An On-Offline Revolution

A successful retail supply chain must manage the flows of information, product and funds effectively. Retailers want to show customers all the product variety they have to offer, and customers, in turn, gain from knowing if a specific product is available in stock. While an online retailer can help online customers search through a wide variety of products, it cannot access customers who are not online.

Using the online channel, it also cannot provide sensory information that is only available once a product is seen, touched and felt. In contrast, a small local retailer cannot carry a wide variety of products and is often forced to convince customers to buy what is available.

Imagine a future where the local retailer carries the most popular variants of product, while its online partner carries all the others. The local retailer is linked to the online retailer’s website through a simple store computer. The combination of the local and online retailers is able to provide all the information a customer desires.

Pull Down the Wall

Online players in India have had to work hard to access customers who either do not have a credit card or are reluctant to use it online. To access cash payments, online players have had to create infrastructure, at least part of which is available with local retailers. The development and acceptance of phone payments make the combination of channels even more effective.

But it is in the era of product flow where the complementary strengths of online and local retailers can together make the biggest gains. The online channel can offer a wide variety of products while keeping all costs other than transportation quite low.

A comparison of the 2013 financials of online diamond retailer Blue Nile and brick-and-mortar retailer Zales highlights the strengths of the online channel. While Blue Nile offers over a lakh stones on its site, a typical Zales store carries well below a thousand. Blue Nile is able to offer this wide variety while turning its inventory more than 10 times per year. In contrast, Zales turns its inventory just over once a year.

Blue River Strategy

Blue Nile’s low investment in physical infrastructure allows it to obtain about $44 of revenue per dollar invested in its property, plant and equipment. In contrast, Zales generates around $17 of revenue per dollar invested in property, plant and equipment. Further, the large number of personnel that Zales employs at its stores increases its selling, general and administrative expenses to over 48% of revenues. In contrast, the centralized operations of Blue Nile lower its selling, general and administrative expenses to about 15%.

The only cost where Blue Nile loses is the cost of shipping. This cost is, however, low, given the high value of the product being shipped. In other words, the online operation allows Blue Nile to achieve a low-cost model to deliver a wide variety of slow-moving – especially high-value – products. For slow-moving products, the brick-and-mortar channel is profitable only if it adds value in a way that the customer is willing to pay a higher price (such as Tiffany).

A review of the 2013 financials of Costco and Amazon indicates that the former has lower selling, general and administrative expenses (9.6% vs 26.2%), higher inventory turns (11.6% vs 7.3%) and comparable revenue per dollar invested in infrastructure (7.6% vs 6.8%). How does Costco achieve lower costs despite a brick-and-mortar infrastructure? The key is that it sells a small variety of fast-moving products. For these products, Costco has very low costs. Amazon has to incur high transportation costs, which in 2012 amounted to over 8% of revenues.

Brick-and-mortar supply chains have lower costs when it comes to selling fast-moving products that have high shipping costs relative to value. Parle-G glucose biscuits would be a classic example of a fast-moving, low-value product of India. No online player can compete with local retailers on cost here.

Iron Out the Wrinkles

Consider a product like an iron to press clothes. A cursory view of the Flipkart website on July 14 showed well over 300 choices, with some selling at just over Rs 400. While Flipkart can effectively provide the wide variety at low cost, it may be more effective if a few of the popular variants were carried by local retailers in partnership with Flipkart. In fact, Flipkart could suggest the merchandize mix its local partner should carry based on the variants particularly popular in the neighborhood.

Flipkart and its local partners could now offer a complete omni-channel experience and serve a wide variety of customers. Local customers who want to pay by cash and do not have internet access can come to the local store, where they can buy the local variants immediately. But they can also access the over 300 variants that are not carried at the store but are available online. If they chose a variant not available at the store, they can have it delivered at home, or pick it up at the store, once it is delivered from the Flipkart warehouse.

In developed markets such as the US and Japan, retailers are working hard to create an omni-channel experience that is both responsive to customer needs and profitable for retailers. India offers a unique opportunity to take advantage of existing assets in the form of local retailers to create this future. A lot of work will have to be done both on terms of policy changes by the government and investment in improved information and fund-flow infrastructure by small retailers.

Rather than think of the new and the old as engaged in zero-sum game, we should work to create a future with both that grows the size of the pie that the two can share.