Disruption on every high street…
I once heard Harvard Business school Professor Michael Porter talking about the theories of disruption advanced by his colleague, Professor Clay Christensen. Porter said something to the effect that if the proponents of disruption were right about the scale of the phenomenon, then we would be finding disruptive businesses under every paving stone. Safe to conclude he felt that the focus on disruption was overdone.
UK retailers would probably disagree with Professor Porter. In the last week or so a range of announcements by retailers, together with the latest data on the UK market, suggest that the sector is facing disruption on many fronts. We have heard much about the impact of online shopping on retailers but the scope for technology to disrupt operations is increasingly clear. At the same time, a lower pound is driving up import costs and Brexit could potentially create further disruption to both trade and labour supply. All of this is happening at a time of changes to policy with a new regime for business rates already in place, the apprenticeship levy about to start to bite and possible future changes to employment legislation and taxation on the way. It does seem that UK high streets do have disruption under every paving stone.
…forcing the pace of change…
I have previously commented on how UK retailers were hedging their bets on responding to technology led disruption. Yes, it is true that online has led to the launch of new capabilities but by and large this has been taken as a hit to margins rather than at the expense of legacy activities. Effectively UK retailers have been experimenting with their business models, testing out future solutions but keeping their options open as to the likely end-state business model.
Experimentation is going to have to end as the pressure is mounting. Inflation, measured by the CPI, hit 2.3% in February and when we look at factory gate inflation, it is clear that more price pressure is in the pipeline. Costs are rising, but wages are not keeping pace and as employment growth is expected to slow, retailers will find consumer spending coming under pressure as the EY ITEM Club recently noted.
But challenges go beyond the macroeconomic. There are an increasing number of reports on the pressure that workers in the delivery industry are under. The squeeze that online activity places on prices through greater transparency is well known, but it is increasingly clear that the whole online value chain is very fragile. Valuations of online businesses remain very high but it is not clear to me that there is much margin being made across the whole value chain and many workers are certainly making very little. The Taylor review of employment practices is ongoing but it does seem likely that there could be additional challenges created indirectly for retailers when proposals for the future regulation of employment emerge.
…and changing labour markets all increase the pressure.
While experimenting with business models, it also seems to be the case that, compared to their peers in France for example, UK retailers have been slower to adopt technology. This largely appears to have been a rational approach given the price of UK labour relative to capital, the growing labour supply and the relative flexibility of UK labour legislation. The signs are that the dynamics are changing, most obviously because Brexit is likely to have implications for the UK’s future labour supply. Even before there are any formal curbs on the free movement of labour, we are seeing increased reports of shortages of EU workers in some key sectors. This is likely to hit retailers directly as employers but also via disruption to their supply chain in key areas, such as food.
The race is on…
It does appear the transformation starting gun has been fired. Recent results’ announcements have tended to be accompanied by discussions on the need for change and the key steps being taken. Most striking for me is the recognition that decisions on the business model cannot be put off any longer. The approaches been proposed include:
- Acceleration of the use of technology to reduce labour demand, with an associated loss of jobs;
- Reworking of operating models to reduce the numbers of senior staff in-store;
- Changes in the store estate including consolidation, some moves to open larger stores and the use of franchising models to take up surplus space;
- Additional investment in online capabilities to enhance the customer experience and improve responsiveness; and
- Changes to operating models to reduce time to market.
But we can expect the pace to accelerate as there is no sign of the disruptive pressure easing. I believe the key area to focus on is the online value chain. All we hear about the distribution element of the value chain suggests that the economics are very difficult and highly sensitive to labour costs. As telecoms operators, utility companies and other sectors have found, last mile economics are very challenging. Expect to see this issue become more prominent in the coming months as retailers work to create a sustainable long-term business model.