In 1980, Circuit City was a rapidly growing electronics retailer, with a better format than traditional TV dealers. Customers viewed floor samples, made their selection — usually with help from a commissioned salesperson — and paid for the merchandise. They then took their receipt to a separate pick-up window, near the store exit, to collect their purchases. Many other retailers copied this format, including a small but successful electronics chain named Sound of Music, based near Minneapolis.
Then, in 1981, a Sound of Music store in Roseville, Minn., was hit by a tornado, forcing managers to hold a clearance sale with the inventory stacked on the sales floor. It was an unexpectedly wild success. Through this random event, company founder Richard Schulze discovered that a discount, no-frills, self-serve value proposition could be both very attractive to customers and very profitable for the company. After a couple of years of experimentation, Mr. Schulze opened his first warehouse-style, truly self-serve superstore in 1983, changing the company’s name to Best Buy at the same time. The following year Mr. Schulze, sensing his new format’s cost advantage over the incumbent leader, Circuit City (still thriving at that time), committed his company to a “won’t be undersold” pricing policy. Mr. Schulze continued to adjust the new format during the next few years; in 1989, he launched a “grab and go” store, with salaried rather than commissioned salespeople.
Between 1994 and 2004, Best Buy gradually eclipsed Circuit City — earning a compound total shareholder return of 28 percent per year while Circuit City managed just 8 percent (despite a rapidly expanding market for consumer electronics). Circuit City lost market leadership in the sector beginning in 1997, but continues to follow its old format strategy. By now, it’s a troubled company.
Companies that successfully survive a format invasion seem to have four common attributes:
1. Successful incumbents start with a clear and accurate vision of how the new format works for their competitors — how it serves customers adequately at much lower cost. Undeniably, that’s hard work. A new format focuses on unfamiliar aspects of the business; an accurate vision must grasp what that new focus is. But the new format differs from the traditional format in so many ways — spread across so many parts of the business yet knitted so closely together — that it’s hard to see. The successful companies don’t just assemble a factual, detailed view of the new format; they fit those details into a realistic overall picture.
2. Successful incumbents undertake the new format as an integrated whole, recognizing its tightly interlinked nature. Too often, incumbents experiment halfheartedly with imitating a new format, layering bits and pieces of it onto their existing business. They modify just one element of their traditional business at a time, or they make a modification but don’t pursue its implications through the rest of the business. Few companies have an appetite for making a flying leap to a whole new operating model — which is another way of explaining why so few incumbents make the transition to a new format. But the alternative — piecemeal adoption — just won’t produce results.
3. Successful incumbents adapt the new format in ways that don’t compromise its cost advantages. They provide a basic-level offer that meets the intruders’ bottom-level prices profitably at the basic amenity level. This reclaims the bottom-of-market volume that they would otherwise forfeit to the new-format competitor. To this, they may add products or services with more features or amenities than the intruder has yet offered. They resist the temptation to blend the new format with the traditional format — an approach usually justified as “we’re doing it, but our way.” That approach rarely succeeds. After all, the new format moved away from the old to achieve some specific objectives; it’s hard to move back without compromising them. These blends often fritter away much of the new format’s cost advantage without any decisive offsetting gain in customer appeal.