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Changing Your Business Model; Maybe It’s Not So Easy to Do

by Langdon on May 28, 2012

Ron Johnson was a huge success at Target, and an even bigger success at Apple, where he led the company’s hugely profitable retail chain.  So last year when he was recruited to join JC Penney as CEO of the struggling chain, there were high hopes that his genius would translate into a big turnaround for the 1100 store retail chain that was founded in 1902. When Johnson was hired last summer, Penney’s market cap jumped about $1 billion in a day based on very high hopes for his future success.

But so far the results have not been so good.

“The transition has been tougher than we anticipated,” noted an understated Johnson on May 15 during a presentation to investors.

What’s the problem?  Johnson tried to change Penney’s business model, from one that was based on hundreds of sales per year (590 different promotions costing a cool billion to run) to a completely different approach based on everyday low prices.  The premise was the customers would appreciate straightforward honesty rather than having to sort through a maze of sales, never knowing which price would be the lowest. Apparently they didn’t, as the chain lost $163 million on sales of $3.2 billion in Q1 2012, compared with a profit of $64 million in Q1 2011.  Sales at stores open more than a year dropped significantly, and 10% fewer people came into the stores overall.

Johnson’s perspective on the need for a change to the business model was that since the company spent $1 billion each year on promotions, he claimed that customers had no reason to trust the company since they never knew when the best price would be available.  But this is just one interpretation of the psychology of the situation.  Another view, suggested by consumer psychologist Kit Yarrow of Golden Gate University, is that customers may have interpreted the situation in exactly the opposite way.  Perhaps they saw sales and discounting as a way to buy higher quality merchandise at lower prices, but the fixed-low-prices mean that they’re getting lower quality merchandise at lower prices.  (The quote from Yarrow was in a story in the San Francisco Chronicle on May 27, 2012, page D2, but I couldn’t find any web links for it. It was written by Susan Berfield and Sapna Maheshwari of Bloomberg Businessweek.)

From the perspective of innovation management, this is a very common issue. Stated simply, we can ask, “How do you know if your idea is a good one?” The answer depends on where the idea came from.  Did it come from your own analysis, or did it come by interacting with customers to understand their point of view?

“Our analysis” can rarely be relied upon, as it is often a pyramid of assumptions on assumptions.  Tempting as it is to trust our own superior intellect and acute powers of observation, insight, and analysis, in the end, it is the hidden values, beliefs, and attitudes of customers that determine our success in the market, and while solid logic does matter, it is very often the case that the customers’ perspective is not at all what we expect or understand.

The way to find out, before you risk the farm on a dramatic shift in how you run your business, is to ask customers.  By this I don’t mean focus groups or customer panels, as we have found that the results from this can be deceptive. Instead, the discipline of ethnographic research is an invaluable tool for gaining insight into the deeply held, and usually hidden views of customers.

Rather than guessing what people think and feel, it’s better to find out through rigorous research before you go and change your model to fit what you think they want.  So if Johnson had asked us, we probably would have suggested conducting some ethnographic research with some customers in one or two cities, and then if we were all convinced that the strategy would work, we’d propose the rapid prototyping solution, trying it out in a couple of markets, maybe 11 stores in total, to learn what actually works and doesn’t work without risking the sales prospects of 1100 stores on what was apparently not much more than a belief and an assumption.

We can only infer from what happened to Penney’s that they didn’t do either of these things.  The hole from which Johnson now has to dig the company is alas much deeper.

 

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Teri Chace June 8, 2012 at 5:13 am

HOWever, JC Penney’s has received a lot of press–much of it positive–for using Ellen DeG and their recent Father’s Day ad showing two dads. Their new image is progressive and progressive-minded baby boomers are responding positively it seems. Interesting!

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