RETAILING

Global retailing:
Tempting trouble?

Huge markets await, but profit formulas oƒten

get distorted • What won’t work: a standalone
approach, inflexible purchasing, and 100%
ownership • Three new expansion strategies

Karen Barth
Nancy J. Karch
Kathleen McLaughlin
Christiana Smith Shi

RENDS IN RETAILING reverberate far

T beyond the confines of the industry.

Many commentators look to retail
sector performance as an indicator of general
economic well-being. The issues retailers face
and what they do about them trickle down
into almost every facet of any business that
ultimately sells its products to consumers. At
packaged goods, pharmaceutical, appliance,
electronics, and apparel companies, key
activities like category management, logistics,
and new product development are all closely
tied to – and oƒten designed in conjunction
with – the strategies and processes of retailers.

One of the most problematic trends in today’s

retail industry is globalization. Given the
substantial productivity advantages enjoyed
Karen Barth is a consultant in McKinsey’s New York
oƒfice; Nancy Karch is a director in the Chicago oƒfice;
Kathleen McLaughlin is a consultant in the Toronto
oƒfice; and Christiana Smith Shi is a partner in the Los
Angeles oƒfice. Copyright © 1996 McKinsey & Company.
All rights reserved.

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 GLOBAL RETAILING: TEMPTING TROUBLE?

by the world’s best retailers, opportunities to move successful and

innovative formats abroad would appear to be boundless. But experience
suggests otherwise. The global arena has proven extraordinarily diƒficult for
many retailers over the past two decades.

The reality is that certain structural characteristics make it harder for retail-
ing to operate across distinctive national markets in comparison with other
industries such as car making, steel, or computers. As a result, few companies
have succeeded in globalizing, and many barriers remain. All the same, the
opportunity is suƒficiently compelling to warrant further attention.

Challenges and hurdles

The challenge of global retailing begins with the consumer. Retailers’
performance in local markets will be highly sensitive to variations in
consumer behavior. Entrants in such markets as Thailand and Indonesia
will find pronounced diƒferences in consumer tastes, buying habits, and
spending patterns from one country to another. Accommodating these
diƒferences means tailoring the merchandise oƒfering along dimensions
such as color, fabric, and size for apparel; brand and sport for toys and
leisure goods; and flavor for candy and snack foods. Yet the very changes
that are needed to satisfy consumer preferences may hamper an entrant’s
eƒforts to leverage its global sourcing scale and stay competitive on cost
with local retailers.

Other problems retailers will encounter when operating internationally

include shortages of key resources such as land and labor; unfavorable tax
and tariƒf structures; restrictions on trading hours and foreign ownership;
and impenetrable established supplier relationships. Such hurdles will be
only too familiar to any company
Exhibit 1

Distortion of a profit formula that has attempted to compete

outside its home market.
Example: US specialty retailer Home market
European operation

Top line Sales Market diƒferences like these mean

$459
per square foot that a retail profit formula can get
$580
Gross margin 35.6% distorted overseas in all kinds of
55.2%
ways, to the point where it no longer
Bottom line Operating profit $0.4m
per store $0.2m resembles the original domestic
Operating margin 14% formula. One US specialty retailer
5% enjoyed superior sales productivity
and gross margins in its new
European stores, yet was unable to drop as much profit to the bottom line
(Exhibit 1). It found that its productivity and margin gains were not high
enough to cover greater operating expenses in areas such as real estate and
labor and still deliver comparable profit levels.

118 THE McKINSEY QUARTERLY 1996 NUMBER 1

 GLOBAL RETAILING: TEMPTING TROUBLE?

Exhibit 2

Value creation can be tough

Cost of capital
Marks and Spencer Tiffany’s Price/Costco Foreign ROIC
20 30 15
15 20
12
10
10
0 9
5
–10 6
0
–20
–5 3
–30
–10 –40 0
91

92

94
93

91

92

94

94
93

91

92

93
19

19

19
19

19

19

19

19

19
19

19

19
As a result of these distortions, international value creation is diƒficult to
achieve, and even more diƒficult to sustain. If we look at the return on
capital for the foreign operations of three international retailers (Exhibit 2),
we find it is below their estimated cost of capital (calculated as a corporate
weighted average). Moreover, the foreign returns are fairly volatile, probably
reflecting both the risks that come with operating across borders and the
various financial tradeoƒfs that these companies have made over time.

Progress to date
Though these hurdles have slowed the globalization of the retail sector,
many participants have ventured overseas in the past 20 or so years. Their
experiences fall into two distinct “waves” of expansion, each with its own
characteristics and players.

• Wave 1, in the 1970s and 1980s, consisted primarily of expansion within

adjoining trade areas (for example, across Europe), with only limited forays
further afield (from Japan to the United States, say). These moves were
typically conducted via equity investments or acquisitions. The formats that
expanded in this first wave included specialty retailers with proprietary
brands, such as Benetton and Laura Ashley; luxury brands, like Hermès and
Gucci; well-funded grocers and hypermarkets, including Tengelmann and
Makro; and general merchandise retailers, such as Marks and Spencer and
Sears. Many of these early movers encountered diƒficulties (for instance,
C&A Brenninkmeyer’s with Orbachs, B.A.T with Saks Fiƒth Avenue, and
Carrefour in the United States), and some were forced to pull out.

• Wave 2, which began in the late 1980s and is still under way, followed a
diƒferent pattern, with movement beyond a retailer’s established trading
bloc (from Europe to Asia, say), and greenfield expansion and joint ventures
rather than acquisitions. Leading this global charge are eƒficient low-cost
formats such as Wal-Mart and Carrefour, and large-scale category-focused
retailers such as IKEA and Toys “R” Us. Specialty retailers have continued

THE McKINSEY QUARTERLY 1996 NUMBER 1 119

GLOBAL RETAILING: TEMPTING TROUBLE?

Exhibit 3

Falling barriers

1988 1989 1990 1991 1992 1993 1994

a
sia

in

y
d

r
o
nt
ne

il
ga

sia

a
ic
n

hin

raz
ex
do

ola

un

di
rg

s
Ru
M

In
In

B
H
P

Free currency convertibility

Free exchange control

Free stock exchange

Free majority ownership by foreign business

Free repatriation of capital and earnings

Exhibit 4

Faster growth in emerging markets

Mature markets
Percent
Japan United States Large EU Small EU
260 260 260 260
240 240 240 240
220 220 220 220
200 200 200 200
180 180 180 180
160 160 160 160
2.0* 2.1* 2.3* 2.4*
140 140 140 140
2.9 2.6 3.0 2.7
120 1.8 120 2.1 120 1.1 120 1.3
100 100 100 100
00

00

00

00
90

90

90

90
85

95

85

95

85

95

85

95
20

20

20

20
19

19

19

19

19

19

19

19

19

19

19

19

Emerging markets
Percent
Middle East and Africa Latin America Newly industrialized India and China
260 260 260 260
6.3*
240 240 240 240
5.6*
220 220 220 220
200 200 200 200
5.2*
5.5
180 3.8* 180 180 6.1 180
160 160 160 160
4.0 5.0
140 140 140 6.2 140 7.7
4.1 3.3
120 120 120 120
100 100 100 100
00

00

00

00
0

0
5

5
8

9
20

20

20

20
19

19

19

19

19

19

19

19

19

19

19

19

* Estimated

120 THE McKINSEY QUARTERLY 1996 NUMBER 1

 GLOBAL RETAILING: TEMPTING TROUBLE?

to expand into this second wave, with companies like The Disney Store, The
Gap, and The Body Shop moving to establish international positions.
Exhibit 5

Even in the wake of these two waves, “Unstaked” market potential

however, few retailers are truly Example: Food, 1994 Potential demand, US$ billion
global. Indeed, global retailing is still “Staked” Percentage “unstaked”

60%
in its infancy. Argentina 44
60%
Mexico 41
On the horizon 45%
Taiwan 38
Nevertheless, the momentum is 55%
Brazil 37
growing. Proof can be seen in some 45%
of the key indicators of market South Korea 37
80%
opportunity: currency convertibility, Poland 8
exchange control, stock exchange 65%
Chile 5
access, majority ownership rules, 55%
and repatriation of capital and Malaysia 5
earnings (Exhibit 3). In the last three
years or so, barriers have crumbled around the world, freeing up access to
more countries and allowing entrants to establish viable market positions.

At the same time, the attractions of global retailing have burgeoned. Many
parts of the world are sustaining much higher rates of growth than the
mature economies (Exhibit 4). Though growth is no guarantee of market
attractiveness, where it exists, opportunity oƒten follows. Moreover, many
of these fast-growing markets still oƒfer substantial “unstaked” market
share; in other words, only a relatively small proportion of demand is
currently captured by organized retailers, which leaves ample room for new
entrants (Exhibit 5).

As industry experience accumulates, we can begin to see how attractive the

global arena may ultimately be for some retailers. Consider a few that do
appear to be creating value overseas (Exhibit 6). The performance of The
Exhibit 6

Value creation is possible

Foreign ROIC
The Body Shop Carrefour McDonald’s Cost of capital
40 50 15

40 12
30
30 9
20
20 6
10
10 3

0 0 0
91

92

93

94

91

92

93

94

91

92

93

94
19

19

19
19

19
19

19
19

19
19

19

19

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 GLOBAL RETAILING: TEMPTING TROUBLE?

Body Shop, Carrefour, and McDonald’s indicates the scope that exists for
creating a global position that delivers attractive returns. The question is,
how can other retailers build profitable international businesses for
themselves? The answer lies in taking a fundamentally new approach to
international expansion.

An approach for each market

The reason for many of the diƒficulties encountered by retailers when they
venture overseas is that they tend to export, wholesale and unchanged, a
retail formula that is successful for them at home. This formula oƒten
features standalone business systems, static purchasing arrangements, and
100 percent ownership. While such an approach may work for a small
number of retailers with truly unique and
global concepts, it is not likely to succeed for
To win in international
the majority.
retailing, most players will
need to reinvent competitive
To win in international retailing, most
advantage in each new market
players will need to position themselves so
that they can reinvent competitive advan-
tage in each new market. This means that the key success factors they
have always relied on – such as brand, skills, or productivity – must be
critically reexamined as they expand. Two examples, viewed with the
benefit of hindsight, illustrate the problems that can arise from a more
traditional approach. Galeries Lafayette and Marks and Spencer both have
elements at the heart of their retail concepts that they found very diƒficult
to transfer overseas.
Cautionary tales
Galeries Lafayette attempted to export a high-end Parisian fashion concept
to the United States. Perceived as French, but not exclusive enough for
the highly competitive Manhattan
market, the concept failed to find a
In the global arena, the winners
suƒficiently large customer base.
will be those retailers that are
able to restructure their business
When it entered in the 1970s, Marks
systems, both locally and globally
and Spencer introduced a new retail
concept to Canada: apparel plus
food. Both downtown and in malls, it attempted to operate with its success-
ful UK formula largely intact. As in Britain, it neither provided fitting
rooms nor advertised heavily. In food, it oƒfered such items as Scotch eggs,
which few Canadians recognized or liked; in apparel, it maintained a tradi-
tional private-label stance against more fashionable competitors. Though
M&S has since moved to address many of these cultural diƒferences, it may
have missed the chance to build something big in Canada.

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 GLOBAL RETAILING: TEMPTING TROUBLE?

Getting it right
The winners in the global arena will be those retailers that are able to
restructure their business systems, both locally and globally. At the outset,
they will assess their competitive strengths realistically and decide how best
to reinvent advantage within and across country markets. They will use a
mix of global, regional, and local processes to carry out key activities such
as merchandising, logistics, and marketing.

They will go on to create new relationships with a range of vendors and

manage webs of alliances and partnerships. They will outsource noncritical
activities and build truly international management teams with deep
bench strength. Finally, they will carefully adjust their concepts and
profit formulas in every market to achieve sustainable levels of return. In
eƒfect, these retailers will reconfigure their
entire retailing approach across and within
They will go on to create new
individual markets.
relationships with a range of
vendors and manage webs
Take IKEA, which is beginning to change
of alliances and partnerships
the retail game as it creates and maintains a
superior global business. First, it has trans-
formed its relationships with consumers. By “teaching” them to assemble
furniture, it has cut its manufacturing and distribution costs. By intensely
communicating its fashion perspective, it has built up a following across
widely diƒferent markets for a relatively consistent line of Scandinavian-
inspired furniture, thus boosting volume, which again reduces manu-
facturing costs.

Second, it has transformed its relationships with suppliers. Its buying oƒfices
scan the globe for potential suppliers, and its engineering and business
services groups coach them to help raise productivity, source raw materials,
and achieve quality standards. This keeps manufacturing costs low and
minimizes supply risk. Finally, IKEA has invested in global information
systems to manage logistics across more than 120 stores, a dozen
distribution centers, and 2,300 suppliers in nearly 70 countries.

Among others, Wal-Mart, Makro, and Carrefour also show signs that they
are starting to recognize and adopt this approach. They use a mix of global
and local merchandising, take on local partners for such functions as
distribution, and centralize operations where economies of skill or scale
exist, as with information technology and vendor management.

Beyond business exporting

Once a retailer starts to approach globalization in this way, a broad range
of strategic options emerge that go beyond the traditional business exporter

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 GLOBAL RETAILING: TEMPTING TROUBLE?

Exhibit 7
approach. Three less familiar models – the superior
Strategic options
operator, the concept exporter, and the skills
Importance of concept

exporter – are now in the process of being adopted

by retailers expanding abroad (Exhibit 7).
distinctiveness
More

Concept Business
exporter exporter

• Superior operator. Tengelmann’s acquisition and

Less

Skills Superior
exporter operator turnaround of A&P in the United States exemplifies
Limited Many this strategy. The company expanded internationally
Skills required on the strength of its operating capability. Aƒter
buying 52 percent of A&P in 1979, Tengelmann was
able to restructure operations, launch new store formats, and acquire
additional stores, transforming A&P’s net income from $3 million in 1979 to
$128 million ten years later. Retailers pursuing such a strategy have to
believe they can sustain a superior level of operations over the longer term
– a challenge that retailers such as Aldi have met more successfully than
Tengelmann in recent years.

• Concept exporter. Benetton’s strategy is to export a distinctive concept,

but let someone else run it. Benetton’s strengths lie in its merchandise
and brand image, which it controls
closely. However, it does not see
The prospects of long-term
itself as a distinctive operator, and is
growth and tangible financial
therefore comfortable franchising
gains are too real to be ignored
that activity in each local market. A
vital ingredient of such an approach,
as The Body Shop attests, is eƒfective control of franchise execution,
something Benetton continues to struggle with.

• Skills exporter. Companies can export unique skills rather than entire
business systems, as Price/Costco has done with Shinsegae in Korea. A
large, diversified retail group, Shinsegae operates Seoul Price Club (SPC)
under a ten-year agreement. Price/Costco is contributing a number of
important assets and skills to this arrangement, including its brand name,
its operating approach, its merchandising systems, and its access to low-
cost suppliers, through which 25 percent of SPC’s goods are imported.
Shinsegae has provided capital, sites, staƒf, and sourcing. In return, it enjoys
the benefit of access to global markets by having its products distributed in
Price/Costco stores around the world.
Seizing opportunities
Retail formats that have had trouble globalizing in the past may find that
this variegated approach allows them to participate selectively in attractive
international opportunities. Marks and Spencer has achieved greater
success in Asia than it did in Canada, for instance, because it has done a
better job of reconfiguring its approach to suit individual markets. The Asia

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 GLOBAL RETAILING: TEMPTING TROUBLE?

Pacific region has five of M&S’s 20 franchises (in the Philippines,

Singapore, Indonesia, Malaysia, and Thailand). In Hong Kong, where M&S
now has seven stores, it has been more flexible over key aspects of its retail
concept, including store size and merchandise selection.

Marks and Spencer also intends to open an oƒfice in Shanghai, from which
it will explore the prospects for deeper development in mainland China and
review its Asian supply chain. Similarly, Saks Fiƒth Avenue is putting in
place a diverse international retailing business that may ultimately include
direct marketing in South America, a store in Mexico, and, with local
partner Seibu, in-store shops in Japan.

Many experts consider global retailing to be problematic and unprofitable.

Retailing across borders is diƒficult at the best of times, and few industry
players have managed to establish genuinely global businesses. But the
prospects of long-term growth and tangible financial gains are too real to
be ignored.

Global retailing excellence demands a fundamentally diƒferent approach

from that required to succeed in a domestic market. The winners will be
those that assess their competitive strengths realistically, decide how best to
export these advantages, and restructure their business systems accordingly.
Executed well, such an approach should allow general merchandise retailers
to participate in global markets even when their home formats do not travel
well under a more conventional approach.

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