Chapter 6

Omnichannel Strategy

Soon after his appointment as chairman and CEO of the French hotel chain AccorHotels in August 2013, Sébastien Bazin confronted a major challenge. Online travel agencies (OTAs), such as Travelocity, were gaining a greater share of hotel bookings. He realized that OTAs were both a blessing and a curse—they were an important source of business for his hotels, yet their increasing power was a threat to Accor’s long-run profitability. In India, meanwhile, an insurance company was facing a similar challenge. It had built its business almost entirely through insurance brokers, but as digital technology evolved and consumer behavior changed, the company faced the dilemma of how to develop the online channel without jeopardizing its broker business. Back in the United States, many retailers have been facing internal competition from their own e-commerce ventures and continue to grapple with the question of how to craft a unified strategy for their physical and digital stores.

As the world moves from bricks to clicks, companies are struggling to develop an effective omnichannel strategy. By now everyone recognizes that the choice is not whether to have physical stores or digital channels but how to manage both at the same time. How do you avoid channel conflict? How should you link digital and physical channels? Should physical stores be redesigned as digital channels evolve? In this chapter we will explore some of these questions.

Are Channels Substitutes?

Inherent in the discussion of channel conflict is the assumption that different channels compete with each other as substitutes. The insurance company believes that the online channel would take away business from brokers and that this would create conflict. Financial services firms are concerned about the reaction of their brokers as robo-advising gains traction. Banks feel that online banking would replace branch banking. Retailers see online shopping coming at the expense of sales in their stores.

To some extent these beliefs are true, and in the long run online transactions may indeed replace a large fraction of physical transactions. However, the challenge is how to manage the transition. How do you build the online channel without jeopardizing the large and often profitable business from the offline channel? The key to managing this transition is to think of different channels as complements, not as substitutes. Each channel is best suited for certain products, for a specific group of customers, or for a certain part of a consumer’s decision journey. The trick is to identify these complementarities and build around them.

Complementarity Across Products

Consider the case of the Indian insurance company. In my conversation with the company’s CEO, he described the situation as follows:

With the large mobile penetration in India and changing consumer behavior, I am convinced that the future of our company lies in a well-developed digital channel. This channel will not only be more convenient for our consumers, but it will also be significantly cheaper and it will allow us to collect valuable consumer data to target them effectively with personalized offers. The old way of selling insurance through independent brokers is likely to become a thing of the past in five to ten years. But brokers see any investment in the digital channel as a threat to their very survival and are threatening to take their business away to our competitors.

How do you manage this conflict? A solution that is often considered in these situations is to offer the same commission to brokers even if customers do transactions online. However, as the online channel gains traction, this option becomes increasingly costly and unsupportable, as brokers benefit without putting in the requisite effort.

After much discussion and debate, the senior management team realized that given current consumer behavior, the online channel was perhaps best suited for selling simple products. With its extensive reach and low cost of marketing, this channel could become an effective and efficient customer acquisition tool. And once customers were acquired through the online channel, they could be handed over to existing brokers, who could cross-sell more expensive and complex products to them. This approach appealed to brokers, too, since it reduced their burden of customer acquisition, leaving them to focus on selling complex, higher-margin products that required their expertise. Now, as the company gains experience in building its online channel and as customers become more comfortable in navigating through a complex array of products on this channel, the company expects to see an increasing migration of customers and of revenues from its physical distribution system to its digital channel.

Let’s consider another case—this time for one of the largest luggage companies in India, VIP Industries. The company manufactured the first VIP suitcase in 1971, and since then it has sold over sixty million pieces of luggage worldwide. It has 8,000 retail outlets in India and a network of 1,300 retailers across twenty-seven countries. In one of my visits to India, I met Radhika Piramal, the managing director of VIP Industries and an alumnus of Harvard Business School, who mentioned a difficulty similar to that of the insurance company—how to build VIP Industries’ digital channel without alienating its independent retailers and distributors? At that time VIP Industries generated almost all its business from the offline retailers, but it believed that future growth would come from the online channel.

Once again it helps to think about the role each channel might play for different products. In the case of VIP Industries, retailers carry only a limited set of products, usually the best-selling variety. The online channel can offer more variety and customize products for consumers by, say, engraving their names on the luggage or even producing luggage in unique colors. Such offerings would not cannibalize retail sales. Instead, they would provide different and complementary products to a subset of customers who desire distinct, customized choices. And even though it is cheaper to serve customers through digital channels, the company could charge a premium for these offers, further reducing cannibalization and potential conflict with its retailers. Over time the digital channel would grow as the company gains more experience and as customer behavior evolves.

Complementarity Across Customers

If you were to ask any bank about its digital strategy, you would probably hear that it is closing retail branches and migrating customers to its digital and mobile channels. This was true for most of the banks in Turkey—except for one, QNB Finansbank, the fifth-largest private bank in Turkey.¹

Founded in 1987 by Hüsnü Özyeğin, Finansbank initially focused on wholesale commercial banking, serving the needs of Turkish corporations that local banks did not cater to. A decade later, as retail banking flourished in Turkey, Finansbank entered that market with a focus on mass segment through credit cards and consumer loans. In 2010, Ömer Aras, the chairman and one of the founding members of Finansbank, noted a big gap in its customer base. “We were quite strong on the retail end of the mass market,” Aras said, “and we had a pretty good presence on the private banking side. The in-between area, which was the fast-growing middle-income segment, was essentially ignored.”

Aras and Temel Güzeloğlu, the company’s CEO, considered offering the existing services of the bank to this new consumer segment, but they had a hard time coming up with a unique value proposition that would distinguish Finansbank from its competitors. By 2010, the Turkish banking industry had strong and sophisticated banks, such as Garanti Bank and Akbank, which dominated every segment of the market. To create differentiation and to serve this tech-savvy mass segment, Finansbank created a completely new brand, called Enpara, a purely digital bank with no branches and high interest rates, offering ease of use and a strong focus on the customer experience. Within a year of its launch, Enpara acquired 110,000 customers and three billion Turkish lire in deposit. Three years after its launch, Enpara became profitable and boasted an enviable customer satisfaction rate of 99.4 percent.

Complementarity Across Customer Lifecycle

Different channels may serve customers at different stages of their decision journey, as illustrated by the L’Oréal case. In 2011, Carol Hamilton, the president of the Luxe Division of L’Oréal USA, was contemplating the role of different channels for Kiehl’s, one of the beauty brands that L’Oréal had acquired in 2000. The Luxe portfolio consisted of eight brands, including Lancôme, Giorgio Armani, Ralph Lauren, Yves St. Laurent, and Viktor & Rolf.

“Kiehl’s Since 1851,” as the company is officially known, was founded in 1851 in New York City by John Kiehl.² Since its inception, the company has avoided advertising and has instead focused on extensive personal consultation with its customers to offer them the right products. Kiehl’s started with a single store and over time came to include fifty-two company-owned retail locations around the country. In 1975, the company’s distribution strategy changed and Kiehl’s started offering its products in department stores such as Neiman Marcus and Bloomingdale’s. Later Kiehl’s started its own e-commerce channel to offer the company’s products to consumers on the web. By 2010, Kiehl’s was generating $121 million in sales by three different channels (see table 6-1).

TABLE 6-1

Kiehl’s sales and profitability by channel

Source: Adapted from Robert J. Dolan and Leslie K. John, “Kiehl’s Since 1851: Pathway to Profitable Growth,” Case 514-044 (Boston: Harvard Business School, 2013, revised 2015).

Throughout its evolution Kiehl’s stayed true to its “no advertising” policy to keep its exclusive appeal. However, this strategy came at the cost of underexposure. A March 2009 study of beauty brands showed that awareness of Kiehl’s among women eighteen years old and older was only 12 percent, compared with 73 percent for Lancôme and 88 percent for Estée Lauder. Hamilton’s challenge was to grow brand sales by 15 percent per year for the next five years while being consistent with the original heritage of the brand. She elaborated:

How do we best manage “going to market” in so many different ways with Kiehl’s? We want to accommodate the way a Kiehl’s buyer wants to shop. Lots of companies are now dealing with “bricks and clicks” integration. We have to harmoniously manage two sets of “bricks and clicks”—our own and our retail partners’.³

Looking at table 6-1 it may be tempting to conclude that Kiehl’s should retrench from its expensive brick-and-mortar stores and instead grow its e-commerce business, which accounted for only 10 percent of the company’s sales but which also generated a significantly higher margin. However, after rigorous consumer research and careful analysis, Hamilton and her team concluded that each channel serves a unique purpose at different stages of its customers’ decision journey.

Company-owned stores, with their engaging window displays, serve as expensive billboards to intrigue passersby and entice new customers. Once a customer walks into a store, a trained salesperson can communicate the Kiehl’s value proposition to her and identify the best products that might suit her. In effect, these stores are a great vehicle for customer acquisition. Department stores and other retail partners generate lots of foot traffic and also help in extending the reach of the Kiehl’s brand. Given the brand’s low awareness, the company’s e-commerce site is used mostly by existing Kiehl’s customers looking to find new products or to order supplies of their favorite product. In other words, the online channel serves best for customer retention.

Recognizing this role of the online channel, Brigitte King, the senior vice president of digital strategy, e-commerce, and CRM for the Luxe Division, launched several successful retention programs. An example of this was the “four touch” program for buyers of the company’s Midnight Recovery Concentrate, a product that was offered in a one-ounce bottle for $46 and would typically be consumed in twelve weeks. Seven days after purchase, the company sent its customers a “thank you” email along with information on what results they should expect at this time. Fourteen days after purchase, the customers received recommendations for complementary products (which they could buy on Kiehls.com) along with results to be expected after fourteen days of use. After twenty-one days, customers received testimonials from “customers like you” and results expected after three weeks of product usage. And twelve weeks from purchase, customers received a message with the headline “Are You Down to Your Last Drop?” along with a link to “Shop Now” at Kiehls.com.

Managing Channel Conflict and Gaining Channel Power

Sometimes offline and online channels do create significant conflict for a company. Sébastien Bazin, the chairman and CEO of Accor hotels, saw this conflict grow out of the rising power of online travel agencies (OTAs).⁴ By aggregating demand for multiple hotel properties, OTAs managed a 23 percent penetration in the European hotel market in 2014, compared with only 9 percent by hotels’ own websites. In 2015, Priceline and its online platform, Booking.com, offered rooms from 600,000 hotels that attracted over 234 million unique monthly visitors and generated $50 billion in gross bookings. In contrast, even with its global footprint, Accor had only about 4,000 hotels and 2014 gross revenue of €12 billion.

Accor is not alone in facing this pain. Almost all hotels and airlines are facing similar pressure from OTAs. These channel partners are both friends and enemies at the same time—friends because they bring additional business in an industry (hotels) with high fixed costs and an average occupancy rate that doesn’t reach 70 percent, but also enemies because they divert a large portion of traffic from a hotel’s own website and because bookings made through OTAs cost hotel owners as much as 25 percent in commission. Summing up the ongoing battle between hotels and OTAs, technology consultant Robert Cole said, “So the burning question is what is more powerful—brand or distribution?”⁵

In the United States, airlines have been handling a similar challenge with a variety of different approaches. Southwest Airlines refuses to make its inventory available to OTAs—perhaps as a result of its unique position in the industry as a low-cost carrier and its loyal customer base. In an attempt to regain control, American Airlines, in December 2010, decided to make its own inventory unavailable to OTAs. However, recognizing consumers’ desire to compare prices across various airlines, in June 2011 an Illinois court ordered American Airlines to make its flights available through OTAs. Even without the court order, American Airlines’ strategy was not sustainable in the long run since the OTAs control a large portion of demand in the airline industry.

Bazin was keenly aware of how channel conflict was playing out in the airline industry. He was also intrigued by a new initiative, Room Key, started by a consortium of six major hotels (Choice, Hilton, Hyatt, IHG, Marriott, and Wyndham). By creating Room Key, the hotels hoped to offer consumers an alternative to OTAs. In addition to some financial investment in Room Key, each hotel partner decided to redirect to Room Key 10 percent of the customer traffic that exited its own proprietary website without booking. Since only 5 percent of customers that visit a hotel website actually make a booking there, this represented a large pool of customers who could be directed to Room Key and from there potentially to one of the other five hotel partners.

For Bazin it was a difficult decision whether or not to join Room Key. While it provided a counter to the growing power of OTAs, Room Key did not have the resources to build a brand and generate awareness among consumers. Trivago and Expedia spent over $100 million each to build their brands. Priceline’s global ad-search budget with Google was estimated to be over $1 billion in 2012. And even with six hotel partners, Room Key would have only 75,000 hotels on its site compared with 435,000 on Expedia and 600,000 on Priceline. Was Room Key the answer to Accor’s problems?

The Enemy of My Enemy Is My Friend

As OTAs continued to wield more power, new players were emerging in this field. Two in particular caught Bazin’s attention—Google launched instant booking, which allowed consumers to book hotel rooms directly on Google without navigating through hotel or OTA sites, and TripAdvisor, which until recently had been a lead generator for OTAs, decided to offer hotel booking on its own site. In order to gain traction in a market dominated by Priceline and Expedia, these new aggregators were charging almost half the commission rate of traditional OTAs. So instead of joining Room Key, Accor decided to partner with Google and TripAdvisor, hoping to reduce the power of Priceline and other OTAs.

In a further attempt to create a balance of power, Accor—in 2015—became an OTA itself. The company changed its name to AccorHotels and started offering independent hotels the opportunity to make their rooms available on its booking site, at commission rates lower than those charged by traditional OTAs. Explaining this move, Bazin said, “Transforming our distribution platform into an open marketplace is a major initiative for the Group . . . We are becoming a trustworthy, selective and transparent third party . . .”⁶ However, two years later it abandoned this strategy as it had difficulty attracting other hotels to its site.

Is Channel Conflict the Real Problem?

For Accor, perhaps an even more important matter to consider is whether channel conflict is its real problem. After all, OTAs bring in new customers to Accor properties—customers who otherwise might not have found Accor. Is Accor doing enough to ensure that these customers keep coming back to its properties? In 2014, the company’s loyalty program, Le Club Accorhotels, had eighteen million members but only 24 percent of them booked directly with Accor. Why are Accor’s loyal customers not booking directly on its site? If Accor offers a superior value to its customers, we would expect a much higher booking rate on its site. Amazon’s customers are far less likely to comparison shop on the web than Accor customers seem to be doing, even though Amazon sells standard products that are available at many other retailers.

Physical and Digital Fusion

Talk to any retailer and you would hear of the importance of embedding technology, such as beacons, in stores. Beacons would capture data about consumer traffic patterns, data that would enhance retailers’ ability to serve their customers—at least that is the theory. Yet there is hardly a retailer who has been able to leverage such data effectively. Starting with technology is rarely productive. Instead, ask yourself what consumer problems you are trying to solve and how technology might enable you to solve those problems.

In a retail environment there are at least four consumer pain points that warrant attention:

• Finding Things. How many times have you gone to a hardware store, a bookstore, or a department store and been unable to find the exact item that you were looking for? And how difficult was it to find a sales associate who was willing and knowledgeable enough to assist you? You don’t need to do market research to know that this is a common pain point for consumers. It has an easy solution, too: Retailers can install kiosks or iPads in strategic locations in the stores, and customers can use these to search for items. If it turns out the items are unavailable in the store, customers can use the same devices to order them online. Yet retailers who are willing to invest millions in sophisticated technology have given little thought to this simple solution that addresses a major pain point of consumers.

  Hointer, a retail-technology consulting firm based in Seattle, prototyped a new store to solve this consumer problem. When customers walk into a Hointer store, they see over 150 styles of jeans, shirts, and tops hanging from steel cables. Not all sizes and colors are visible, but if a customer likes a particular style, he or she can scan a barcode on the selected item, indicating the desired size, and walk to a nearby dressing room. Within thirty seconds, micro-robots dispatch the products to the dressing room from the back of the store via chutes. Customers can try on the items, discard the ones they don’t want in a chute, and pay for the selected items in the same dressing room by swiping their credit cards. Since products are stored in the back of the store rather than displayed on shelves, Hointer stores have one-fifth the floor space and half the number of staff of a typical retail store. Apart from lowering costs and making shopping easier and faster, this approach has increased sales, as customers end up trying on—and buying—many more products. Hointer found its shoppers, on average, try on twelve items instead of the usual three to five, which has in turn increased sales by 30 percent to 50 percent.

• Trying Things. Most consumers want to try multiple items before selecting the one they’ll buy. Recognizing this desire, companies that were once purely digital players, such as Bonobos, Warby Parker, and Rent the Runway, have started opening physical stores. Sephora, the French chain that sells over three hundred cosmetic and beauty brands, including makeup, lotions, fragrances, nail polish, and hair-care products, always knew the importance of offering free samples of products in its stores for consumers to try. However, the company recognized that consumers are informed and influenced by online content offered not only by the company itself but also by several independent “beauty gurus” who have large followings on YouTube. Sephora already had a strong digital presence, but as a next step, its mobile app now allows customers to scan physical displays in stores in order to view online content such as customer reviews and tutorials on YouTube on how to use specific products. And in March 2017, Sephora launched the Sephora virtual-assistant app, which allows customers to scan their faces and virtually apply different lip colors, eye shadows, and eye lashes.

  teamLab, a Japanese company of creative professionals and engineers who call themselves ultra-technologists, designed an interactive hanger for clothes. When a consumer picks up a dress from one of these hangers, the wall in front of the consumer turns into a giant digital display showing several models wearing that particular dress. It is not hard to imagine extending this technology to show the consumer, instead of models, on the display screen with that dress.

• Paying for Things. Perhaps the worst part of a shopping experience is when you’ve found the ideal product but have to wait in a long line to pay for it. And there is always someone in front of you who needs to return some item—which will take a very long time. Why can’t retailers make the payment process easier and more efficient for consumers?

  Starbucks’s mobile app has been a huge success because it solved exactly this problem for consumers. You can now order and pay ahead using your Starbucks app, and by the time you reach the store, your steaming hot cappuccino will be waiting for you. Panera Bread has also started offering its customers the option to pay within its app, using Apple Pay, so that they won’t have to wait in line to pay when they come to pick up their order. Amazon surprised everyone by testing a new store concept, Amazon Go, which allows its prime members to walk into its store, pick up any item or items, and simply walk out—no need to stand in line to pay for anything, since Amazon already has your credit card if you are a prime member and the technology in the store recognizes you.

• Returning Things. According to the National Retail Federation, over 10 percent of the holiday gifts purchased in 2015 were returned. Return rates for online purchases are even higher, estimated to range from 15 percent to 30 percent. While returns are costly for retailers, allowing them has to be weighed against the potential benefit of making it easier for consumers to buy without worrying about the difficulty of returning the items. Often, returning the items is a very painful experience for consumers—they have to stand in a separate line that has limited staff and a long wait. For some retailers, this is part of a deliberate strategy to dissuade consumers from returning products. However, making the shopping experience difficult and painful for consumers is usually not very productive in the long run.

  Recently some retailers have been trying to improve consumers’ experience with returning items. In early 2017, the Nordstrom Rack in New York’s Union Square was testing a “Drop & Go” service that allowed customers to scan an item and drop it off without standing in line for a cashier. Happy Returns, a Santa Monica–based startup, is opening “return bars” for e-commerce companies that do not have any physical presence.⁷

As Jeff Bezos, the founder and CEO of Amazon, has often said, the goal of a company should be to remove friction for consumers, and technology should be used to do exactly that.

Disney’s MagicBand

For decades, Disney’s Magic Kingdom in Orlando, Florida, has been delighting young children and their families with their favorite characters and amazing rides. However, the rising popularity of the theme park created long lines and unbearable wait times at premier attractions such as Space Mountain. To solve this problem, Disney started a program called FastPass, which guaranteed a ride time for popular attractions. Passes were issued at the rides and stamped with a designated return time. Although the idea was to reduce the frustration of families waiting for hours in line for their favorite ride, the way in which passes were issued had an unintended consequence. Families would wait anxiously outside the theme park, and as soon as it opened they would rush to get these passes. Many families would devise elaborate plans to split into different teams so as to get as many passes as possible—hardly a magical experience for consumers.

To solve this consumer problem, Disney introduced the FastPass+ online system, where consumers could reserve up to three rides in advance. It also created MagicBand, a stylish rubber wristband with a built-in RFID chip. Now, when you book your ticket online and pick your favorite rides, Disney’s computers analyze your preferences and create a personalized itinerary, which—along with your FastPass+ reservations—are loaded onto your MagicBand. When you arrive at the park, you don’t need any tickets or credit cards—you just tap your MagicBand at the gate, at rides, or at restaurants.

Disney has also installed thousands of sensors throughout the park, which communicate with the MagicBands and convert the park into a giant computer system. If you make a reservation and order your food in advance at its restaurant called Be Our Guest, sensors near the restaurant alert the employees of your arrival and the kitchen starts preparing your food, which magically appears soon after you sit at a table.⁸ If the sensors detect too many visitors approaching a ride, Disney can, in real-time, start a parade around the corner to entertain guests without them experiencing the pain of waiting for their ride. The technology also allows Disney employees to optimize their time. Instead of handling tickets and payments they can now spend more time with guests and help create magical memories. By blending the digital and physical worlds, Disney is creating a truly magical experience for its guests.

Amazon’s Omnichannel Experiment

In recent years Amazon shocked the retail industry by opening a handful of physical stores. Why would a highly successful e-commerce player open physical stores when it had gained a unique competitive advantage by eliminating the fixed costs associated with brick-and-mortar stores? There are at least four reasons for Amazon to test this omnichannel strategy.

1. New Product Categories. Retail stores continue to dominate several product categories, such as groceries, furniture, and large appliances. For such categories, consumers still prefer to shop in person. Amazon has struggled to make a dent in the (estimated) $770 billion grocery category. And even for consumers who are comfortable buying groceries online, fresh produce is still difficult and expensive to deliver, which is why Amazon charges $15 a month for its AmazonFresh service on top of its $99 annual Prime membership.
2. Amazon Devices. In recent years Amazon has become a major player in devices, with such offerings as Echo, Dash Buttons, and Kindle. Most of these products are designed as complements (they are the razors) that help Amazon sell things such as books and other merchandise (which are the blades). Amazon has sold these devices through retailers such as Best Buy, and in recent years it has also started opening pop-up stores to increase their visibility. Its own stores are the next step in this direction and may further enhance the sale of its devices.
3. Prime Membership. As mentioned in chapter 1, Amazon has roughly 75 million Prime members globally, and they not only provide a substantial income through their annual membership fees but also on average spend twice as much on Amazon as non-Prime buyers do. Since online commerce in the United States accounts for only about 15 percent of all retail sales, the offline market represents a huge untapped area for Amazon. Physical stores can potentially become a customer acquisition channel for Amazon’s Prime membership and online commerce.
4. Reinventing Retail. Testing physical stores also allows Amazon to reinvent the retail industry. It has already done so, to a degree, with Amazon Go. Further, it is using customer data and customer reviews to select and display books for its bookstores. In the future, it is conceivable that Amazon will sell retail-technology services to other retailers—just as it built Amazon Web Service (AWS) first for its own e-commerce business and later offered it to other companies.

Disney’s use of technology in its park and Amazon’s foray into the offline market demonstrate that companies need to reimagine the synergies between physical and digital channels for creating a powerful omnichannel experience for their customers.