Wharton's Marshall Fisher discusses why retailers must break their 'addiction' to top-line growth.

Successful retailers can grow quickly in their early years simply by opening new stores. But eventually they run out of real estate, and then they need the discipline to stop opening new stores and focus instead on driving more sales through their existing stores. They can boost sales and profits dramatically by making changes in the way they run their existing stores, such as with help from analytics and the use of technology.

In fact, several such small changes brought in profits that helped 17 retailers outperform the stock performance of the S&P 500 index, according to a new study titled “Curing the Addiction to Growth” published in the Harvard Business Review by Marshall Fisher, Wharton professor of operations, information and decisions, along with his co-authors, Vishal Gaur (who has a PhD from the Wharton School and now is a professor at Cornell’s Johnson School) and Herb Kleinberger (who has an MBA from Wharton and for many years led PWC’s retail practice).

The study covered a 22-year period, ending in 2015, at 37 companies. This group began the 22-year period with double digit top-line growth, which inevitably slowed to the low single digits during 2011-2015 as the retailers reached the maturity stage of their life cycle. Some winners, such as footwear retailer Foot Locker, saw their stock market returns grow 33% a year over this period, or nearly triple the S&P 500 average. Others that witnessed handsome stock market gains include Home Depot and McDonald’s.

The lesson for the laggards is to pause, acknowledge the slowing growth, and look for solutions other than opening new stores. Fisher says retailers, as they mature, must break their “addiction” to top-line growth and adjust their strategies to the changed realities. He sees that maxim play out also with companies outside the retail industry. That approach could apply even to countries as they shift gears, he says, citing China’s efforts to move away from low-end contract manufacturing for the rest of the world to building its own brands for its domestic market.

Fisher spoke about the chief takeaways from his research in a video interview with Knowledge at Wharton. (An edited transcript of that interview appears below.) He and HBR editor Steve Prokesch also discussed it on the Knowledge at Wharton show on Wharton Business Radio on SiriusXM channel 111. (Listen to a podcast of that conversation below.)

Knowledge at Wharton: How did the idea for this article came about?

Marshall Fisher: My co-authors and I have worked with retailers for a long time, maybe 20 years. Back in the mid-1990s when we started working with retailers, many of the successful ones were category killers that had been founded in the 1970s and were still growing at a hugely rapid rate. You can think of Home Depot, Staples, Urban Outfitters – a long list of retailers. [They were] the iconic success of the time. [They were] young, had an innovative format, [and posted] rapid growth.

We can add Wal-Mart to that list. I remember [thinking that their growth rate] can’t go on forever. Wal-Mart’s compounded annual growth rate in its first 20 years was 43% a year. If Wal-Mart had kept growing at that rate, its revenue [today] would be more than triple the world’s GDP.

It’s obvious that you eventually run out of places to put stores. Or if you’re an internet retailer, rapid growth depends on attracting new customers. There’s a finite number of people in the world, so you’re going to have to slow eventually.

Why is so much emphasis placed on top-line growth? It’s glamorous. It’s cool. Everybody likes it. My co-authors and I wondered, what happens when top-line growth inevitably slows? Do you curl up and die, or is there a way to prosper with single digit revenue growth?

“What happens when top-line growth inevitably slows? Do you curl up and die, or is there a way to prosper with single digit revenue growth?”

Knowledge at Wharton: How did you go about conducting your study?

Fisher: Vishal [Gaur], our data analytics expert, collected data on several hundred publicly traded U.S. retailers. We narrowed that down to 37 retailers that had been continuously in business for a 22-year period ending in 2015.

As a group, [the retailers in our study] had been growing at around 15% [a year]. In the last five years, that growth has slowed to 4.6%. They had all gone through this lifecycle of rapid growth to maturity, and most of them had languished. Their stock had been flat in the last five years. But a handful were really rocking. Foot Locker, for example, had experienced single-digit growth in the last five years, but [had a] stock market return of 33% per year, which is triple the S&P [index] over a five-year period. That’s impressive.

How the Winners Did It

Knowledge at Wharton: That’s remarkable growth. Of the group of 37 companies, 17 were successful. How did they do it?

Fisher: First of all, we define success as five-year total stock market return that exceeded the S&P 500 return, so 17 companies were above [that level]; 20 were below.

They did a couple of things. They stopped or greatly slowed their rate of opening new stores. By the way, the winners and losers had essentially identical top-line growth rates. The winners got that growth mostly through existing stores, whereas the less successful group got their growth mostly by opening new stores.

You could think about which is easier – opening a new store or somehow getting your customers to drive more traffic and more sales through existing stores. The first is much easier. It’s much easier to open a new store, [although that is] not trivial. But which is more accretive to earnings? It’s the comp-store sales because you’re leveraging an investment you’ve already made in your existing stores. So what retailers call comparable-store sales growth is incredibly enhancing to profit.

Knowledge at Wharton: Even though opening new stores is easier, it’s also probably much more expensive.

Fisher: It’s more expensive.

The Growth Addiction

Knowledge at Wharton: Going back to the title of your study, what is driving this addiction to growth even though retailers realize that they’re driving growth at the cost of their profits?

Fisher: Let’s first recap the growth model. When Wal-Mart was growing at 43%, they were opening stores at about the same rate – 43%. And their profit was growing at about 43%. So what they are doing is running their business through a copying machine. They’re just turning out more and more copies of the exact same business. They did enhancements to the business model, of course, but most of the gain came from just scaling the business.

That’s a great game to play as long as you have enough places to put new stores. But eventually you’re putting stores in less desirable locations, and you’re cannibalizing existing stores. So, suddenly when you open X% new stores, revenue doesn’t grow by X%; it grows by something a little smaller than X%. Then what happens is your expenses are growing faster than your revenue, and eroding your earnings.

Why is it so hard to let go of that? The most interesting finding was not the formula for success, which is to drive comparable-store sales. I talked extensively with Bob Marshall, a vice president at McDonald’s, which was one of the successful retailers in our study. He said, “Look, the formula for success is scale until you run out of geography and then drive comp-store sales until you run out of ideas.” So the scaling by opening new stores is pretty much an execution game. Wal-Mart executives are constantly on their iPhone. They’re working like demons, sun up to sunset with a to-do list. They’re executing because that’s the “open store” game.

“Whether it’s the financial investment world, the stock market analysts or consultants, they all like to talk about the growth story. It’s a kind of addiction.”

In driving comp-sales, you’ve got to be more thoughtful. That’s an idea game. They’re very different games. Not to pick on Wal-Mart or sound like I am because I have great admiration for them, but if you are playing the execution game, they famously disdain hiring from the Ivy League [universities]. [They] don’t need those high-falutin Ivy League types. That’s a different kind of talent than if you’re figuring out ideas. It’s a different game, and it requires different talent.

I think in general the popular world, such as the business commentators, like growth. It’s a positive, simple story to understand. This idea that, “Oh yeah, we’re not growing the top line all that much, but we’ve figured out all these smart ways to grow our bottom line” maybe sounds a little like financial engineering to people and their eyes glass over. So whether it’s the financial investment world, the stock market analysts or consultants, they all like to talk about the growth story. It’s a kind of addiction, I think.

Also, if you’ve been opening stores, and that’s been your modus operandi, you’ve got a whole group within the company whose job is to open stores. You would have to fire that group or curtail them [if you change your strategy]. So there’s an infrastructure in most retailers, both emotionally and physically, and external forces leading that way that make their first thought when growth slows to redouble their top-line growth. There’s a kind of a denial period. Many of our successful retailers, such as Home Depot and McDonald’s, went through a period of maybe five years where they pushed growth beyond the point where it was there to be profitably had, and had to at some point say, “Wait a minute, this isn’t working; we’ve got to change our game.”

Changing Old Mindsets

Knowledge at Wharton: In changing the game, how do you make the transition from a mindset that is focused on execution to a mindset that’s focused on ideas?

Fisher: Step one is to accept reality. You need to collect metrics — sales per store, for example — to know when the scaling strategy you have been following is no longer working. Most of the successful ones used [the metric of] return on invested capital. For a new store there’s an investment, and a return, which is the profit on the sales. You need to slow or stop opening new stores when that number goes the wrong way. Step one is to simply look around you and assess the effectiveness of what you’re doing.

Then there’s a different set of projects you’ve got to put on your capital budget list, which drive comparable-store sales through your existing stores. For example, Foot Locker installed a device called a “scan gun,” and this was one of 20 or 30 things they did. We all know what the shoe process is like. You go in. You tell the sales associate what you’re looking for. He goes to the back room and he brings out two or three pairs. You try them on. Maybe one doesn’t fit. In another, you don’t like the color. The sales associate goes back and forth to the back room, making typically five or six trips. All this takes a long time. Meanwhile you’re leaving the customer sitting there.

So Foot Locker put in place this scan gun that would let the sales associate while he’s in front of the customer know exactly what’s in stock in the back room of that store, neighboring stores or on the internet so he could have a more helpful conversation with the customer on what they’ve got that might be more toward what [the customer is] looking for. And he could have an assistant bring those shoes out to the customer. That added 2% to store sales, they estimated. That is not a huge number, but [the effects could be large if] you do 20 or 30 things like that.

All of those take an investment, just as opening a new store takes an investment. So in your capital budgeting process you start looking at not just new stores as investments to drive your top line, but also things you can do within the stores [with help from] technology.

Knowledge at Wharton: In addition to Foot Locker, you also mentioned Home Depot and McDonald’s as retailers that did very well. Do you have any examples of some of the ideas that they implemented to more intensively drive business through their stores?

“You need to collect metrics — sales per store, for example — to know when the scaling strategy you have been following is no longer working.”

Fisher: Absolutely. Other companies I would put on that list, who we interacted with, are Macy’s, Dillard’s and Kroger. Home Depot conceived and added private label products to their stores. They leveraged the internet with what they called a connected retail approach. Macy’s had a concept they called their “MOM strategy” which was an acronym — “My Macy’s” was the first M, and “Omni-channel” was the second. My Macy’s was localizing assortment by store. You think about the factors of production in a store. It’s the assortment you offer, in what quantities and at what price, and what staffing levels you have in the store. All of those things you can measure, as my colleagues and I do in our research. You’ll see variation over time in staffing levels, or in price, for example. You can correlate revenue with those changes, to measure the impact on revenue of changing your price or staffing levels in a store. Once you know how revenue varies with staffing levels or price, the level of those factors can be optimized.

McDonald’s did menu additions. Kroger used a lot of analytics in their stores. I’ll give you an example. They have traffic counters, so they know when people are entering the stores. They also have POS (point of sales) data so they know when people are leaving the store. They know typically how long it takes for someone to shop in the store. This may sound low tech, but it had a big impact. They started forecasting when people would show up at the cash register and then staffing to that forecast. They cut the wait time to check out from – if I remember right – something like three minutes to 10 seconds. That drove 1% or 2% of comparable-store sales.

When you look at all these things, any one thing is a little bit of blocking and tackling. It does not look that dramatic. But 1% or 2% plus sales [growth from each] if you’re doing 20 or 30 things like that becomes big news. That’s how the total stock market return of the 17 retailers that followed this approach over the period 2011-2015 was 21.9%, significantly above the S&P 500. For the other group of 20 retailers that continued to rely mostly on opening new stores, their total stock market return was 2.8%. So that is a difference of a factor of almost 8 between the successful retailers and the less successful.

Pause, Take Stock, Change Tack

Knowledge at Wharton: One of the stories we often hear in the media is that retailers are doing badly. Repeatedly we read articles about retail chains going bankrupt. The overall narrative seems to be that brick-and-mortar retailers are doomed because of the internet. To what extent do you buy into that narrative? Or is it too simplistic?

Fisher: It’s too simplistic. Our story, I guess, would be a little more nuanced. First of all, we think that assuming a consistent situation for the entire retail industry is obviously silly. You’ve got new startup retailers, and lots of them are still in the high-growth phase. You’ve got some retailers [for whom] probably the reason to exist has gone away and they will go out of business.

But we learned that a segment of retailing – bricks-and-mortar retailers that have gone through a lifecycle of high growth and are now in maturity – is struggling because the majority of them are following the wrong strategy. By the way, this applies not just to retailers but to any company or countries that need to adjust their strategy at different points in their lifecycle. China was a high-growth country after its economy opened up in 1979. They had huge growth through basically labor cost arbitrage. Well, wage rates have [since then] gone up in China by double digits, which is good and that’s what the Chinese government wanted, but eventually you can’t play that game anymore. So their growth has slowed and they’ve got to play a different game.

So retailers, companies and countries all need to adjust their strategy over time as they start with high growth and inevitably see that growth not decline, but slow. Ken Hicks from Foot Locker commented, “I can leverage as little as 2% revenue growth.” So he can live with 2% [growth]. Same with Macy’s. But not zero or negative.

Knowledge at Wharton: If we had with us right now the CEOs of some companies that are up against this slowing growth phenomenon, what advice would you give them about how they should deal with it?

“Retailers, companies and countries all need to adjust their strategy over time as they start with high growth and inevitably see that growth not decline, but slow.”

Fisher: Well, recognize that it’s a change. I’ve talked about retailing where opening stores is the growth instrument or the most commonly used one. Their change would be to shift to making investments in technology or process changes within their stores to drive comparable-store sales growth. Other companies, such as non-retailers, would have to think through what might be a logical shift in strategy. China, for example, is shifting out of low-end manufacturing. They don’t want to be the T-shirt maker of the world anymore, and are now focusing on innovation, branding, and selling within the internal economy. Some Chinese companies are emerging that are a different breed from the factory owners that made footwear and apparel in the 1980s, 1990s and even the last decade. So that’s another example of the largest country by population going through the same transformation.

Knowledge at Wharton: What surprised you most about this study?

Fisher: That’s an interesting question. [There were many surprises.] That you can be phenomenally successful. That the successful group put up a 20% stock market return over a five-year period. [They were] phenomenally successful. That they all followed a pretty consistent strategy. That when I would talk to people about how do you grow your earnings when your top-line growth [falls], the common answer would be, “Well, it’s cost cutting, right?” [But for the successful companies,] it wasn’t cost cutting. It was asset leverage. It was a different strategy than what we had thought of. So those were all surprises.

The biggest [surprise], though, is just how many companies have this addiction to growth. It took us a long time to come to that title. But it slowly dawned on us how hard it was to make the transition, even at successful companies that went through periods of denial, such as Home Depot and McDonald’s.

Knowledge at Wharton: Did any question come up during the study that you would like to address through future research? If so, what would that be?

Fisher: I think maybe it would be interesting to see the degree to which this applies to internet retailers, because even though they don’t open stores, they do acquire customers. Just as there’s finite space for stores, there’s a finite [number of] customers in the world. It would be interesting to think about how the lifecycle idea applies to companies other than retailers or to countries.