a per kilo basis?

Have you tried their beef? OMG. The quality is to die for.

Did you know the CEO of Costco pays himself just a third of what the Walmart CEO gets, while they treat their staff better than most other retailers?

You must come to Costco as my guest! I’d be delighted to take you!

The typical Costco lover is happily middle class. (Costco sells a lot of smoked salmon.) The Costco experience actually takes money to enjoy, given the fees, the need to go by car, and the need to spend hundreds per visit to harness the discounts.

Some people never leave this stage. They’re in retail nirvana. (Some of these people live near a Costco that does discount petrol and make their savings on fuel alone.) But there’s plenty of shopper with three more stages to go.

4. Realising.

In the realising stage, the Costco shopper learns thousand-dollar shopping trips can have a nasty hangover. You can spot the realiser by these mutterings:

Did I need to buy 1000 zip ties? And a kilogram of Hersheys kisses?

Why is there never any ******** space in my ******* fridge?!

Shame I couldn’t get through all those avocados before they went brown.

Yes, I can take you to Costco (again) to stock up on things for your party. Yes, taking a guest is one of the good things about the membership. No, I don’t mind.

Those cheap hotdogs are revolting.

The realiser has a few more unhappy moments coming.

If they darken the doors of the local Coles or especially Aldi, they may make the following realisation – not everything is cheaper at Costco. There are some non-perishable things Costco may be unbeatable for – pet food, or toiletries – but not everything.

5. Calculating

In the calculating stage, the shopper looks at some very long receipts with some big numbers on them. They try to quantify the opportunity costs that come with bargain hunting.

Here are some notes they may make on their spreadsheet.

If I save 20 per cent per $200 shop, but succumb to two $20 impulse buys I shouldn’t have, my savings are gone.

If I get a second freezer to freeze bulk meat, its going to cost me about $400 and then at least $100 a year in electricity. Hmm.

If I drive an extra 30 minutes to the Costco and back, and spend an extra 30 minutes shopping and waiting in line, I need to make sure the savings are worth 90 minutes of my time. So if I get paid $30 an hour, I need to save $45 per shop to break even. Plus petrol.

6. Quitting

The quitting stage is not spectacular. There’s no more excited chatter. The quitter quietly lets their membership slide.

Costco is growing and its stock price is double what it was five years ago, so the quitting stage doesn’t happen to everybody. But it happens to some.

For this group Costco is like an old friend you don’t see any more, and you wonder what you ever had in common. Maybe you are missing a screaming deal on a TV or some new tyres, but you know what, being a bargain hunter doesn’t seem like the most important thing in your life any more.

Maybe this is you, maybe it isn’t. But no matter what, before you quit, stock up on that cheap champagne!

Why is Aldi so cheap?

I like Aldi.

It can be very very cheap. Aldi is selling this yoghurt at $6.99 for 18 tubs.

At Woolworths it is $9.25 for 12 tubs. That’s 98 percent more expensive per tub.

Similarly Woolworths is selling lamb rack right now for $44.99/kg.

Aldi is selling it for $19.99/kg.

How can they do it?

Woolies and Coles are famously focused on the cost of goods, pushing their suppliers to sell more and more cheaply. While Aldi has less buying power, it obviously negotiates hard too.

But Aldi is famous because it is extremely tightly focused on costs inside its own business.

aldi method — These numbers made-up to serve as an illustration.

The savings at Aldi come from a lot of things – visible and invisible – they do to keep costs down.

THE CHEAP WAY

One of the most visible examples is making you pay for a trolley. To get one you must insert a gold coin, which is refunded when you return the trolley. That way Aldi doesn’t have to pay young people to hang out in the carparks retrieving scattered trolleys.

That’s just one example of how Aldi makes life a bit more difficult for customers, in order to keep prices down.

You may have also noticed that they make you pay for plastic bags. Aldi has been doing that since before the Greens political movement took off (coincidentally, also in Germany), simply because it saves money.

They have only 900 core products on offer. Every item a supermarket stocks costs them money in managing supplier relationships, in accounting, etc. The small selection means small stores, which means less rent.

Similarly, you may have noticed that Aldi doesn’t have an “8 items or less lane” at the checkout, saving on staff. They also make sure products have multiple barcodes or enormous barcodes, so the check-out person needn’t fumble and fuss to scan the item.

aldi rice crackers — baaaaaaaaaar coooooooooooooode

Aldi often employs only two or three staff at the entire store. The guy with the mop could easily be the assistant manager. (They pay those few staff very well however, with assistants getting $23.40 an hour, and assistant managers $76,000 to $84,000.) The stores are open less than 12 hours a day (8.30am to 8pm), however, so Aldi spends less on labour and lights, etc.

Those are just the things you probably already noticed. There are also less visible things Aldi does differently.

They forced pallet-maker CHEP to invent a “multi purpose beverage tray” that can go from the factory to the truck to the supermarket floor without being unpacked. It can store 1.25L bottles or 2L bottles.

You spend less on shelf stackers if you don’t need to stack shelves.

Aldi also operates on a Just-in-Time system. Storing inventory is a big cost for businesses. Having goods arrive right when the previous batch runs out means Aldi spends less on behind-the-scenes space, and has less money tied up in owning stock.

Aldi also makes sure cereal packets, etc, are full. The trend to sell half-empty packets to convince consumers they are getting a lot when they’re not is incompatible with Aldi’s hyper-efficient supply chain. [source]

One other invisible innovation is especially welcome…

Unlike the major companies’ incredibly annoying jingles, you probably don’t remember seeing an Aldi TV ad.

Only a handful have gone to air in Australia – even having TV ads is pretty radical for this company. In fact, the only public statement company owner Karl Albrecht ever made was this one, in 1953:

“Our advertisement is the cheap price.” [source]

BROTHERS GRIM?

Aldi has been around since Albrecht brothers Karl and Theo took over their father’s store in Essen, Germany, in 1946. The name stands for Albrecht Discount and the thirst for efficiency goes to the very heart of the business. The brothers were famously ruthless, according to this article in German newspaper Der Spiegel.

“High-ranking executives would dig old pencils out of their desk drawers whenever one of the brothers paid them a visit, just to avoid causing any suspicion that they were wasting office supplies.”

Aldi’s maniacal focus on prices has had spill-over effects in Australia. An investigation by the ACCC found that prices at Coles and Woolworths were lower when an Aldi store was nearby.

Sounds good! But Aldi’s effect has been more complex than that. The lower prices at Coles and Woolies have caused problems with suppliers. And the deluge of home-brands those big supermarkets now own can be traced back to Aldi’s entrance into the market.

This clip from the excellent Mad as Hell shows just how the home brand revolution is working out:

Aldi must bear some responsibility for that. But it never had real brands, so it can’t be found guilty directly.

Reports suggest Aldi treats suppliers better than the big two. Could it be that having stable, simple supplier relationships is more cost-effective? Unlike the big two supermarkets, Aldi refuses to charge suppliers for shelf space and boasts it has very simple terms with suppliers, unlike Coles and Woolies.

PROFIT MOTIVE

Aldi claims it wants “to suck the profitability out of the [supermarket] industry in favour of the consumer.”

That’s pretty radical for a business in the current era. Most businesses are ultimately about shareholder value, not consumer value. It is likely Aldi’s claim is marketing spin. Likely. But not certain. Aldi is not a publicly-owned business, and if it wants to pursue goals other than pure profit maximisation, it absolutely can. Giving up on profits would certainly help explain the low prices!

The brothers who founded Aldi were famous for being billionaires – the richest in Germany. Perhaps their views on the merits of such wealth changed after one was kidnapped and forced to pay a ransom in 1971? It seems unlikely given the drive with which Aldi has expanded across Europe, the USA and Australia. And with the passing of the last brother in 2014, Aldi is free from their direct influence.

If Aldi changes, or makes a mis-step, it need not be the end of German discount retailing in Australia.

Lidl is ready to open stores in this country. Lidl is even older than Aldi and has reportedly opened an office in Australia and registered its business name. In the UK it has proved even more popular than Aldi, with a business model very similar to the Aldi model.

Under the pressure of a bit of direct competition, Aldi might become even cheaper.

Shoppers like me will rejoice. But whether that is a good thing will continue to be debated. Can supermarkets be run with even fewer staff? Will rumours of widespread unpaid overtime intensify? Might Aldi be forced to tighten the screws on suppliers just as Coles and Woolies have? Is there a point where your yoghurt and lamb is too cheap? Or is that idea a middle-class affectation?

How H&M can happily set up shop while Myer weeps.

Swedish clothing brand H&M is opening a new store in Melbourne today. It’s the latest big global clothing retailer to show up here, following Zara and TopShop.

Japanese brand Uniqlo is also set to launch here soon. But why are they coming? The headlines have been full of bad news for all retailers.

Clothing retail looks especially terrible.

Growth has been stagnant for years. Why come to Australia?

The beginnings of our answer are overseas:

The value of clothing retailing fell in Canada last year by 0.6 per cent. The UK saw the same result.

People everywhere are spending far more on food than on clothing these days. And yet I don’t see people shuffling around in clothes that need repairing.

I had begun to suspect prices may have something to do with it, but the ABS inflation data for clothing was still a shock to me:

Despite a 10 per cent hike at the time of the introduction of the GST, the price of clothing has risen only 1 per cent since 1993!

I remember 1993. I was 12 years old. For the first time it was possible to buy a pair of Nikes that cost over $100. The last time I went and looked at Nike sneakers, the price range was roughly the same (and I picked up a pair from the factory outlet for $30). If they’d followed the inflation path of food and beverages, sports shoes would all be over $200 now. But they haven’t and they aren’t.

Why not? The answer is not on the demand side. It’s not that in two decades something fundamental has changed in the way humans wear clothes. It’s about the supply side.

And that’s what’s interesting about H&M. It owns stores that sell its own brand. It makes only very limited attempts to stock fancy Italian or American brands. A bit like its Swedish retail older sibling, Ikea, it is vertically integrated and tightly focused on cost.

I bought a terrific shirt at H&M’s Sapporo outlet 10 days ago, for ¥500 (A$5.50). Even on the discount rack that is an absurd bargain. Only after I got it back home did I think to look for this tag, and it was as I suspected.

There are moral issues when it comes to making clothes in Bangladesh. I don’t want the fact that this post doesn’t cover them to stand, in anyone’s mind, for the idea that they are unimportant.

The fact of the matter is that if you can control costs well enough, you can make big margins even as prices fall. That’s the difference between Myer and H&M. Cost control. Myer can’t do it so easily because while it has 66 stores, H&M has 2600. H&M can make or break people while Myer deals with suppliers that have options and won’t let their margins be crunched.

A quick look in the H&M annual report shows just how good those margins are. More than half of the average price tag is mark-up.

And that’s why H&M‘s share price is up about 20 per cent over 3 years, while Myer’s is down around 30 per cent.

MORE FACTS:

The H in H&M stands for Hennes (“for her”), the name of the original company that sold women’s clothing. The M stands for Mauritz Widforss, which was the name of a hunting apparel shop next door to the original Hennes, which H&M took over to develop a men’s line and become what it is today.

If you’re interested in knowing more about the business models of big clothing retailers, check out these very good Forbes profiles that highlight the differences between Uniqlo, Zara and H&M.

Why Bunnings prices are so damn clever.

Bunnings is more than a gigantic hardware store. Its canyon-esque aisles whisper to you of self-reliance and ruggedness, if not quite suggesting a log cabin of your own construction then at least the sort of Barbecue a man can be proud of.

Once you’re over about 26 it seems to slowly turn into a refuge, a bit like Thoreau and his woods.There’s always a sausage sizzle out the front on weekends and it has become an Australian institution.

Nevermind that it is based on an American big-box retailing model, or that it has only been a national chain since 1994, after it bought out McEwans hardware, closed most of the outlets, then sold itself to mega conglomerate Wesfarmers.

The reason there are now around 280 Bunnings nationwide is that the store is so good. We don’t begrudge the many hours spent lost in its chasms and nooks. It’s like that because it is cheapest. Right?

A tentative Google suggests, um, well, :

There are three big tricks that Bunnings uses to reinforce the widely-held belief they are so cheap.

1. They often choose prices that to the first glance look odd. For example, they sell hammers for $8.45, $37.97, and $62. Apparently the theory is a range of irregular and specific numbers make customers think the price has been ratcheted down as low as it possibly can be.

Rather than having all the prices in the format $X9.99, the prices imply Bunnings takes the trouble to price everything at its minimum.

2. Using people from the stores in the ads. (I thought they might be actors but the internet says no. There are 33,000 staff so I guess some must be able to pass a screen test).

The point is, this is signalling. Bunnings has ads on during high-rating shows – they are not stinting on their marketing budget.

But if they deploy great cinematography and a highly polished vibe, like you might see in a car ad, it creates the impression they are wasting money on ads. Instead the ads look cheap and cheerful. The same motivation is behind The Good Guys using their staff in ads even though they too are a heavy-hitting national chain. (Baker’s Delight use their staff in ads to signal something else – that the bread is made by real people, not a factory.)

The signalling effect even flows through to the way stores are designed. Here’s Cotsco founder Jim Sinegal talking about his store’s budget vibe.

““We try to create an image of a warehouse type of an environment … I once joked it costs a lot of money to make these places look cheap. But we spend a lot of time and energy in trying to create that image.“

3. “Lowest Prices guaranteed” / “Lowest Prices are just the beginning.”

This slogan seems to have moved away from using the word “guarantee” recently. But the claim is still a strong one. The only way Bunnings can get away with it is their price-beat guarantee: “Find a lower advertised price and we’ll beat it by 10 per cent.”

That is an extremely clever business plan. While anyone might think they could mock up an ad that offers something very cheaply and trick Bunnings into giving them a deal, the reality is the store would happily accept being tricked to get the benefits of such an offer. They would probably rather more people took them up on the price-beat guarantee.

Let me explain:

The effect of the price-beating offer is to permit price discrimination. They can sell things at a higher price to people that don’t bother shopping around, and at a lower price to those that care about price. That means they charge different prices to different types of people, just like a hotel or airline does, maximising yield.

But the real killer of a price guarantee is the way it discourages other chains from discounting and promoting. If I run Think Engine Hardware, why would I put an ad in the paper telling everyone Cordless Drills – Now 30 per cent Off!? I know customers can and will still go to Bunnings. Offering to beat advertised prices is very close to being anti-competitive behaviour, as it can cause all firms to raise prices.

From the great knowledge fount:

“While a store with price matching guarantees has no fear of losing customers to rivals’ price cuts, it has every incentive to raise its own price to charge a higher price to its loyal customers. It is an anti-competitive tactic that warns competitors not to attempt to steal market share by undercutting prices.”

So, Bunnings is like any other retail operation, playing clever psychological games to disguise healthy mark-ups.

It had earnings of $900 million on revenue of $7.7 billion last year, and contributed 26 per cent of Wesfarmers earnings before tax, etc. Wesfarmers is currently working on “conversion of the property pipeline into trading locations at a higher rate than historically achieved” in order to help Bunnings contribute even more to its annual profits, which were, last year $2.2 billion.

Myer and DJs – Stop Copying Me

At first glance, the idea of a merger between Myer and David Jones seems utterly natural. The two stores have been struggling in the dying light of the traditional retail industries. Their centuries-old premises in city centres seem like relics of a gaslight era, when the prospect of a lift ride was exciting and shoppers donned their Sunday best.

The department store concept seems somehow nostalgic when eBay and Amazon, Kogan and Net-a-Porter are rampaging across the retail landscape like barbarians, slaying all those that stand before them.

Must these revered icons of Australian retailing continue to fade, as Georges did before them? The message from the internets is: no.

Online, the department store concept has never looked stronger. eBay does not stick to just one line of merchandise. Nor does Amazon. Speciality stores are not a natural reaction to a burgeoning online world.

And in other corners of the retail universe, companies that offer a range of goods seem to be thriving. What is Target, but a department store that happens to be a bit cheaper? Same with KMart.

The biggest and most sucessful retailer in the world offers 100,000 different items in its stores, everything from bling to black beans. I’m talking about Walmart, which made almost $4 billion in profit in a three-month period in 2013.

So there is nothing inherently fail-worthy about trying to sell a lot of lines from one company.

But if you bought $100 worth of Myer shares when it split off from Coles, they would now be worth around $66.

If, that same day, you’d bought $100 of David Jones shares, they’d now be worth about $55.

Why are Myer and DJs failing? It’s not because their death is inevitable. In the UK, a department store called Selfridges is operating the upscale department store model, but doing it a lot better. It is hitting new record profits and expanding its stores.

In a way the problem is the Hotelling model. That suggests that when there are two competitors, they should try to match the other, whether on location or concept. DJs, for example, has a promise of “lower everyday prices” to combat the perception Myer is cheaper

The two stores have matched each other step for step. They have been so frightened to differentiate themselves from each other that they have, while staring the other in the eye, walked into the same tar pit.

But the Hotelling model works best with only two competitors. The world of retail has changed and so the strategies of Myer and DJs need to diverge.

As Myer and David Jones struggle for the same huge swathe of middle-class customers, they are hurting each other. One needs to make a bold break for freedom.

David Jones was traditionally the more fancy of the two – perhaps it could ramp that up to appeal to the increasingly self-assured and aspirational Australian Market. Or perhaps it could move to serve the growing market of elderly – our ageing population has to be good for a few pennies.

The crucial thing is to make a move the other won’t follow. There has to be room for two big department stores in this country, but not two that are perceived as so similar. David Jones has recently announced a plan to set up smaller stores in rich suburbs. That attempt to make a break for freedom might be why it had the confidence to reject Myer’s $3 billion merger offer.

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