FINANCE

Commentary: Fighting costs on all fronts can buy retailers their future

Retailers urgently need cost savings on a massive scale. The phrase “belt-tightening” doesn’t even begin to cover it. Taking spending down a couple of notches isn’t going to give store chains the funds they need to stay competitive as the industry digitalizes and rivals raise their game.

Consider all those new store formats that make it easier for shoppers to pay. After Amazon blazed a trail with its cashier-free Amazon Go outlets in the US, retailers around the world are running their own phone-based scan-and-go pilots, including J Sainsbury in the U.K. and Australia’s Woolworths.

These innovations have the potential to benefit shoppers, but everywhere you look across the retail landscape, there are strategic investments that need to be funded if retailers are to keep pace with Amazon and Alibaba, as well as resurgent giants such as Walmart.

Seamless omnichannel shopping. New capabilities in personalization and advanced data analytics. Massive IT upgrades. The list of must-haves goes on — and that’s before you’ve even started on the price-cutting needed to fend off the threat from hard discounters such as Aldi and Lidl.

Where are retail executives going to find the kind of money that will enable them to fight on all these fronts simultaneously? Their options are limited by the sector’s low profit margins and operating headwinds such as minimum-wage hikes. Past productivity drives have also taken out many of the obvious cost savings.

Yet retailers still can create a surprisingly deep pool of funds for reinvestment by taking a radically different approach to their spending — one that goes well beyond the sporadic belt-tightening of the past.

That might sound counterintuitive. Some recent failures in the sector have involved retailers responding to weak trading with cost cuts that merely created a doom loop of alienated shoppers, further sales declines, and a fresh round of misguided efficiencies.

However, a small minority of retailers have already shown that cost reductions can be managed year after year in a skillful way that supports strategic goals and doesn’t compromise the customer experience.

In the U.S., for instance, Bain research found that 9% of listed retailers increased productivity for five straight years from 2012 to 2017. Far from being caught up in a doom loop, investors in these rare cost champions were richly rewarded: Total shareholder return rose by 25% a year vs. a sector average of 10%.

Enterprisewide View of Cost Reduction

Successful retailers are increasingly moving to an enterprisewide view of cost reduction, scouring all corners of their business for savings and then addressing as many opportunities as possible at once. That’s a break from the sector’s historic “one at a time” focus on narrow sections of its cost base. That might have yielded enough to maintain the status quo in the past, but it won’t cover today’s huge investment needs.

Cost champions are also drastically changing the way they think about each cost element. In some cases, that might involve asking not just, “can we do this activity or buy this item more cheaply?” but also, “do we need to do this or buy this at all?” In other cases, it might mean a big push into automation, such as Walmart’s recent rollout of floor-scrubbing and shelf-scanning robots. The game-changing thinking could involve deploying advanced analytics to its full potential, or developing the rigor to ensure that hard-earned savings end up funding high-priority projects, rather than being siphoned off elsewhere.

Such shifts in mentality can lead to powerful results when applied to the whole cost bar. Take cost of goods sold. An analytics-driven approach linked to category strategy can boost gross profit margin by 150 to 300 basis points. Supply chain costs can be cut by 10% to 20% through automation, advanced analytics and other measures. Gross store labor spending can fall by 5% to 15%; nonwage selling, general and administrative expenses can be cut by 8% to 12%; headcount costs at headquarters can by trimmed by 15% to 30%.

If they cannot attack all these cost areas simultaneously, the more effective retail executives sequence their productivity initiatives to minimize investment and maximize impact. For instance, nonwage SG&A savings are a quick win that can lead an integrated cost-reduction program, generating the funds to fuel later steps.

For traditional retailers, paying for all the new capabilities they will need to thrive in the future is never going to be as easy as just walking out of a checkout-free Amazon Go store. But if they embrace a holistic view of cost control and break with old ways of thinking, they can pull it off.

Kurt Grichel is a Bain & Company partner based in Seattle. Karl Zimmermann is a partner based in Boston. Both are members of Bain’s Retail practice.

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