Starbucks, Digital and Analytics: A Perfect Blend

Starbucks is a differentiator, an early adopter in regards to technology and a savvy user of data analytics. Employing the “Starbucks Experience” differentiation strategy (e.g., customer service, ambiance, interior aesthetics, prime locations), the company is able to command above market prices for a commodity product.

Surprisingly, for an organization that was not born in the digital era, Starbucks embraces new technology like a forward-looking digitally native company. The company has demonstrated a willingness to take risks on its road to digital maturity which helped it acquire a unique value proposition in loyalty and customer satisfaction. From a company strategy perspective, the organization is aware that early adopters can acquire advantages.

“In 1998, it was one of the first companies to launch a website; in 2002, it began offering WiFi to its customers, helping to start the transition from quick coffee stop to all-day hangout; and a full decade ago, Starbucks was establishing its social media presence. Now, while others are setting up mobile payment terminals and struggling to start a loyalty program, Starbucks is seeing 11 percent of its sales from mobile order and pay, and 14.2 million Starbucks Rewards members accounting for 37 percent of U.S. company-operated sales.” [1]

As the importance and impact of data has come to prominence in today’s business environment, the company relies heavily upon analytics and digital technologies to enhance business performance. Starbucks processes approximately 90 million transactions per week, [2] therefore the company has to have the requisite culture and resources in place to wring optimal value from data and analytics.

Starbucks Technology Leadership

Any company’s drive for a culture of digital, data and analytics is greatly influenced by senior leadership. As such, Starbuck’s senior leadership increasingly reflects a silicon valley background and mindset. Former chairman and CEO Howard Schultz has been referred to as the “Steve Jobs” of coffee. Schultz’s handpicked successor Kevin Johnson is a veteran technology player having previously served as CEO of Juniper Networks and as President of Microsoft’s Windows division.

Another high level technology hire was that of Gerri Martin-Flickinger who has held technology leadership roles at Adobe, VeriSign and McAfee Associates. Ms. Martin-Flickenger serves as the company’s first Chief Technology Officer, which is a title change from the previous CIO position held by Curt Garner. Incidentally Garner left Starbucks to become the CIO of Chipotle, as his new suitor was impressed with Starbuck’s use of online ordering and mobile pay capabilities.

The ultimate technology name drop belongs to Satya Nadella who serves on Starbuck’s board of directors (as of 2017) and is currently the CEO of Microsoft. Coincidentally, Starbucks is a prominent customer leveraging the Microsoft Azure cloud platform.

Mobile Order / Mobile Pay

One of Starbuck’s most laudable achievements has been its execution of mobile ordering and mobile pay via its iOS and Android applications. Customers who are short on time can pop open the Starbucks app on a smartphone and then place and pay for their order. Purchases lead to an accumulation of loyalty “stars” which can be redeemed for free products. This digital relationship has helped drive demand in physical stores and increase ticket spend per customer.

“They’re actually broadening the footprint of their stores with technology. If everything was a walk-in order, you’d only be able to sell what people could drive up and wait around to get. But by having mobile pay and drive thru, they can extend that store footprint out for miles.”
 [1]

This functionality has been so popular that it has caused operational challenges in the physical stores as customers have walked out after seeing large crowds waiting on mobile orders. The company has beefed up staffing and changed store layouts where applicable to accommodate the increased demand. Starbucks has also based loyalty program rewards on total spend as opposed to number of transactions. The latter approach allowed customers to game the system by sub-dividing orders into multiple transactions which caused bottlenecks.

 Future enhancements to the application include a personalization engine that will allow stores to target customers for differentiated treatment (e.g., birthday rewards, discounts for previously purchased items). To increase customer satisfaction and operational efficiencies, geolocation can be used to track a customer’s presence near the store and allow the point of sale terminal to pre-assemble the customer’s typical order. The barista can then confirm the order once the customer arrives and then submit at the press of a button.

Additionally, voice ordering capabilities via Amazon’s Alexa platform will allow customers to order and pay for food and drinks as if they were speaking to a human barista. The company demonstrated this capability at an investor conference when it placed an order for a “Double upside down macchiato half decaf with room and a splash of cream in a grande cup.” [3]

Due to the company’s investment in this digital capability, Starbucks is in a position to capitalize on its homegrown mobile order and payment processing technology via licensing to other retailers. The decision would have to be weighed against the advantages of keeping its technology and processes proprietary.

Geolocation

Starbucks is a savvy user of data and analytics to help determine where to place its next retail locations. The organization has a real estate analytics team (amongst many others) that spearheads its site selection strategy.

Using an in-house mapping and business intelligence platform called Atlas, the organization can combine data from various internal and external sources to create models which help drive decision making.

“Through a system called Atlas, Starbucks links to as many external and internal APIs as possible, connecting the data with R to build cannibalization models that can determine impact to existing stores if a new store enters the area. This model drives decision-making in cities across the US and world.” [4]

As part of its growth strategy, Starbucks is planning to open 3,000 stores in mainland China through 2022. That is approximately 600 stores per year, or 1 every 15 hours [6]. Choosing the correct site locations is absolutely critical to store success and the correct mix of data and analyses must be conducted to enable a successful rollout.

Starbucks weaves together various data points such as weather, auto traffic, consumer demographics, population density, income levels, coffee purchase patterns, current store locations and even levels of mobile phone ownership to construct its site selection strategy. The company analyzes all pertinent data points overlaid on a visualization map powered by a spatial data warehouse.

Weather and sales data individually can tell two different stories but blended together they can offer the company new insights. For example, if it’s forecasted to be hotter than average in a location, Starbucks can geo-design a localized promotion for cold beverages [6].

Store Labor Analytics

In a presentation given by Leslie Hampel (VP, Store Operations) at Dartmouth’s Tuck School of business, she described the process of balancing the company’s top down strategic store scheduling decisions with emergent strategies from store level managers. If an improvement suggestion is offered by one store for use in all others, then its impact has to be modeled on a statistically significant group of stores first.

Starbucks is very risk averse in regards to making labor related changes. If you consider that labor is about a third of Starbuck’s cost base, a decision that is wrong by 1% will be wrong by about 40 million dollars [7].

In addition to taking suggestions from stores, the company will use analytics to systematize best scheduling practices by examining the best operating 10% of stores. These localized processes are then tested on a statistically significant group of 100 stores. An internal analytics team will assess the impact of the changes to the company’s financials, as well as impacts to store sales and the customer experience. At the end of the 90 day testing period the new process will either be rolled out to multiple stores, tweaked and re-tested, or simply abandoned [7].

As an aside, it’s worth noting that the creation of Starbuck’s famous Frappuccino’s were the result of an emergent strategy from a store level manager in California. Although Starbucks stores are only supposed to sell company approved drinks, the manager sold them in her store against the company mandate. Despite corporate management’s initial reluctance to stock and sell the drink (until seeing the local sales data), Frappuccino’s are now a billion dollar business for Starbucks [8]. Always listen to your ground level employees, as they are the closest to the customer.

Starbucks & Bitcoin

No post about digital technology would be complete without a nod to Bitcoin.

To burnish its tech bona fides, Starbucks has been in talks with Microsoft, the parent of the New York Stock Exchange and the Boston Consulting Group to develop a crypto-initiative. Bakkt (pronounced “backed”) will allow consumers to store and convert digital currencies to dollars that can be used for in-store purchases.

The idea has the backing of major corporations and could help lend some Fortune 500 legitimacy to the somewhat murky and volatile world of cryptocurrencies. Although cryptocurrencies have yet to reach mainstream appeal, Starbucks is showing its willingness to be an early adopter of a new payments solution as it did with its mobile ordering and payment initiatives.

References:

[1] 5 Ways Starbucks is Innovating the Customer Experience. https://www.qsrmagazine.com/consumer-trends/5-ways-starbucks-innovating-customer-experience

[2] Starbucks’ CTO brews personalized experiences  https://www.cio.com/article/3050920/analytics/starbucks-cto-brews-personalized-experiences.html

[3] Starbucks Adds Voice Ordering to iPhone, Amazon Alexa http://fortune.com/2017/01/30/starbucks-alexa-voice-ordering/

[4] Data Analytics in the Real World: Starbucks https://www.northeastern.edu/levelblog/2016/03/04/data-analytics-in-the-real-world-starbucks/

[5] China is getting nearly 3,000 new Starbucks https://money.cnn.com/2018/05/16/news/companies/starbucks-in-china-store-expansion/index.html

[6] Esri 2014 UC: Starbucks Coffee and IT. Coffee beans and business strategy. https://www.esri.com/videos/watch?videoid=3654&isLegacy=true

[7] Using Data to Create & Maintain the Starbucks Experience https://www.youtube.com/watch?v=sUkQwhMwOig @32:42

[8] Rothaermel, Frank T. 2015. Strategic Management 2nd Edition. New York: McGrawHill, Irwin (2nd edition).

Image Copyright : monticello on 123rf.com

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When Corporate Layoffs Don’t Work

“When downsizing is a knee-jerk reaction, it has long-term costs. Employees and labor costs are rarely the true source of the problems facing an organization. Workers are more likely to be the source of innovation and renewal.” [1]

Case in Point: Circuit City Laid Off Employees for Over-performance

There were a combination of factors that lead to the demise of former electronics retailer Circuit City. A number of these reasons were self-inflicted wounds. The company located its stores in subprime locations, stopped selling appliances to cut warehouse storage and distribution costs and underinvested in its web presence at a time when consumer preferences were beginning to shift online.

However, the company’s biggest blunder was its decision to layoff its most experienced and knowledgeable sales persons while trying to compete in the competitive electronics retail marketplace. In March of 2007, Circuit City announced a scheme to layoff 3,400 hourly workers (roughly 8% of its workforce), while offering a severance package with the ability to reapply to former jobs at a reduced salary. Any reapplications had to occur after a mandatory 10 week cooling off period. Circuit City practiced genteelism by branding its cost cutting and de-skilling scheme a “wage management initiative”.

Management decided to staff its stores with fewer people, with fewer skills, making less money and expected this combination to yield long term positive results. As a result of the layoffs, Circuit City placed knowledgeable, experienced sales staff on a platter and served them to its main competitor, Best Buy. Additionally, where did Circuit City expect to find quality people who would work for a company that did not value loyalty, experience and wage increases?

“From a strategy perspective, customer-facing sales personnel would appear to be a core resource and potential differentiator for a consumer products retailer,” he [Kevin Clark, an assistant professor of management at Villanova School of Business] says. “Especially in an era of rapidly changing and more complex consumer electronics, knowledgeable sales personnel who are perceived by customers as ‘experts’ can be a source of competitive advantage.” [2]

Reportedly, “employees who were paid more than 51 cents above a set pay range for their departments were fired.” [3] However, solidifying the trope of senior executives reaping the gains without the pains, the CEO and Chairman of Circuit City received almost $10 million in various kinds of compensation for steering the company to its imperiled state. [4]

In under two years (i.e., November 2008), Circuit City announced it was going out of business. By laying off its highest paid hourly workers and replacing them with cheaper less skilled workers, in-store customer service levels plummeted which negatively impacted customer perception and sales.

Southwest Airlines Gets it Right

Waving flag of Southwest Airlines editorial 3D rendering

Treating employees as mere cogs and judging employees by costs and not by the overall value they create is self-defeating.

Some companies don’t understand that making workers happy leads to elevated productivity and higher retention levels. High employee morale should be table-stakes, instead it is a strategic key differentiator. Southwest Airlines has never had a layoff in its 47 plus years of existence. That’s laudable when you consider that airlines endured the fallout from 9/11 and the Great Recession (when oil prices spiked over $100 a barrel). As a well deserved consequence, Southwest Airlines routinely leads domestic airlines in customer satisfaction.

Consider this example of how Southwest Airlines treated its recruiting team during the global financial crisis:

“At one point, however, Southwest Airlines was staring at a tough time financially and it did ‘corporate redeployment’. It had 82 employees in the recruiting team. When the company put [in] a hiring freeze, it also wondered what to do with 82 of its employees in this particular team. The company utilised them for customer service. The result: Customer satisfaction went up as a result of this team’s enhanced skill set. When the economy recovered, the team went back to its original job; only this time, they had an additional skill set, which helped the company and the customers alike.” [1]

If you were in the airline industry would you rather work for Southwest Airlines or another domestic competitor (that I mercifully will not name) which embodies layoffs, labor strife and toxic mismanagement of employees?

The Negative Impact of Layoffs

There is a time and place for layoffs. However, more often than not, companies layoff employees during down times in the business cycle to simply lessen the impact on profits, not to avoid a collapse of the business. Against their own best interests, companies also announce layoffs during times of rising profits which causes their best people to head for greener pastures. Any expected cost savings are negated by lower productivity (when the best performers leave), lower innovation and a remaining demoralized workforce subjected to the negative effects of survivor syndrome (i.e., the feeling of guilt after seeing longtime co-workers discarded).

Additionally companies are impacted by “Brand equity costs—damage to the company’s brand as an employer of choice.” [1]. Sites like Glassdoor offer unfairly laid off employees the opportunity to share their sense of betrayal online which can significantly impact a company’s reputation.

Shortsighted management typically operates under the assumption that layoffs will positively impact shareholders. While financial analysts may cheer downsizing efforts, research indicates that layoffs have negative effects on share prices.

“A recent analysis of 41 studies covering 15,000 layoff announcements in more than a dozen countries over 31 years concluded that layoff announcements have an overall negative effect on stock-market prices. This remains true whatever the country, period of time or type of firm considered.”[1]

It should come as no surprise that Circuit City’s stock price fell 4% the day after the company pulled the plug on its most experienced employees. [5]

References:

[1] Employment Downsizing and its Alternatives. Retrieved from https://www.shrm.org/foundation/ourwork/initiatives/resources-from-past-initiatives/Documents/Employment%20Downsizing.pdf

[2] Circuit City plan: Bold strategy or black eye? NBC News. April 2, 2007. Retrieved from http://www.nbcnews.com/id/17857697/ns/business-careers/t/circuit-city-plan-bold-strategy-or-black-eye/

[3] Circuit City Cuts 3,400 ‘Overpaid’ Workers: Washington Post. March 29, 2007. Retrieved from http://www.washingtonpost.com/wp-dyn/content/article/2007/03/28/AR2007032802185.html

[4] Thousands Are Laid Off at Circuit City. What’s New?. New York Times. April 2, 2007 https://www.nytimes.com/2007/04/02/business/media/02carr.html

[5] It’s the Workforce, Stupid! The New Yorker. April 30, 2007. Retrieved from https://www.newyorker.com/magazine/2007/04/30/its-the-workforce-stupid

Circuit City Image Copyright : nazdravie

Broadcom & Qualcomm: The Largest Deal in the History of Technology That Never Happened

One hundred and twenty one billion dollars; the number was staggering as it potentially represented the largest deal in the history of technology. While neither Broadcom nor Qualcomm are household names like Samsung or Intel, the combined company would have created the world’s third largest chip maker.

On November 2, 2017 Hock Tan, the chief executive of Broadcom, announced the company’s intent to redomicile its headquarters from Singapore to the United States. Mr. Tan made this announcement from the Oval Office while the current president of the United States looked on approvingly in the background.

Mr. Tan was effusive in his praise of America and its newly overhauled corporate tax rates. He preached that many of his direct managers and a majority of Broadcom’s board members and shareholders were also Americans. “America is once again the best place to lead a business with a global footprint” according to Mr. Tan. The ulterior motive of this patriotic show was revealed just four days later when Broadcom announced its intent to buy notably larger competitor Qualcomm for $105 billion dollars. The hostile takeover deal was eventually bumped up to $121 billion after being rebuffed by Qualcomm. Broadcom eventually retaliated by nominating its own directors to Qualcomm’s board to force a potential deal.

While calling the timing of the Qualcomm takeover announcement a “coincidence”, Broadcom was betting its chips (pun intended) that relocating to the U.S. would placate U.S. regulatory bodies and ingratiate itself with a protectionist American president who is averse to foreign competition. Furthermore, if Broadcom were classified as an American company, it could avoid the jurisdiction of the Committee on Foreign Investment in the United States (CFIS). CFIS has broad powers to review the national security implications of foreign investment in domestic companies.

Ultimately, the political maneuvering was all for naught as an executive order shut down the possibility of a merger on national security grounds. However, Broadcom has indicated that it still plans to redomicile to the U.S. from Singapore by April 2018; a move that could be advantageous in its hunt for future domestic acquisitions.

Broadcom’s Acquisition Mentality Starts at the Top

Broadcom’s CEO Hock Tan immigrated to the United States from Malaysia and eventually became a naturalized citizen in 1990. He earned both bachelor’s and master’s degrees in mechanical engineering from MIT and subsequently furthered his education with an MBA from Harvard’s much vaunted Business School.

It was in 2006 that he became the CEO of Broadcom’s predecessor Avago Technologies Ltd. which itself began as a division of Hewlett Packard. At the helm of Avago, Hock Tan has demonstrated remarkable expertise in deal making and value creation via acquisition. Mr. Tan (for better or worse) brings a private equity mentality to acquired companies. He targets businesses with high profit margins and then either significantly cuts or sells off the less successful parts of the business. Broadcom maintains a focus on its main customer bases of handset makers and data-center operators.

After bringing chip makers LSI and Emulex into the Avago portfolio, Tan’s crown jewel acquisition came about in 2015 when his company purchased the original Broadcom Corporation for $37 billion and renamed the merged company to Broadcom Limited. At the time of the merger, Broadcom Corporation’s revenues were twice the size of Avago’s.

“‘He ran through Broadcom with a machete,’ says Stacy Rasgon of Bernstein Research. According to Linley Gwennap of the Linley Group, a consultancy focused on semiconductors, Mr. Tan eliminated an entire layer of management at Broadcom and now has around 20 business units reporting directly to him.” – The Economist, Nov 9th 2017

Horizontal Integration Doesn’t Work, Until it Does

Although horizontal integration is frequently touted by firms as a way to create “synergies” and improve strategic positioning in their industries, I learned from noted Georgia Tech strategy Professor Frank Rothaermel that mergers and acquisitions, on average, destroy rather than create shareholder value as the anticipated synergies never materialize (see AOL-Time Warner, Daimler-Chrysler, HP-Compaq, etc). This happens due to the blending of disparate corporate cultures, high management turnover and a tendency to underestimate potential merger issues. However, if a firm can continue to successfully merge, acquire and integrate to its benefit, this can serve as a source of competitive advantage.

“Although there is strong evidence that mergers and acquisitions, on average, destroy rather than create shareholder value, it does not exclude the possibility that some firms are consistently able to identify, acquire, and integrate target companies to strengthen their competitive positions. Since it is valuable, rare, and difficult to imitate, a superior acquisition and integration capability, together with past experience, can lead to competitive advantage.” – Frank T. Rothaermel

With Hock Tan at the helm, Broadcom has flaunted a stellar acquisition and horizontal integration capability to become the world’s fifth largest semiconductor company. The company’s revenues continue to climb as a result of its deal making proficiencies. Even now Broadcom is seeking approval for a $5.9 billion acquisition of data and storage networking products company Brocade.

Broadcomm Revenues

In an apparent Russian nesting doll scenario, the Wall Street Journal reported that industry heavyweight Intel would have considered an offer for Broadcom if the Broadcom-Qualcomm merger was greenlit. Intel would have been trying to ingest Broadcom, which had tried to merge with Qualcomm, which is currently trying to acquire Dutch semiconductor company NXP.

The semiconductor industry continues to move towards an oligopolistic industry structure as firms look to lower their costs by gaining scale. Scale helps chip companies manage the capital intensive nature of their industry.

Research and Development: Show Me the Money

Broadcom and Qualcomm are similar in one respect; they are both fabless (i.e. fabrication-less) chip companies. They design and market processors while relying on an outsourced manufacturer for production. Despite never owning fabs (like Intel & Samsung), they both have become industry leaders. Outsourcing manufacturing allows firms to invest more capital into research and development and subsequent new products.

“In the absence of manufacturing differentiation, semiconductor players that design the most functionality and performance into their products in the shortest amount of time wield distinct competitive advantage. That puts product-development productivity at center stage.” – McKinsey&Company

Where Qualcomm differentiates itself from its peers is in the relative amount of dollars it invests in research and development. Aside from Intel, Qualcomm spends more on R&D than any other chipmaker ($5.15 billion in fiscal year 2016 and $40 billion over the past decade). To put these numbers in perspective, Qualcomm spends more on research and development than both Apple and Amazon.

This focus on research and development is in sharp contrast to Broadcom which operates with a private equity style philosophy that prioritizes cutting both jobs and research after acquisitions to boost short term profits. In theory, less money allocated for research and development leads to weaker products in the future which leads to a loss of competitive advantage. Broadcom tried to counter this criticism by announcing that they would increase Qualcomm’s research and development budget and create a $1.5 billion fund to train American engineers.

Qualcomm Makes Money Off of Every iPhone Sold! (In Theory)

Although Qualcomm may not be a household name, If you own a mobile phone, then most likely you are using Qualcomm’s patented technology. The company’s innovation bona fides were established by helping to bring about mobile standards like LTE. It is also the United States’ champion in the coming 5G revolution which is why it garnered so much political protection.

Qualcomm is a leader in processors that manage cellular communications in smartphones. It competes with Broadcom in the manufacturing of baseband processors that manage a device’s wireless connections. A combined Broadcom-Qualcomm with more market power in Wifi and baseband chips would not make buyers comfortable (see Porter’s Five Forces: Bargaining Power of Suppliers).

In accordance with Qualcomm’s high R&D spending, it owns a veritable trove of patents that are deemed essential to building cellular phones that adhere to wireless standards. The thousands of patents that the company owns allows it to engage in a unique business model that accounts for two thirds of its operating profits. Qualcomm charges device makers (e.g. Apple, its biggest customer) for use of its patents, it does not issue licenses on its patents to rival chipmakers.

These (device-makers) usually pay for the entire patent portfolio, rather than individual patents. And Qualcomm typically charges a percentage of the total selling price of a device—5%, according to insiders. – The Economist, Jan 28th, 2018

In case you missed that, Qualcomm makes money off of the total price of every iPhone sale.

Apple, among other things, claims that per-device royalties mean Qualcomm is taxing its innovation: it must pay up for new features, such as a new kind of camera, even if these are unrelated to Qualcomm’s patents. – The Economist, Jan 28th, 2018

Qualcomm’s Woes

Even though the takeover threat from Broadcom has dissipated, there are various storm clouds hanging over Qualcomm. As would be expected, Qualcomm is engaged in a protracted legal battle with Apple in regards to its business practices. As a result, Apple has withheld billions of dollars in royalty payments that have put downward pressure on Qualcomm’s stock price.

“Qualcomm’s 2019 forecast includes between $2.5 billion and $4 billion in payments it assumes would flow from resolving its customer disputes. It leaves out a further $5 billion to $7 billion in so-called catch-up payments that Qualcomm has said Apple and Huawei will owe by then for royalties they have withheld.” – Wall Street Journal, March 19, 2018

Qualcomm’s loss could be Intel’s gain as Apple has switched over to Intel chips for some of its devices and could completely cut Qualcomm out of the next cycle of iPhones. This scenario would play in Intel’s favor as it looks to diversify away from the PC market which has been in decline.

Qualcomm is also subjected to charges brought against it by the Federal Trade Commission for abusing its monopoly power on certain chips. Adding to its woes, Qualcomm is dealing with additional anti-trust reviews in Europe and Asia as a result of its patent and royalty-centric business model. The European Commission fined the company for $1.24 billion for abusing its position in regards to LTE baseband chips

China fined Qualcomm $975 million (the largest in China’s corporate history) and also forced the company to lower its patent royalty rates in 2015. Since roughly 65% of Qualcomm’s revenues originate from China and Hong Kong, the company had no choice but to comply.

As it fought off being acquired, Qualcomm was also playing the role of acquirer. The company is trying to complete a $47 billion dollar acquisition of Dutch semiconductor company NXP. On paper, the acquisition would bolster Qualcomm’s portfolio of intellectual property in chips for automotive and IoT devices. The deal was announced in 2016 but is currently held up in anti-trust review in China. The United States’ stifling of the Broadcom deal and current trade war tensions with China have not helped Qualcomm in gaining Chinese approval.

Last but not least, boardroom drama surfaced as Qualcomm recently removed its Chief Executive (scion of the company’s founder) from the board after he made public his desire to bid for the company.

Why the Deal Fell Through

Acquiring Qualcomm would have greatly expanded Broadcom’s position in smartphone and cellular communications chips. However, there is a technology arms race occurring between the United States and China over the future of 5G, and Qualcomm is the designated American champion in this race. America has held its own in 4G innovation but has fallen behind Asian countries in the application of 5G. 5G is touted as the fifth generation of mobile networking technology that will power a new wave of innovative services and applications; think self-driving cars and IoT devices. Although currently there is no defined standard for 5G, it promises to be a faster communications medium than current 4G technology.

The U.S. government and other Western industry CEOs fear that if China gains the lead in 5G technology, then China will gain a technology edge in the next wave of products that will take advantage of the faster speeds and interconnectivity; cyber-espionage tools included.

“China, under President Xi Jinping, has launched an ambitious plan to dominate mobile technology, supercomputers, artificial intelligence and other cutting-edge industries, putting huge resources behind an effort that it considers crucial to the country’s government, military and economy. Beijing wants to build its own technology champions and is encouraging companies to acquire the engineering, expertise and intellectual property from big rivals in the United States and elsewhere.” – New York Times. March 6, 2018

Although Broadcom has stated that it wouldn’t sell “any critical national security assets to any foreign companies”, its private equity reputation of cutting research and development to boost profitability caused more harm than good. The bottom line is that a takeover of an American firm by a perceived foreign competitor with a reputation for cutting research and development, risks strengthening Chinese competitors like Huawei and Xiaomi. The perceived political and national security ramifications of this scenario were deemed unacceptable.

It is for this reason that the biggest merger in the history of technology never happened.

References:

CNBC. March 1, 2018. Beware, Qualcomm: Broadcom is used to winning battles with hostility, as Amazon knows. https://www.cnbc.com/2018/03/01/broadcom-ceo-hock-tan-aggressive-negotiations-with-amazon-hpe-others.html

The Economist. Nov 9th 2017. Broadcom’s $130bn Qualcomm bid highlights a ruthless chip industry. https://www.economist.com/news/business/21731121-worlds-biggest-ever-technology-deal-would-face-antitrust-scrutiny-globally-broadcoms-130bn

The Economist. Jan 28th, 2017. Qualcomm is again under attack for living large off its patent portfolio. Its biggest customer, Apple, is suing it for $1bn. https://www.economist.com/news/business/21715705-its-biggest-customer-apple-suing-it-1bn-qualcomm-again-under-attack-living

McKinsey&Company. McKinsey on Semiconductors. Autumn 2013. https://www.mckinsey.com/client_service/semiconductors/~/media/32ae520663114c6eb1250bbdb92673c2.ashx

The Motley Fool. Feb 21,2017. Here’s Why Qualcomm, Inc.’s Research and Development Spending Dropped in 2016. https://www.fool.com/investing/2017/02/21/heres-why-qualcomm-incs-research-and-development-s.aspx

New York Times. March 6, 2018. The New U.S.-China Rivalry: A Technology Race. https://www.nytimes.com/2018/03/06/business/us-china-trade-technology-deals.html

New York Times. March 7, 2018. Broadcom’s Other Regulatory Hurdle: How It Treats Customers. https://www.nytimes.com/2018/03/07/technology/broadcom-qualcomm-customers.html

Rothaermel, Frank T. 2015. Strategic Management 2nd Edition. New York: McGrawHill, Irwin (2nd edition).

Wall Street Journal. March 6, 2018. Qualcomm’s Spending Buys the Right Friends. https://www.wsj.com/articles/qualcomms-spending-buys-the-right-friends-1520366524?tesla=y

Wall Street Journal. March 9th, 2018. Intel May Intervene in Broadcom’s Effort to Buy Qualcomm. https://www.wsj.com/articles/intel-considers-possible-bid-for-broadcom-1520633986

Wall Street Journal. March 19, 2018. Qualcomm Evaded Broadcom’s Bid; Now, CEO Has a Lot to Prove. Fending off Broadcom still leaves the chip giant with patent disputes and a takeover fight from within. https://www.wsj.com/articles/qualcomm-ceo-steve-mollenkopf-faces-fights-on-many-fronts-1521457200

Copyright: gmast3r / 123RF Stock Photo

The Definitive Walmart Technology Review

Did you know that the legal name “Wal-Mart Stores, Inc.” was changed effective Feb. 1, 2018 to “Walmart Inc.”? The name change is intended to reflect the fact that today’s customers don’t just shop in stores.

I’ve kept an eye on Walmart because historically the company was the leading innovator in regard to advancing retail focused technology and supply chain strategy. Even though Walmart isn’t the typical “underdog”, in the fight for online retail supremacy it currently finds itself in this position; and everyone can appreciate an underdog (see Philadelphia Eagles). Currently Walmart is locked in a fierce battle with Amazon to carve out a more substantial space in digital and online retail. As such, the company is bolstering its capabilities by focusing on technology enabled business processes, training and digital growth to keep pace with Amazon’s world domination efforts.

Walmart is experimenting with cutting edge technology such as virtual reality, autonomous robots, cloud storage platforms, cashier-less stores and even blockchain. It’s also formed various online retail and technology-based alliances to keep pace with Team Bezos. Walmart’s kitchen sink technology strategy seems to be paying dividends from an online sales perspective. E-Commerce industry luminary Marc Lore and his influence can been seen in some of the innovative technology plays.

Blockchain

Walmart, yes Walmart is getting in on the blockchain ledger revolution (or hype). The company plans to team up with IBM, JD.com and Chinese based Tsinghua University to create a blockchain food safety alliance.

Here is how the partnership will work according to ZDNet:

  • Walmart, JD, IBM and Tsinghua University will work with regulators and the food supply chain to develop standards and partnerships for safety.
  • IBM provides its blockchain platform
  • Tsinghua University is the technical advisor and will provide expertise in technology and China’s food safety ecosystem.
  • Walmart and JD will help develop and optimize technology that can be rolled out to suppliers and retailers.

Walmart has shown that blockchain technology has reduced the time it takes to trace food from farm to store from days to seconds. During product recalls this capability could prove useful for the retailer.

If Walmart were to offer a more investor appealing use of blockchain (e.g. a “Sam’s-Coin” ICO), you could count me in for a high two figure investment.

Ok Google

Goole Home Walmart

Image courtesy of ZDNet

Straight from “the enemy of my enemy is my friend” playbook, Walmart and Google announced a partnership to make Walmart’s items available on Google’s shopping service, Google Express.

The New York Times reports that “it’s the first time the world’s biggest retailer has made its products available online in the United States outside of its own website”. We can readily see what Walmart gets out of the alliance (expanded presence on the dominant search engine) but interpreting Google’s angle requires a bit more perspicacity.

Google fears that its search engine is being bypassed by consumers who go straight to Walmart to search for products. Google, (you may have heard) dabbles a bit in search and online advertising. A substantial shift in product search behavior that favors Amazon is bad for business. If Google can expand its own online marketplace with Walmart’s appreciable offerings as well as entice customers to use Google Home and the mobile based Google Assistant to locate products, then the company can retain a greater share of initial product searches. Google Express already offers products from Walmart competitors Target and Costco although Walmart’s collaboration offers the largest number of items.

“Walmart customers can link their accounts to Google, allowing the technology giant to learn their past shopping behavior to better predict what they want in the future. Google said that because more than 20 percent of searches conducted on smartphones these days are done by voice, it expects voice-based shopping to be not far behind.”

An existing Walmart application feature called “Easy Reorder” is slated for integration with voice enabled shopping via Google Assistant. Currently, when a consumer logs into the Walmart mobile app, they can easily see their most frequently purchased in-store and online items and easily reorder those items. Integration with Google Express provides an additional data channel to bolster the effectiveness of this Walmart offering.

The Matrix:

Virtual reality would not be the first technology play that one would likely associate with Walmart. However, the company’s tech incubator (Store No. 8) has purchased Spatialand, a VR development tools company. Spatialand has previously worked with Oculus, Intel and “rap rock” artists Linkin Park to create virtual content.

Walmart’s intent is to use Spatialand to develop “immersive retail environments”. My expectations aren’t high that this acquisition will pay off in the near to medium term, but the company is demonstrating that it is trying to be on the vanguard of future retail technology. One can imagine this acquisition eventually enabling Star Trek “holodeck” capabilities where customers can enter virtual stores or dressing rooms and interact with products while in the comfort of their homes.

I propose that Spatialand and Walmart owned Bonobos would make ideal mash-up partners. Instead of trekking to a physical Bonobos store and trying on shirts and or slacks, consumers can create an avatar with similar dimensions and play virtual dress-up in 3D. The garments can then be shipped directly.

Additionally, Walmart is actually using Oculus headsets to train employees at its 170 training academies. The company has partnered with STRIVR, a virtual reality startup based in Menlo Park. I envision virtual customers stampeding through entrances on a Black Friday opening.

“STRIVR’s technology allows employees to experience real-world scenarios through the use of an Oculus headset, so that employees can prepare for situations like dealing with holiday rush crowds or cleaning up a mess in an aisle.”

There’s an App for That:

Walmart is trying to balance keeping its in-store traffic high while accommodating its growing mobile customer base. The company recently enhanced its Walmart application with a new “Store Assistant” feature that activates when a customer walks in the door. The app will allow customers to build shopping lists, calculate costs and locate in-store items at all of its domestic locations.

“So-called mobile commerce revenue — mostly generated via smartphones — will reach $208 billion, an annual increase of 40 percent, EMarketer forecasts.” – Bloomberg

Channeling its inner Tim Cook, Walmart launched a nationwide rollout of the Walmart Pay system as an additional application enhancement.

“To use the three-step payment system, shoppers link their chosen payment method to their Walmart.com account, open the camera on their smartphone and snap a photo of a QR code at the register. That notifies the app to process the customer’s payment. Shoppers can link their credit or debit cards, prepaid accounts or Wal-Mart gift cards to their payments; however, they still cannot use ApplePay.” – CNBC

Rise of the Machines:

As labor costs rise and technology increases, we can be sure of one thing. Robots are coming to take all of our jobs and Walmart isn’t doing much to disabuse us of this notion. As part of a pilot, the company is employing autonomous robots to about 50 locations to help perform “repeatable, predictable and manual” tasks. Primary tasks include scanning store shelves for missing stock, inventory calculations and locating mislabeled and unlabeled products. The robots stay docked in charging stations inside the store until they are activated and given an autonomous “mission”.

According to Reuters, Walmart’s CTO Jeremy King states that the robots are 50% more productive and can scan shelves three times faster at a higher accuracy. Walmart’s current carbon-based units (my words) can only scan the shelves about twice a week.

While Walmart insists that the robots won’t lead to job losses, I say to remember that technology always marches forward. Today’s “repeatable, predictable and manual” tasks are tomorrow’s non-repeatable, unpredictable and automated tasks.

Walmart scanner

Image courtesy of Walmart

Additionally, in 2016 the company “patented a system based on mini-robots that can control shopping carts, as well as complete a long list of duties once reserved for human employees.” Keep an eye on those robots as Walmart does not have a reputation for overstaffing.

In all seriousness, shelf inventory checks ensure that customer dollars aren’t left on the table due to un-shelved items. If Walmart can significantly lower the occurrences of un-shelved products with its army of shelf scanning Daleks, then the robots will pay for themselves.

Mr. Drone and Me

walmart drones

Never missing an opportunity to improve supply chain efficiency, reduce labor costs and keep pace with Amazon, Walmart is experimenting with drones. The company’s Emerging Science division has been tasked to consider future applications of drone technology to enhance operational efficiency.

Currently, inventory tracking at the company’s fulfillment centers requires employees to use lifts, harnesses and hand-held scanning devices to traverse 1.2 million square feet (26 football fields) of warehouse space; a process that can take up to a month to complete. If you consider that Walmart has close to 190 distribution centers domestically, the inventory process consumes a significant amount of labor hours when aggregated across the company.

The current plan is to utilize fully automated quad-copter drones mounted with cameras to scan the entire warehouse for inventory monitoring and error checking.

“The camera is linked to a control center and scans for tracking number matches. Matches are registered as green, empty spaces as blue, and mismatches as red. An employee monitors the drone’s progress from a computer screen.”

Drones would eventually replace the inventory quality assurance employees.

Millenial Digs:

Walmart Austin ATX

In an effort to increase its appeal to the young, hip and tech savvy, Walmart has opened a new engineering tech design center in Austin. The new millennial digs are located in a renovated 8,000 square foot space. “Walmart ATX” will house minds that work with cutting edge technology such as machine learning, artificial Intelligence, blockchain, internet of things and other emerging technologies. Factors such as a deep talent pool and low cost of living drove the creation of this Austin hub.

Here’s hoping Amazon decides to stay far away from its retail rival and brings its talents to Atlanta, Georgia.

E-Books

The saying goes that Amazon is trying to become more like Walmart and Walmart is trying to become more like Amazon. Walmart teaming up with Japanese e-commerce giant Rakuten to sell e-books solidifies this sentiment. It should go without saying that Amazon has a sizable lead in selling e-books. However, Walmart is leaving no stone unturned as far as offering products that keep e-commerce shoppers from Amazon’s web presence.

Online Grocery Pickup:

Walmart is experimenting with allowing customers to place their orders online for pickup at a local store. The scheme currently requires the company’s human employees (eventually robots) to walk the aisles using a handheld device in order to fulfill customer orders. The device acts as an in-store GPS that maps the most efficient route to assemble the customer order.

Customers then pull into a designated pickup area where live human beings (eventually robots) will dispense the pre-assembled order.

I’m not kidding about “eventually robots” dispensing the pre-assembled order. Walmart currently has an automated kiosk in Oklahoma City that dispenses customer orders from internal bins. Customers walk up to the interface and input a code which then enables the kiosk to retrieve the order. Hal, open the pod bay doors; the future is here and apparently its name is Oklahoma City.

Walmart kiosk

Courtesy of The Oklahoman

These approaches address the “last mile” problem which plagues large e-commerce players and start-ups alike. As consumer preferences shift from physical stores to online channels, repurposing stores into dual e-commerce fulfillment centers wrings additional utility from these assets.

In Home Delivery:

Another innovative e-commerce “Last Mile” proposal from Walmart involves the creation of a smart home delivery pilot. By partnering with a smart lock startup company August Home, outsourced delivery drivers will be supplied a one-time passkey entry into a customer’s home to unload cold and frozen groceries into the refrigerator. The home owner is alerted via phone notification that the driver has entered their property and can watch the in-home delivery livestreamed from security cameras. An additional notification is sent to the consumer when the door has automatically locked. This limited scale program is only being piloted in Silicon Valley (of course).

Per the Washington post:

“This is a group of people who are already used to a certain level of intrusiveness.. But God help the teenager playing hooky or the family dog who’s not expecting the delivery man.”

I can envision a future sci-fi use case involving “smart fridges” and automatic home replenishments. This pilot move is a search for an advantage in grocery delivery as Amazon recently purchased Whole Foods without overtly signaling what disruptive services may emerge from the amalgamation.

Smart Cart Technology

Jet Smart Cart

When Walmart made the largest ever purchase of a U.S. e-commerce startup with Jet.com for $3.3 billion, the company was looking for a way to ramp up online sales and infuse itself with fresh perspectives for online selling.

As I’ve mentioned previously, Jet.com has the potential to infuse Walmart with much needed digital innovation. This fresh perspective has the potential to add tremendous value to the organization as a whole. The “old guard” rooted in Walmart’s core business model needs to allow acquisitions to thrive instead of imposing the more conservative legacy culture.

The Jet infusion of innovative ideas back to the mothership is happening. Current Walmart e-commerce head Marc Lore launched Jet.com around an innovative “smart cart” system that offers the potential of lowering the price of customer orders. Here is how it works according to Forbes:

“If you have two items in your cart which are both located in the same distribution center and can both fit into a single box, then you will pay one low price. If you add a third item that is located at a different distribution center and cannot be shipped in a single shot with the other two items, you will pay more. As you shop on the site, additional items that can be bundled most efficiently with your existing order are flagged as ‘smart items’ and an icon shows how much more you’ll save on your total order by buying them.”

The order price can be further lowered if customers use a debit card or decline returns. This smart cart process is expected to launch on Walmart’s flagship site in 2018.

Who Needs Cashiers?

Customers shopping at roughly 100 stores across 33 states can participate in Walmart’s “Scan and Go” service. Via a dedicated mobile app, customers can scan the barcodes of items as they shop, pay through the app using Walmart Pay, and then exit the store after showing a digital receipt to an employee. As customers shop and scan with their phones, they can observe the running total of their purchases. This service is currently available at all Sam’s Club locations.

In this case Walmart is keeping pace with grocery competitor Kroger which is also experimenting with digital checkout experiences. Kroger has a “Scan, Bag & Go” service rolling out at 400 grocery chains.

Additionally, Walmart’s skunkworks retail division “Store No. 8” is working on a futuristic project codenamed “Project Kepler”. This initiative goes a step further and eliminates both cashiers and checkout lines by using a combination of advanced imaging technology on par with Amazon’s “Amazon Go” concept. As customers take items off of shelves, they are automatically billed for their purchase as they walk out of the store. The Jet.com acquisition is in play here as this initiative is being led by Jet’s CTO Mike Hanrahan.

Grocers already operate on razor thin margins therefore removing cashier interaction from the shopping equation fits in with the goal of lowering labor costs. Walmart employs approximately 2 million reasons to turn this future technology into reality.

Send in the Clouds:

According to the Wall Street Journal, Walmart is telling some of its technology vendors that if they want to continue being a technical supplier then they cannot run applications for the retailer on the leading cloud computing service, Amazon Web Services. Vendors who do not comply run the risk of losing key Walmart business. This is where we open our strategy textbooks to Porter’s Five Forces and key in on “Bargaining Power of Buyers” in the retail information technology provider space. The Economist reports that in 2015 Walmart poured a staggering $10.5 billion into information technology, more than any other company on the planet. To misquote E.F. Hutton, when Walmart speaks, you listen if you’re a technology vendor. The company’s cloud ultimatum is responsible for an uptick in usage of Microsoft’s Azure offering.

As I’ve mentioned in other posts, Walmart is known for its “build not buy” philosophy in regard to technology. Most of its data is housed on its own servers or Microsoft Azure which is the primary infrastructure provider for e-commerce subsidiary Jet.com. According to CNBC, about 80 percent of Walmart’s cloud network is now in-house.

Walmart’s cloud application development is facilitated by the company’s own open source cloud application development platform named OneOps. The aim of OneOps is to allow users to deploy applications across multiple cloud providers (i.e. allow users to easily move away from Amazon Web Services). Walmart has also been a huge contributor to OpenStack, which is an open source cloud offering and has been working with Microsoft, CenturyLink and Rackspace.

OneOps was originally developed by Walmart Labs and has since been released as an open source project so that Walmart can benefit from a broader community that’s willing to offer improvements. The main codebase is currently available on GitHub (https://github.com/oneops/).

Foreign Investment:

flipkart

Walmart is currently challenging tech titans Amazon and China’s Alibaba for a lucrative stake in India’s burgeoning online retail market. India’s expanding middle class makes its online market a lucrative target. The market is purported to reach $220 billion by 2025 according to Bank of America Merrill Lynch. Walmart is essentially barred from outright owning physical store locations in India due to the country’s restrictive foreign investment regulations. Foreign ownership for multi-brand retailers is limited to 51% and retailers must source 30% of its goods from small suppliers which poses a difficulty for Walmart. Walmart uses its global buying power to squeeze deep discounts from major suppliers such as Unilever and Proctor and Gamble. Smaller Indian firms will have more difficulty yielding to exorbitant price concessions.

Therefore, Walmart is currently in talks to purchase a sizable stake in Indian online retailer Flipkart. Flipkart is a highly attractive opportunity because it has been able to effectively compete with Amazon in India despite being outspent by Team Bezos. Flipkart currently has a 44% market share in India which is running ahead of Amazon’s share at 31%. Walmart’s multibillion dollar investment will likely value Flipkart at $20 to 23 billion.

An infusion of capital from Walmart makes sense for both parties; Flipkart can hold off attacks from Amazon while Walmart gets a piece of the action in a growing and lucrative online market. Amazon has stated its intention to invest $5 billion in India in order to beef up the number of its fulfillment centers. Ironically, Flipkart was launched in 2007 by two former Amazon employees, Sachin and Binny Bansal.

Walmart isn’t the only company looking for a piece of Flipkart as Google is also purported to make a sizable investment in the Indian firm at a valuation of $15 to $16 billion.

Walmart has had difficulties operating in India previously as evidenced by its now disbanded partnership with Bharti Enterprises. The two companies built 20 superstores branded as Best Price Modern Wholesale, but the venture fizzled due to aforementioned regulatory restrictions.

Meanwhile in China, Walmart partnered with JD.com which is a fierce Alibaba rival. Walmart and JD will merge their membership systems, so members can receive similar discounts at both retailers. In addition, the two companies will jointly work to create a system that enables JD.com to fulfill customer orders from Walmart inventories. Walmart initially had its own Chinese marketplace named Yihaodian but sold it to JD in 2016 due to its small market share in comparison to both JD and Alibaba.

Header Image Copyright: moovstock / 123RF Stock Photo

General Motors’ Information Technology: IT’s Complicated

General Motors and its relationship with technology has been one of innovation followed by periods of stagnation. Its technology staffing strategy of choice has been acquisition, followed by pure outsourcing, until it settled on its current insourcing approach. New startups like Tesla and Uber have a profound effect on a rapidly evolving automotive industry. GM as an industry incumbent must embrace new trends regarding autonomous vehicles and all the requisite software and technology to remain viable. The company currently believes that an in-sourced IT staff can help it develop competitive advantages.

The EDS Acquisition

General Motors has a long history of employing Electronic Data Systems Corporation (EDS) to service its information technology needs. The $2.5 billion acquisition of EDS in June of 1984 from billionaire Ross Perot was a move to help impose structure upon GM’s unorganized maze of data-processing systems and IT infrastructure. From the start, there were culture clashes between the two organizations; although EDS saw significant revenue increases after the acquisition. The management styles of brash, outspoken EDS founder Ross Perot and the bureaucratic GM CEO Roger Smith were incompatible.

“Problems surfaced within a year when the differences in management style between Perot and Smith became evident. The August 1984 issue of Ward’s Auto World suggested ‘Mr. Perot is a self-made man and iconoclast used to calling his own shots … Roger B. Smith [is] a product of the GM consensus-by-committee school of management, never an entrepreneur.’” [1]

Additionally, six thousand GM employees were transferred from GM to EDS at lower pay [2], which served to stoke the fires of the culture clash.

From 1984 until it was eventually spun-off in 1996, EDS was a wholly owned subsidiary of GM. Although there was an ownership separation, the two behemoths were still tightly coupled in regard to technology staffing. The decision to divest itself of EDS was a strategic decision by GM to focus on its core competency of vehicle manufacturing. EDS also gained the freedom to win additional technology contracting work from other organizations.

1600px-EDS-Plano-TX-5071

HP Enterprise Services (formerly EDS, Electronic Data Systems) corporate headquarters in Plano, Texas (Wikipedia)

Post EDS Spin-Off

Post spin-off, General Motors continued to contract with EDS for technology services as it still accounted for a third of EDS’s revenues at the time. Perceived as Texas “outsiders” by the Detroit incumbents, EDS found it difficult to deal with the fragmented nature of GM’s systems across various business units and divisions. While EDS had the requisite technical expertise, it did not always have enough internal influence to navigate GM’s intense political landscape. Obtaining consensus amongst business units in regard to technology decisions was a challenging endeavor. In an attempt to address these issues, incoming GM CIO Ralph Szygenda spearheaded the creation of an internal matrixed organization called Information Systems & Services (IS&S).

IS&S was created as a matrix organization consisting of internal GM technology executives and various other technologists (e.g. business and systems analysts). The new organizational structure consisted of a dual reporting relationship; IS&S members simultaneously reported to the CIO organization and to their local business unit leadership.

Generally, matrix organizations are instituted in order to promote integration. The advantage of the matrix organization is that it allows members to focus on local initiatives in their assigned business unit and it enables an information flow from the local units to the central IT organization. General Motors is a famously siloed global organization. With the creation of IS&S, members could now promote information sharing between different functions within GM and address the cross-organizational problems that had challenged EDS.

The matrix structure is not without weaknesses. To quote a famous book, “No man can serve two masters.” Employees in a matrix organization often deal with additional frustrations as they attempt to reconcile their allegiances and marching orders from conflicting authorities.  “Matrix organizations often make it difficult for managers to achieve their business strategies because they flood managers with more information than they can process” [3]. From my own personal experiences of working with IS&S while employed at GM subsidiary Saturn, I observed that members were inundated with meetings as they tried to stay up to date with the plans and initiatives of the central IT organization while trying to remain focused on their internal business units.

 A Return to EDS Insourcing

From the creation of IS&S in 1996 until 2012, GM relied upon a variety of outsourced contractors and vendors to deliver information technology services such as Capgemini, IBM, HP and Wipro. In 2010 GM renewed an existing technology outsourcing contract with the old EDS (now HP) for $2 billion.

The general wisdom in regard to outsourcing is that companies will seek to focus on those core activities that are essential to maintain a competitive advantage in their industry. By focusing on core competencies, companies can potentially reduce their cost structure, enhance product or service differentiation and focus on building competitive advantages.

In a reversal of its longstanding IT sourcing strategy, GM made headlines in 2012 with the decision to insource and hire thousands of technologists to supplement its bare bones IT staff. New GM CIO Randy Mott reasoned that an internal technical staff would be more successful working with business units and would deliver technology needs at a cheaper cost than outside providers. These savings could then be used to drive IT innovation and fund the capabilities needed to compete in a rapidly evolving automotive industry.

“By the end of this year (2012) GM will employ about 11,500 IT pros, compared with 1,400 when Mott started at the company four years ago, flipping its internal/external IT worker ratio from about 10/90 to about 90/10, an astounding reversal” [4].

GM decided to hire over 3,000 workers from HP that were already working at GM as part of its Global Information Technology Organization. The move could be considered an act of “getting the band back together” as HP purchased EDS in 2008 for $13.9 billion. Randy Mott was the CIO of HP before assuming the same position at GM. It is plausible that this fact factored into GM’s insourcing decision calculus.

It should be noted that insourcing IT personnel is not without risks. Insourcing requires a company to compete for technical resources which can be difficult in cutting edge technology areas. Furthermore, the complexities of running IT in house “requires management attention and resources that might better serve the company if focused on other value-added activities” [3].

GM’s Information Technology Transitions from Commodity to Innovation

The automotive industry is embarking upon significant changes as it deals with innovations and disruptions from the likes of Uber and Tesla. To illustrate this point, Tesla (founded in 2003) had a higher market capitalization than both GM and Ford for a period of three months in 2017. Auto industry incumbents like GM are focusing on automating and streamlining commoditized processes as well as applying IT to more innovative value-added functions (e.g. computerized crash testing, simulations to shorten vehicle development times and data analysis for profit optimization).

In its early years, GM had been widely perceived as an innovator before making a series of missteps that harmed this reputation. GM fell behind on hybrid engine development after taking a technology lead in the electric vehicle space. The company defunded its lauded EV1 offering in the early 1990s to appease the bean counters. The company also starved innovative upstart Saturn of the necessary funds to introduce new models for a period of five years.

2000-2002_Saturn_SL_--_03-16-2012_2

2000-2002 Saturn SL2 (Wikipedia) The innovative Saturn subsidiary was starved of funds.

“G.M.’s biggest failing, reflected in a clear pattern over recent decades, has been its inability to strike a balance between those inside the company who pushed for innovation ahead of the curve, and the finance executives who worried more about returns on investment” [6].

After a government bailout in 2009, the company promised to emerge leaner and commit itself to technology leadership. Automakers are now focusing on software development as a source of competitive advantage. As a result, GM has opened four information technology innovation centers in Michigan, Texas, Georgia and Arizona. These locations were chosen in order to be close to recent college graduates from leading computer science programs.

GM Opens Fourth IT Innovation Center in Chandler, Arizona

One of GM’s 4 new Information Technology Innovation Centers

Additionally, GM purchased Cruise automation which is developing autonomous driving software and hardware technology. It is even testing a ride-sharing app for autonomous vehicles. The purchase will bolster GM’s technology staff and efforts in an emerging space.

“Harvard Business School professor Alan MacCormack, an expert in product development management within the software sector, says that outsourcing even routine software development can carry risks for companies that are seeking innovation in that area. He notes that today’s vehicles have more software and computing power than the original Apollo mission. ‘Everybody can make a decent enough powertrain. But what differentiates you is what you can do with your software,’ he says of car makers generally. ‘Companies have to be careful that they don’t outsource the crown jewels’” [6].

The company also developed an internal private cloud nicknamed Galileo, to improve its business and IT operations and consolidated twenty three outsourced data centers into two insourced facilities [7].

With its new cadre of insourced technologists, GM will need to find a way to bridge the ever-persistent culture gaps between innovative technologists, bureaucratic management and the Excel zealots in finance.

“IT is core, I think, to GM’s revival, and I think it will be core to their success in the future,” – Former GM CEO Dan Akerson [7]

References:

[1] http://www.fundinguniverse.com/company-histories/electronic-data-systems-corporation-history/

[2] Nauss, D.  (May 20, 1994). Pain and Gain for GM : EDS Spinoff Would Close Stormy, Profitable Chapter. Los Angeles Times. Retrieved from http://articles.latimes.com/1994-05-20/business/fi-60133_1_gm-employees

[3] Keri E. Pearlson, Carol S. Saunders, Dennis F. Galletta. (December 2015). Managing and Using Information Systems, A Strategic Approach
6th edition. Wiley Publishing ©2016

[4] Preston, R. (April 14, 2016). General Motors’ IT Transformation: Building Downturn-Resistant Profitability. ForbesBrandVoice. Retrieved from https://www.forbes.com/sites/oracle/2016/04/14/general-motors-it-transformation-building-downturn-resistant-profitability/#67b37d551222

[5] Boudette, N. (July 6, 2017). Tesla Loses No. 1 Spot in Market Value Among U.S. Automakers. The New York Times. Retrieved from https://www.nytimes.com/2017/07/06/business/tesla-stock-market-value.html

[6] Leber, J. (November 5, 2012). With Computerized Cars Ahead, GM Puts IT Outsourcing in the Rearview Mirror. MIT Technology Review. Retrieved from https://www.technologyreview.com/s/506746/with-computerized-cars-ahead-gm-puts-it-outsourcing-in-the-rearview-mirror/

[7] Wayland, M. September 18, 2017. GM plots next phase of IT overhaul Unlocking the Potential of a Vast Data Empire. Automotive News. Retrieved from http://www.autonews.com/article/20170918/OEM06/170919754/gm-it-randy-mott

Featured Image Copyright: akodisinghe / 123RF Stock Photo

General Electric’s Digital Pivot

Digital technologies will touch and transform every business sector. No industry will be completely safe from either nimble venture capital backed startups or disruptive “new economy” organizations born of the digital age. Industrial companies founded at the tail-end of the 19th century would not be expected to reside at the forefront of digital change and experimentation. But this is exactly where we find General Electric. The 125 year old company has embarked upon a remarkable transformation of its people, technology and overall business model to embrace an impressive digital strategy in a relatively short period of time.

However, I’d be remiss without mentioning that the digital shift has not resulted in immediate changes to operating results. In successful companies, continual reinvention is the name of the game even when business is good. General Electric however has endured a number of challenges over the past decade (e.g. financial crisis, share price, executive shakeup, activist investors) but the company does deserve credit for its impressive shift to digital while addressing a myriad of ongoing challenges.

GE has invested significantly in machine learning, artificial intelligence, open source software development, 3D printing, internet of things (IoT), internet connected drones and all the accompanying personnel required to make its digital ambitions feasible. General Electric has stated an audacious plan to be one of the world’s top ten software companies with sales and services worth as much as $15 billion by 2020 [1]. The company will have invested $6.6 billion, from 2011 through the end of this year in transforming itself into a “digital industrial” company [2].

Bringing Good Things to Life

Back in 2009, former CEO Immelt was speaking with scientists working on the development of new jet engines. From this experience he learned that the engine sensors were generating large quantities of data from every flight but that the company was not maximizing the potential benefits of the accumulation. Traditionally, sensor data was analyzed real time by a technician to gauge current performance and then that data was discarded.

Immelt visualized a future where the company’s sensor data data would be worth as much as the machinery itself [2]. Two years later, the company established GE Digital as a separate corporate unit headquartered in San Ramon California. Immelt realized that a separate unit needed to be established in order to keep it from being stifled by the legacy organization.

“The San Ramon complex, home to GE Digital, now employs 1,400 people. The buildings are designed to suit the free-range working ways of software developers: open-plan floors, bench seating, whiteboards, couches for impromptu meetings, balconies overlooking the grounds and kitchen areas with snacks” [1].

The company even embarked upon an ad campaign where it poked fun at its stodgy corporate reputation. The campaign was intended to showcase General Electric as a destination for software engineers and other technical talent.

The aim of the company’s ambitious new unit was to house the requisite personnel and lay the groundwork for GE to pivot towards a “digital-industrial” strategy. By developing software that links together sensor data from a bevy of industrial machines, General Electric could then sell additional services like predictive maintenance to its industrial customers. As machines become smarter, they can run more efficiently, use less fuel and raise alerts before costly breakdowns occur. Smarter machines lead to longer lived equipment.

GE Digital was eventually merged with the company’s corporate IT department. In this manner, algorithms or other development work could be leveraged by multiple business units which helped minimize duplication of effort across many silos. Pre-GE Digital, business units were making choices based upon local conditions which resulted in an inefficient bundle of technologies and platforms.

The Centerpiece of General Electric’s Digital Strategy – Predix

The most ambitious offering from GE Digital’s strategy is the development of an open source industrial operating system named Predix. The company has poured significant investment capital (more than a billion dollars) into its creation. Predix was partially developed to head off competition from traditional tech players who have been considering forays into the industrial internet space. Just as fellow “old economy” blue chip Wal-Mart has had to revamp its digital strategy to compete with Amazon, General Electric realized that it needed to go on the offensive to head off potential competition from more mature tech savvy players such as IBM and Google. Additionally, Siemens, a more traditional industrial competitor, has a competing product known as MindSphere which is also angling for a piece of the industrial internet pie.

Predix was developed as a cloud based platform-as-a-service which enables asset performance management. The product aims to be the “Microsoft Windows” of the industrial internet, in that it functions as an operating system and enables third party application development. In a similar manner to Amazon expanding the market for cloud computing with its Web Services offering, GE is betting that there is a similar market opportunity for Predix in the industrial internet space to derive value from the cloud, data and analytics.

General Electric has also partnered with Apple to create a Predix software development kit for iOS. This move expands Predix’s potential reach to a popular mobile operating system which powers millions of iPhones and iPads [3].

“The basic idea is that G.E. and outside software developers will write programs to run on Predix. This software might, for instance, monitor the health and fine-tune the operation of equipment like oil-field rigs and wind-farm turbines, improving performance, reducing wear and adapting to changing environmental conditions. It amounts to software delivering the equivalent of personalized medicine for machines” [1].

One component of Predix involves creating a virtual “digital twin” of a highly complex industrial machine (e.g. aircraft engine, turbine, or locomotive engine). This digital twin is a real time virtual model which displays a host of performance metrics. The digital twin leverages machine learning to gain insights from simulations and other machines and then marries that information with human input. “Though digital twins are primarily lines of software code, the most elaborate versions look like 3-D computer-aided design drawings full of interactive charts, diagrams, and data points” [4].

The company predicts that it will have developed over one million digital twins by the end of 2017 [5].

GE Digital

Image courtesy of 2016 GE Annual Report

 

Considerations

GE has a built in competitive advantage in its attempt to become the dominant software player for the industrial internet. The company already has a sizable customer base that currently uses its industrial equipment. However, GE must generate enough of an outside developer following to make the Predix platform sustainable. The company hopes to generate up to 4 billion in Predix based revenue by 2020. In order to meet this goal, GE will need to cultivate an ecosystem of third party applications running on its Predix platform.

Non GE equipment typically forms the majority of machines in a company’s facilities. Therefore GE needs to incentivize other OEMs to write applications on Predix that can analyze data on their own equipment. There is additional value gained when customers can analyze data from GE’s sensors in concert with data from third party machinery. This combination of capabilities has the potential to provide customers a more holistic look at their asset ecosystem. MIT’s Sloan Review indicates that GE has encountered challenges with this step.

“..everyone loves the idea of benefiting from everyone else’s data, but is far less excited about sharing their own — a tragedy of the commons. The potential is there, but incentives are not well aligned” [6].

Consider that GE earns little from selling hardware and that a majority of its revenue comes from selling services [6]. The company is betting that Predix investments will profitably augment its current array of service offerings. Contractual services agreements for a large piece of industrial equipment can run up to 30 years. Meeting agreed upon machine up-time metrics results in bonus payouts to GE. However, there is a potential downside to longer running machines; namely reduced demand for additional GE machines.

Internally, Predix has allowed the company to garner significant productivity gains but those gains have been reinvested back into Predix and associated applications. Thus, these internal productivity gains (up to a billion) have not shown up on the company’s earnings [7].

Additionally, the company’s large sales force must learn to incorporate software services into their repertoire as opposed to solely pitching traditional hardware products. Chief information officers and chief technology officers will now have a seat at the buyers’ table along with the traditional operational heads and plant managers.

General Electric’s Additional Digital Investments

In addition to Predix, GE has made other digital investments and formed partnerships:

  • In 2015, GE launched a startup named “Current” which is focused on industrial scale smart lighting.
  • A new GE subsidiary named Avitas Systems will use “internet-connected drones and other robots to perform high-risk equipment inspections in industries like oil and gas” [7].
  • GE spent $1.4 billion to acquire two European 3D printing companies, Arcam AB from Sweden and SLM Solutions Group from Germany. The company has spent $1.5 billion on 3D printing investments since 2010, meaning the acquisitions will double what the company has invested in the last five years [8].
  • GE partners with Intel for sensor technology as well as Cisco for network hardware and Amazon Web Services for cloud delivery [9]. GE must be careful to ensure that a substantial portion of its digital offerings do not become non-proprietary.

Conclusion

Outgoing CEO Jeffrey Immelt’s transformation exploits have been criticized for sacrificing short term profit maximization for future earnings. Immelt doesn’t receive enough credit for running a leaner GE which enabled a massive investment in digital transformation. Immelt has stated that his initial goal was to hire a thousand software engineers to support the transformation [10]. This prodigious commitment to ramping up digital demonstrates that General Electric was anticipating disruptive innovation to negatively impact its business. History has taught us that industry incumbents have been caught off guard at best and rendered obsolete at worst by rapid changes in technology. Immelt forced the company to see the need for change as “existential”.

“Half measures are death for big companies, because people can smell lack of commitment. When you undertake a transformation, you should be prepared to go all the way to the end. You’ve got to be all in. You’ve got to be willing to plop down money and people. You won’t get there if you’re a wuss” [10]. – Jeffrey Immelt

It is a huge bet to shut down all of the company’s analytics based software ventures and redirect efforts to one platform. It takes guts to open up your software to competitors, enabling them to reap benefits. It is audacious to infuse senior personnel with new leadership from outside the company who specialize in a non core, forward looking discipline. As a result, there are now dedicated digital organizations and chief digital officers positioned inside each of GE’s businesses. Even the marketing organization is attracting individuals who can speak and sell digital.

However, bumps on the road to becoming a successful digital business should be expected. The desired financial gains from digital investments have not yet materialized for General Electric as indicated by share appreciation. Per Gartner:

“The IoT is emerging as a key enabler of our digital future, and global spending on IoT – including all hardware, software and services – will increase in the next five years. However, the path to capturing benefits will not be a straight line. It will have many twists and turns as companies pursue big plans, hit roadblocks, learn and adjust. Some will give up, while others will follow through and realize the transformational potential the IoT can have in helping them become a successful digital business” [11].

Jeffrey Immelt has moved on and new CEO John Flannery has signaled an intent to pick up and run with the digital baton. In my opinion, General Electric has more favorably positioned itself to compete and win in a challenging new environment that extends beyond physical engines and turbines.

References:

[1] Lohr, S. Aug, 27 2016. G.E., the 124-Year-Old Software Start-Up. New York Times. https://www.nytimes.com/2016/08/28/technology/ge-the-124-year-old-software-start-up.html

[2] Lohr, S. June 27, 2017. G.E. Results Show Next Chief’s Challenges at Revamped Company. New York Times. https://www.nytimes.com/2017/07/21/business/ge-john-flannery.html

[3] Bruno, G. October 18 2017. Apple, GE Announce Partnership to Develop Industrial IoT Apps. TheStreet. https://www.thestreet.com/story/14347334/1/apple-ge-announced-partnership-to-develop-industrial-iot-apps.html

[4] Woyke, E. June 27, 2017. General Electric Builds an AI Workforce. https://www.technologyreview.com/s/607962/general-electric-builds-an-ai-workforce/

[5] General Electric. 2016. Leading A Digital Industrial Era. 2016 Annual report

[6] Winig, L. February 18, 2016. GE’S BIG BET ON DATA AND ANALYTICS. Seeking opportunities in the Internet of Things, GE expands into industrial analytics. MIT Sloan Review. https://sloanreview.mit.edu/case-study/ge-big-bet-on-data-and-analytics/

[7] Scott, A. May 12, 2017. GE’s Immelt bets big on digital factories, shareholders are wary. Reuters. http://www.reuters.com/article/us-ge-factory-idUSKBN1880K4

[8] Geuss, M. September 6, 2016. GE buys two 3D printing companies at $1.4 billion. A Swedish and a German company join the fold to make industrial components. Ars Technica. https://arstechnica.com/information-technology/2016/09/general-electric-doubles-investment-in-3d-printing-with-1-4-billion-purchase/

[9] Iansiti, M & Lakhani, K. November, 2014. Digital Ubiquity: How Connections, Sensors, and Data Are Revolutionizing Business. Harvard Business Review. https://hbr.org/2014/11/digital-ubiquity-how-connections-sensors-and-data-are-revolutionizing-business

[10] Immelt, J. September 2017. How I Remade GE. Harvard Business Review. https://hbr.org/2017/09/inside-ges-transformation

[11] Laney, D. & Jain, A. June 20, 2017. 100 Data and Analytics Predictions Through 2021. Gartner.

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Costco’s Underinvestment in Technology Leaves it Vulnerable to Disruption

Introduction

The conventional wisdom with respect to Costco is that its business model forms a “defensive moat” against the conquering retail army of “House Bezos”. Costco offers its loyal shoppers a reason to visit its warehouses replete with low cost bulk items, pharmacies and food courts. This sentiment has held, but nothing drains a moat faster than when Amazon expands its physical retail presence into your market with a splashy $13.7 billion acquisition (see Whole Foods). We don’t quite know what Amazon is up to in the grocery sector (and meal kit delivery space), but given its track record of disruption, Costco better start taking up a stronger defensive position to enable long term success. At a minimum, we can expect Whole Foods to adopt best practices and leverage world-class data mining capabilities from the Amazonian fiefdom. The prevailing thought is that Amazon will revolutionize how groceries are purchased.

Unfortunately, Costco is a laggard in the technology investment arms race as compared to B2C heavyweights Amazon and Walmart; even as e-commerce has captured a larger share of sales industry wide. Costco’s main competitors are devoted to having formidable omni-channel presences which will drive future revenues. In the second quarter of 2017, Walmart’s e-commerce revenue grew 63%; even Target saw a 22% increase as compared to Costco’s 11% [1].

Amazingly, Costco consciously chooses to underinvest in its e-commerce capabilities, which I believe is a disservice to an otherwise strong business model (and the continuing availability of $4.99 rotisserie chickens). In an industry where market share is being gobbled up by a noted technology disruptor, it’s as if Costco has subscribed to the “IT Doesn’t Matter” philosophy. Costco is not only on the defensive technology wise, it’s in catch-up mode. 

On June 15th, 2017 the day before Amazon’s Whole Foods acquisition was announced, Costco stock opened at $180.39. One day later the stock dropped 8.5% to close at $165. As of August 4th, 2017 the stock trades at $156.44 representing a 13.2% drop from June 15th. A more competitive grocery sector combined with Costco’s underwhelming investments in e-commerce technology have not inspired investors as of late.

In this post I’ll touch upon Costco’s advantages with respect to its competitors in the consumer staples and grocery sector, as well as offer some recommendations for its burgeoning digital strategy.

What Costco Does Well (Its Defensive Moat Against Competitors):

The “Treasure Hunt”

Let me be clear, Costco is not going anywhere in the medium run. Its revenues in 2016 totaled $119 billion as compared to $136 billion by Amazon. Costco’s value proposition relies upon attracting customers to its bricks and mortar warehouses, which are infused with “treasure hunt” and impulse purchase appeal. Shoppers explore the vast warehouses and stumble upon unexpected items, bargains and free samples that they didn’t know they wanted in the first place. The company believes that in-store customers will purchase many more items than they would otherwise purchase via an online channel.

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“We still are a bricks-and-mortar entity and we want to get you into the store because you’re going to buy more in the warehouse. You’re going to buy more when that happens, and we’ve got a lot of reasons for you to do that. We also recognize we don’t want to lose the sale to somebody else because they only buy online.” [2] – Costco CFO Richard Galanti

Because Costco sells many items in bulk, it is rightfully apprehensive of the freight costs associated with e-commerce. However, it needs to make progress in shoring up delivery capabilities if it wants to keep pace with Amazon and Walmart; potentially through investments in additional fulfillment centers. Walmart offers many bulk items online through Samsclub.com. Walmart is even experimenting with online order pickup at Sam’s Club locations.

“About a year ago, Costco CFO Richard Galanti said the only thing keeping him up at night is ‘everybody in the world never wanting to leave their house and only typing stuff to order and get it at the front door.’” [3]

Low Prices

In-store customers load up their baskets with groceries and other items in bulk with minimal price markups. Low prices are a strong competitive differentiator for Costco in that it has some of the lowest gross margins in its industry.

“Wal-Mart and Whole-Foods price their goods up higher. Wal-Mart posted 25.65% gross and 2.81% net margins in 2016. Whole Foods, known for its pricey merchandise, had 34.41% gross and 3.22% net.” [4]

Consider that Costco’s numbers are razor thin gross margins of 13.32% and net margins of 1.98%. The bottom line is that Costco shoppers obtain industry leading pricing from the company’s warehouses. Costco appeals to a wide variety of shoppers and it even attracts business customers looking to buy in bulk. In contrast, Whole Foods (derisively known as Whole Paycheck) appeals to a higher income demographic in search of artisanal offerings; thus there is minimal overlap with Costco’s broader range of shoppers. However, Amazon Prime members and Costco members overlap as both customer bases are in search of low prices.

Further enabling Costco’s low price scheme is its strategic use of vertical integration for enhancing product quality and increasing profitability. “Such integration includes Costco working with farmers to help them buy land and equipment to grow organics, building its own poultry farm, owning and operating its own beef plant and hot dog factory, and having its own optical grinding factory.” [5]

Memberships

Costco makes most of its money from selling memberships. The company is able to offer such low pricing and still make a profit because of its successful membership model. Costco charges $60 for its standard memberships and $120 for its executive memberships which pay-out a 2% redeemable award on pre-tax purchase amounts.

“Our membership format is an integral part of our business model and has a significant effect on our profitability. This format is designed to reinforce member loyalty and provide continuing fee revenue. The extent to which we achieve growth in our membership base, increase penetration of our Executive members, and sustain high renewal rates, materially influences our profitability.” [6] – Costco 2016 10K Filing

In other words, it’s easy to match or beat competitor pricing when your business model is buoyed by piles of membership cash. Costco’s 88 million memberships worldwide represent a healthy revenue stream for the company, accounting for an astounding 72% of pretax profits [7]. Furthermore, Costco shoppers renew their memberships at a high rate (roughly 91% in the U.S. and Canada and 88% on a worldwide basis). However, Costco would be wise to note that its “membership revenue growth has decelerated to around 5.5% from around 7%” [8].

Kirkland Signature: The Private Label Brand Everyone Loves

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Whether you are a Costco member or not, you are most likely familiar with its “Kirkland Signature” in-house brand which was started in 1992. The successful brand sells everything from dress shirts to luggage to vodka (i.e. the consultant staples). Costco has done a first-rate job of making Kirkland Signature a strong value play alternative to national brands.

“‘Costco’s Kirkland Signature is the best store brand there ever was,’ said one writer at foodie bible Bon Appetit in August, the same month Wal-Mart paid $3.3 billion for Jet. ‘You wouldn’t expect a brand that makes cashmere sweaters, batteries, and 900-count packs of baby wipes to also produce some top-notch food products’” [8]

Sales of individual Kirkland items have been reported to exceed $1 billion and the brand itself constitutes roughly 25% of Costco’s revenue. Although Amazon’s Whole Foods carries a “365” private label brand and Walmart carries “Sam’s Choice” and “Member’s Mark” (amongst others), both competitors offer Costco’s Kirkland Signature brand through their e-commerce properties.

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According to research from 1010data Market Insights, 69.5% of Kirkland online spend [9] is generated on Amazon! This unofficial cross-platform selling indicates a mashup between strong brand preference and the number one retail e-commerce portal. Since the current selection of Kirkland Signature branded products available on Amazon is offered by third parties, there is an opportunity to capture a portion of that online demand through the official Costo.com channel. Jet.com (recently purchased by Walmart for $3.3 billion) has indicated a phase out of Costco products in order to boost the popularity of the Sam’s Club “Member’s Mark” private label.

Recommendations for Costco:

I’ll open this section with Costco’s own words from its 2016 Annual Statement:

“If we do not successfully develop and maintain a relevant multichannel experience for our members, our results of operations could be adversely impacted. Multichannel retailing is rapidly evolving and we must keep pace with changing member expectations and new developments by our competitors.” [6]

Costco’s relative lack of ambition in e-commerce capabilities leaves the company vulnerable to disruption. Its online sales are currently $4 billion or barely 3% of sales; this figure is far less than smaller revenue retail players like Best Buy and Macy’s [10]. Walmart has poured billions of dollars into its digital and e-commerce capabilities in order to keep pace with Amazon. Costco would do well to leverage some items from the Walmart playbook.

    • Invest in an e-commerce research division to help bolster the organization’s base expertise in this space. Acquire the necessary pool of data scientists, software engineers and PhDs to inject new life into a digital and technology focused strategy. 
      • This approach will allow the company to increase its capabilities in e-commerce basics such as search functionality, order tracking and predictive analytics. Costco is already located in the technology rich talent pool known as greater Seattle.
    • Offer more items online at Costco.com. Focus on re-capturing some of the demand for Kirkland branded Costco products from Amazon. It bears repeating that 69.5% of Kirkland online spend is generated on Amazon!
    • Acquire startups to gain access to digitally focused management teams and their respective technology and insights (a la Walmart’s purchase of Jet.com and Marc Lore). Internal disruptors help cross-pollinate successful ideas that are not considered by the core legacy business.
      • In this sense Costco should acquire Chieh Huang’s e-commerce warehouse startup “Boxed”. Boxed was started in 2013 out of the founder’s garage and is currently known as the “warehouse in your pocket” by millennials. Boxed enables bulk goods to be ordered directly from a mobile app without the need for membership fees.
      • Currently Boxed offers free deliveries on orders of $49 or more. Although Boxed delivers non food items in bulk, it currently purchases its food items from Costco and marks up the price for delivery! [11] Costco has an opportunity to acquire a startup rival in order to gain access to its e-commerce talent.
    • Install drive through stations where customers can pick up online orders at either Costco warehouses or dedicated “click and collect” facilities. Walmart’s Sam’s Club currently offers this service at about 65 of its 660 US stores [12]. The company should be aware that members will not want to pay the markup associated with delivery specialists Instacart and Google Express; especially Costco members who have shelled out for a yearly membership.
    • Increase investments in fulfillment centers that will help temper the expenses associated with shipping bulk products ordered online.
    • Get better at the basics with respect to information technology infrastructure. Granted, core IT infrastructure is not necessarily a strategic resource but it is the cost of doing business. Consider this quote from Costco CEO Richard Galanti:
      • “You know, about three-and-a-half years ago, when we embarked on this dark journey, [we recognised that] we probably had the lowest-cost IT out there. I always joke we were in the greatest MASH unit. It was always up and running, but band-aided to death.” [2]

Costco needs to realize that its “treasure hunt” appeal to customers needs to be paired with a more robust omni-channel approach. This means Costco must ramp up its capital expenditures in e-commerce and mobile just to keep from losing pace with industry competitors who have a substantial head start. Costco will be fine in the medium run for all the reasons I’ve highlighted earlier. But how long until continued e-commerce disruption crosses the organization’s defensive moat and treats Costco like one of its mouthwatering rotisserie chickens?

For more retail related technology coverage check out:

 

References:

[1] Sozzi, B. Jul 19, 2017. Here Is What Costco Should Do to Keep Amazon From Being the Largest Company on Earth. https://www.thestreet.com/story/14233036/1/here-are-the-big-things-costco-could-do-to-keep-amazon-from-being-the-largest-company-on-earth.html

[2] Lauchlan, S. March 8 2017. Costco – an e-commerce tortoise takes on the omni-channel hares. http://diginomica.com/2017/03/08/costco-e-commerce-tortoise-takes-omni-channel-hares/

[3] Levy, A. March 12, 2017. Not Even Costco Is Safe From Amazon. https://www.fool.com/investing/2017/03/12/not-even-costco-is-safe-from-amazon.aspx

[4] GuruFocus. June 22, 2017. After Amazon’s Whole Foods Acquisition, Investors Are Looking At Costco. https://www.forbes.com/sites/gurufocus/2017/06/22/after-amazons-whole-foods-acquisition-investors-are-looking-at-costco/#18b01a50271d

[5] Tu, J. June 19, 2017. Amazon’s move into groceries could squeeze Costco. http://www.seattletimes.com/business/retail/amazons-move-into-groceries-could-squeeze-costco/

[6] Costco Wholesale Corp. 10K/A Annual Report for the Fiscal Year Ending Sunday August 28, 2016. https://www.last10k.com/sec-filings/cost/0000909832-16-000034.htm#

[7] Fonda, D. July 2017. Costco Is Surviving in the Age of Amazon. Warehouse giant Costco continues to prosper despite the growth of internet retailing. http://www.kiplinger.com/article/investing/T052-C008-S002-costco-is-surviving-in-the-age-of-amazon.html

[8] Boyle, M. June 12, 2017. Jet.com Will Phase Out Costco Products After Wal-Mart Acquisition. https://www.bloomberg.com/news/articles/2017-06-12/wal-mart-s-jet-com-carries-costco-products-but-not-for-long

[9] Wilson, T. September 13, 2016. Kirkland’s Online Enterprise. https://1010data.com/company/blog/kirkland-s-online-enterprise/

[10] Wahba, P. December 8,2016. Costco’s Battle Plan for the E-Commerce Wars. http://fortune.com/2016/12/08/costco-ecommerce/

[11] Fickenscher, L. August 4, 2017. Boxed buys from rival Costco before hiking prices for delivery. http://nypost.com/2017/08/04/boxed-buys-from-rival-costco-before-hiking-prices-for-delivery/

[12] Young, J. April 5, 2017. Why Costco Loves Store Sales: You Try Shipping a Tub of Mayo http://www.foxbusiness.com/features/2017/04/05/why-costco-loves-store-sales-try-shipping-tub-mayo.html

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