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 / First Quarter 2002 / Issue 26(originally published by Booz & Company)


Why Bricks Dominate the Clicks

Two years ago, a few prescient retail experts audaciously predicted pure-play retail dot-coms were doomed, and traditional retailers with thriving e-commerce operations — call them hybrid retailers — would triumph. In strategy+business, I wrote that would survive and eToys Inc. would fail (See “Toys ‘R’ Us Battles Back,” Second Quarter 2000).

Yes, the original eToys did fall, and, as it turns out, today the Web’s retail storefronts do look more like a real-world shopping mall. Consider the 35 most visited online stores in September 2001, according to Nielsen//NetRatings Inc. Except for computer sites like Dell and Apple, which top the list, America’s biggest earthbound retailers dominate in cyberspace: Sears, Target, Wal-Mart, Kmart, Victoria’s Secret, Barnes and Noble, QVC, and Gap.

By far the most significant benefit traditional retailers gain from e-commerce is the ability to use their Web sites to manage inventory better and facilitate faster turnover of products. And for many store owners, inventory turnover is the most important performance metric.

Consider how Toys “R” Us handled the launch of Xbox, Microsoft’s highly anticipated game machine, released in November 2001. Before existed, Toys “R” Us had to blindly preorder items for its stores, guessing how many it needed to stock and losing money if it stocked too many or too few. To mitigate some inventory uncertainty, Toys “R” Us decided to use the Web for an exclusive Xbox preordering event. Beginning in August, three months before it would start selling the product in its stores, offered the game player for sale, not as an individual machine with a $299 price tag (the store price), but bundled with software and accessories for $499. The retailer’s entire first Xbox allotment — tens of thousands of machines — was snatched up in only 30 minutes.

The Web sale achieved two important aims. It produced more profit than Xbox sales in the stores would have because Internet preorder customers also had to buy the higher-margin peripherals. And Toys “R” Us did not have to purchase this portion of its inventory without knowing exactly how many would be sold.

Almost every successful hybrid retailer is also implementing automatic markdowns or using product auctions to usher inventory quickly out of its warehouses. J.C. Penney Company’s strategy is typical. To sell slow-moving store or catalog inventory faster, J.C. Penney uses as an instant markdown bin. Prices for clearance products automatically drop several times over a period of days until supplies are depleted. To drive traffic to these discounts, the retailer sends e-mails to its customers. Store salespeople receive gift certificates for every 10 new e-mail addresses they collect.

Although doesn’t account for a huge portion of J.C. Penney’s overall sales, the online markdown strategy is a bright spot in the retailer’s recent performance. As the company shuttered stores, struggled to redefine its customer base, and posted a minuscule operating income on lower sales, J.C. Penney’s inventories based on comparable operations actually dropped in 2001 over the prior year by nearly 1 percent. Additionally, the retailer holds down Internet expenses by having its catalog division handle customer service for Web sales. (The Web site carries all 200,000 products in the catalog.)

In their initial Web strategies, many traditional retailers thought that only a completely distinct Web unit would give them the quick-charging personality needed to survive on the Internet. That notion has lost its allure because it made inventory coordination — let alone marketing, sales, and other key operations — impossible.

The Kmart Corporation is an object lesson. In July 2000, Kmart debuted as a separate company in San Francisco, far from the retailer’s Troy, Mich., home office. But it quickly saw this distance was harmful. Because systems and operations weren’t shared, overhead was high. Moreover,’s strategic priorities were not aligned with the company’s overall priorities.

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