Former Kohl’s president Jay Baker discusses the chain's transformation into a national retailer.

When department store chain Kohl’s went public in 1992, it’s three managing partners made a commitment to run the chain “the right way” — that they didn’t make any “short-term compromises that will hurt us in the long-term,” partner and former president Jay Baker said.

In the second of a two-part interview with Knowledge at Wharton, Baker, who also established Wharton’s Baker Retailing Center, discusses how Kohl’s grew to become a national retailer, the changes facing the retail industry due to the growth of e-commerce and one thing that hasn’t changed — the importance of taking care of the customer.

Read the first part of the interview.

An edited transcript of the conversation appears below.

Knowledge at Wharton: When you went public, how did that change Kohl’s and how did that create new challenges?

Baker: Let’s start with the positives: it gave us the opportunity to access cash and build new stores. Then as we got bigger, we generated our own cash to continue expanding.

Many people say, “Wow, it’s really tough when you go public.” But I think it’s even tougher today. But yes, it’s difficult. You’ve got to report your numbers and we reported every month and every quarter. And the markets are tough. If you miss earnings expectations by a penny, they could kill your stock. It’s a crazy world.

But you know what’s tougher than being a public company? When we were highly leveraged and a bank had our debt, the bank could have just decided to say, “We’re not giving you any more money.” That’s tough. Going public was much easier.

As we were looking at going public, the three partners sat down and said, “We’re just going to run this company the right way.” We certainly have a great allegiance to our investors, but the biggest allegiance is to our own employees. We’ve got to make sure that we’re going to run the company right, not make any short-term compromises that will hurt us in the long term. We really adhered to that.

But let me tell you something that I’m really proud of: Over the course of 14 years, we never missed a quarter. We may have had a down month, but we never had a down quarter in 14 years. I’m proud of that. We had a lot of growth and that helped us a lot. And I think we just had a great concept. In the 1990s, we may have been the hottest retailer in America and we were building new stores and expanding. We started building 10 stores, then 15. Then we got up to 100 stores a year.

We never had this vision that we were going to be a national retailer. I think if you have that vision when you start, you start to hire too many people and do some crazy things. We just went step by step. We didn’t want to be the biggest, we just wanted to be one of the best retailers. We wanted to make money and we wanted to be successful. That was it. We didn’t have this grand vision, but we kept going.

We went into Chicago, Detroit and Minneapolis. Then we went into other areas like Texas, L.A., Philadelphia, Pittsburgh and New York. And it worked. So all of a sudden, we’re nearly a national company and we had never dreamed of that. But it happened.

“We certainly have a great allegiance to our investors, but the biggest allegiance is to our own employees.”

We’re proud that today we’re just short of 1,200 stores and bring in $19 billion per year in revenue. I have a t-shirt from 1986 that says, “The 164th Largest Department Store.” One of the buyers gave it to all of us. Today there’s probably about 20 or 30 department stores and we’re in second place, after Macy’s. We were a little behind JCPenney until, unfortunately, they had one of the worst years in the history of retailing. So now we’re the second biggest retailer after Macy’s, but Macy’s bought May Company to become that big. So that’s pretty amazing.

Knowledge at Wharton: That’s remarkable.

Baker: We’re proud of that. And we’re continuing to be a wonderful department store.

We all retired around 2000. I got off the board around 2006 or 2007 and the others just got off the board this year. They’re a little younger. My protégé actually runs Kohl’s now, Kevin Mansell. We’re proud that when we left we were about $8 or $9 billion. And now we’re making $19 billion. So I think we left a solid foundation, that’s very exciting.

Knowledge at Wharton: That’s remarkable. Let me take you back to the 1990s to ask a question. You went public, but the other big thing that happened in the 1990s is that the Internet came along and e-commerce came along.

Baker: Well, it really wasn’t big at that time. It was just starting. It really picked up more in the 2000s.

Knowledge at Wharton: As a fast-growing brick and mortar retailer, what was your first reaction to the arrival of e-commerce? Did you want to dismiss it as a passing fad? Or did you think that it would become really big?

Baker: To be honest, we ran Kohl’s until 2000 and there just wasn’t much in the Internet at that time. We spent a lot of money to improve our systems and automate many different things to improve the store experience, the register experience, our buying systems and our allocation systems. We spent a lot of money. We believed very strongly in being ahead of the curve.

This was just starting and it picked up speed as we were on the board. I can tell you this, we were very vocal about how important this was going to be. Initially, this online side of the business didn’t report to the CEO. I said that was the biggest mistake in the world. I said, “This is going to be your biggest growth vehicle. It’s going to explode. That’s what’s going to happen. I can’t tell you how big it’s going to be, but it’s going to be incredibly important.”

Management was a little slow in getting into it. But then the CEO took it over and now they’re on par with the other retailers. I think a lot of the brick and mortar retailers were slow in mobilizing. They saw it, but I don’t think they realized how big and important it was going to be.

To give you an example, when I ran Kohl’s with my partners, 75% of our advertising was in newspapers, 25% was in television and radio. Last time I spoke to Kevin, our advertising in newspapers was under 40% and dropping. And radio and television advertising has changed because you’ve got 80 million television stations. Before, you could target your audience pretty easily. But now social networking and the Internet are so big, and I think it’s still a big problem for our industry. I think everybody knows it’s important. Everybody’s putting a lot of money into it. They’re finding out that it costs more to do online retailing compared to selling from the stores, so the profit margins are a little different. It’s something that I want to look at further. Maybe we can study this more … to answer the following questions: How do we become more efficient? How does it work better? What percent of the business? What’s the growth? I think there are a lot of questions there.

All of a sudden, you have a giant online retailer called Amazon that comes along and it’s able to do all sorts of things, but it doesn’t make any money because it reinvests the money. But people say that’s fine. The point is Amazon doesn’t make much money. If a regular retailer did that, the stock would be zero. If you miss earnings expectations by a penny, your shares can drop by 10%. But Amazon has been able to do this because its taking market share and people believe that one day they’ll own the world.

What’s happening, naturally, is that there are new companies coming out to compete with Amazon. Plus, every brick and mortar store understands online retailing is part of the business.

But it could really work in your favor to have a brick and mortar presence with an online side because you can use the Internet, ship from stores, customers can also return in the stores, and this combination is something that can work very well as long as it’s understood.

“We didn’t want to be the biggest, we just wanted to be one of the best retailers.”

One of the big problems with advertising now is that you can’t see it working. When we used to run ads in newspapers, you knew the circulation and the types of people you were targeting and then you knew how many pieces you sold. You really could see if the advertising was working or not working, and whether the items were good or bad. Now, you’re advertising in a way where you’re not really getting the results immediately. The results will come, but it’s a little trickier.

It’s a complicated thing for everybody. When you look at the retail landscape, many retailers are gone because the leadership didn’t change with the times. But you’ve got one thing in retail that’s never changed: You’ve got to take care of the customer. I think the retailers who are changing and adapting to what’s new and what customers want will do well. But it starts with the merchandise. You must have great merchandise. You’ve got to have an environment where they want to shop. And you have to understand how they want to shop. If they want to shop with a telephone, if they want to shop with their computer, if they want to shop on-line, however they want to shop, you want to be there.

I was just in some classes talking to students and I asked “How many people read newspapers?” One hand went up. That’s not what they do today. But we grew up reading newspapers. These generations growing up now are our customers. We have to understand what they want and be able to take care of them. As a retailer, you’ve got to be on top of this.

This trend means that people running companies have to be more broad based. You’ve got to be well rounded and understand more things. But that’s OK; that’s what the business is. You’ve got to be open minded and willing to change. And the guys and girls that do that are going to be very successful. The other ones will be similar to the 130 department stores that don’t exist today.

Knowledge at Wharton: You spent your whole life in retail. If you think back on your career, what would you say is the biggest leadership challenge that you ever faced? How did you deal with it and what did you learn from it?

Baker: One of the problems you always have is related to getting promoted. When you start out in your career, you can become a great buyer, but then you can be promoted to become a divisional merchandise manager and you have six buyers reporting to you. Then you don’t have to be the best buyer. You have to be is the best people manager. It takes time to learn how to get people to work well together and how to look at the big picture and how to find the best businesses to invest in. You’ve got to give your workers the authority and responsibility to do their jobs. That is initially a tricky thing to learn.

“Initially, this online side of the business didn’t report to the CEO. I said that was the biggest mistake in the world.”

When we walked into Kohl’s, we understood Kohl’s, but it was in shambles when we took over. It was losing money, it wasn’t gaining market share. It wasn’t doing anything. The three of us were together and we had invested our own money, plus we had to borrow money because we weren’t all wealthy guys. So there we were with borrowed money, with a company that’s really tough, and we didn’t have the greatest workers at the start. We had to sit down and ask ourselves, “What do we want this company to be?” We spent a lot of time thinking about this and we wrote a half page detailing what Kohl’s is. And today, Kevin sent me a manual that they give to all of the employees, and it starts with that same damn page from 1986. The company has changed a lot, but that same principle has remained. We had to do that and stick to our plan. But that was tricky because things happen and you change and you don’t want to waver. You do things to make it work, but you stay with what you believe. That’s not the easiest thing to do, especially when you’re running a highly leveraged company and you could go out of business any day. I think the toughest thing we had to deal with was managing all of that. We had this highly leveraged firm but we just focused on making the business work.

But we had a lot of confidence and we were very fortunate. Bill Kellogg and John Herma had similar, wonderful backgrounds. We were three seasoned people who got along very well. They’re still like my brothers. We are still very friendly. You hear of business partners that don’t talk anymore, but we get along very well. So you take three different people with different personalities and skills and you have to figure out how to make things work without stepping on people’s toes. That was tricky because we hadn’t done that before. Beforehand, we had always worked for somebody and there was always somebody else making the ultimate decisions. It was a big change when we had to start making all the decisions. We were fortunate because we felt we were ready to make those decisions. But you can still have sleepless nights sometimes about it.

One of the toughest times we ever had, which really shaped Kohl’s, was in 1987 when we had a mini recession. We were just one year into this whole thing and we were still very leveraged. It looked like Christmas was going to be a disaster. I remember going home and thinking to myself, “What the hell do we do?” I called Bill and John at home and I said, “Let’s meet at 6 a.m. tomorrow to talk.” The three of us sat down and decided we had two choices — either hunker down and try to survive, or do something dramatic. We came up with the plan that we would lower our prices to make ourselves super competitive and put more marketing dollars out there. Every extra marketing dollar had to be saved by expenses. We sat down the whole company and said, “We’re going to cut this amount of dollars in expenses and we’re going to put it into heavy-hitting marketing. We’re going to lower our prices and we’re going to bring in enough goods to make this a success.”

Thankfully, we had some wonderful vendor relationships that helped us cover our backsides a little bit. We had a 16% Christmas that year, probably better than any other retailer. We were very small, but making that move at Christmas gave us a lot of confidence. It proved that if we make a big move — but with good thought, and protecting ourselves with expenses and protecting ourselves with vendors – it could work. That was a big turning point for us and that gave us momentum. But that was a tough decision to make because it was a big risk, even though we tried to protect ourselves. These are some of the things we remember as special things in the history of Kohl’s.

“The point is Amazon doesn’t make much money. If a regular retailer did that, the stock would be zero.”

Knowledge at Wharton: How do you define success?

Baker: If I look at my career, for many years I worked for others. I worked my way up. When I was starting out at Macy’s, I made $3,200 a year. Macy’s said to me, “Don’t tell everybody because you’re from Wharton and we’ll pay you a little more.” I didn’t tell anybody because all my friends were making more money. I thought to myself, “Boy, if I make $10,000 per year, I’ll be doing good.” But then I made $10,000 and it didn’t mean anything because so much of that extra money went into taxes. It didn’t change my lifestyle.

Ultimately, I think success is doing something that you are passionate about and doing it well and gaining satisfaction from a successful career in whatever area you choose. None of us partners thought about making a lot of money. Making money is wonderful, but that was not a priority for us. Making Kohl’s successful was the main focus. You get a lot of satisfaction from taking a little company and making it into a national department store with $19 billion in revenue.

But somebody once said to me, “You dreamed that vision.” I said, “Are you kidding me? I would have passed out.” We just wanted to make it to the next day. It was all about building blocks. But it was also about doing something you loved and making something happen. For example, as an artist, you can make a great painting. As a schoolteacher, you can feel successful if your kids all go to college. Or whatever it is. But it’s important that you have a goal and you achieve it.

If you make money at some point, that’s great. But I don’t think that was ever the motivator. But you’re happy as hell to have the money. And it’s changed my whole life because I have this money now and even though I’m retired I still have a lot of energy and I want to give back.

Both my wife and I grew up middle class and even though my parents sent me to Wharton, I worked summers and I worked after school. I wasn’t a wealthy kid. But I was so happy that I went to Wharton. So when we retired, I said, “I’m not going to work eight days a week anymore. I’m not going to build another Kohl’s.” So my wife and I decided to give back. We’ve been so fortunate and we’ve gotten involved in a lot of charitable activities. Of course, one of my favorite activities is being involved at Wharton. I love Wharton and the retailing center and the students. It is such a wonderful feeling that we’re able to give back and do these things, and we wanted to do it in our lifetimes. In the old days, you’d have a foundation and when you died, the money would be given out. But it’s nice to see the money being used for worthy causes while I’m alive and to be involved in it and see it happening. This is our choice, not somebody else’s choice.

So when you think about success, it’s remarkable to look back and see we’ve got this $19 billion company that’s still here and still doing well. We employ all these thousands of people. We helped a lot of people become pretty successful. That gives me a wonderful feeling of success. And because we were successful, we can give back and help other people, and that’s a wonderful feeling. We’re really proud to do that.