CHAPTER 21

Two Disruptions that Weren't

Two large, consumer-facing sectors have had their ups and downs over the past decade, but heretofore neither has been “disrupted” in the way that Linux, Skype, and Google News dismantled existing industries.

Retail

Despite its unquestioned status as an innovator and a leader in customer experience, Amazon historically hasn't been credited with business model disruption on the scale of Napster, Skype, or online brokerages like E*TRADE: That situation may change. While major retailers, including Target and Wal-Mart, appear to be weathering the current economy reasonably well, and many stores may be in for a wave of changes, to date retail looks a lot like it did 20 years ago.

Four overlapping forces appear to be at work to change retail, two of them moving extremely rapidly: economics, demographics, mobility, and social media. Taken together, these powerful waves of change are creating new opportunities, threats, and leaders in a well-established industry.

Economics

Consumers have less money to spend, particularly on discretionary purchases. Three main drivers come into play here.

MORTGAGE EQUITY From 2000 until 2008, Americans withdrew more than $40 billion of mortgage equity per quarter, riding an updraft in housing prices to turn that change in market value into vacations, cars, or kitchen renovations.¹ Now equity is increasing: People are investing more in their mortgages than they are pulling out. Foreclosures certainly skew this number, but the bottom line is that consumers are not converting mortgage equity into consumption at nearly the same rate as earlier.

Perhaps the most visible symbol of the transition is the change in the upscale home decor market: Home Depot's 34 Expo Design Centers closed in 2009. Interestingly, two years later, its Web site was still up. A sampling of the text illustrates the transition from the heyday of renovations, a long way from current days when dollar store and McDonald's stocks top the leaderboard:

Despite record low mortgage rates in 2011, home renting is growing while both new and existing home sales remain slow. The thought of investing in new kitchens and bathrooms for resale purposes feels out of tune with the austerity and reality of the times. That a cost-no-object home improvement palace could be viable only 10 years ago illustrates how fast and how far the pendulum has swung.

WAGES AND UNEMPLOYMENT In addition to the shutoff of mortgage equity cash withdrawals, unemployment remains high: By Gallup's poll numbers, fully one-fifth of the workforce is either without work or working part time when full time would be desired.² For the employed, meanwhile, wage pressure is high: According to Labor Department statistics, year-over-year wage and benefit growth has been slowing for at least the last decade. On average, a worker can expect to see his or her pay packet increase only about 1% to 2% a year. To take a slice of the population I see every day, 40% of Americans in their 20s move back in with parents, in part because expenses are high and job prospects are limited. For their part, the parents themselves may need help making the mortgage.

PRICE PRESSURE Oil prices surged since the wave of democracy movements spread across the Arab oil states. Food prices will head up because oil supplies fertilizer feedstocks and powers tractors but also because of short-, medium-, and long-term factors: climatic conditions (Russian wildfires, Chinese drought, Mexican freezes), competition for crops from ethanol production, and increased meat in the diets of the developing world. When a family spends more for food and fuel and most likely doesn't see big raises (if they're not in the 20% of the underemployed workforce), discretionary purchases will have to shrink.

Demographics

As smartphones become more and more prevalent, distinctions based on the separation of physical retail from cybershopping are quickly disappearing. Significantly, the social couponing startup Groupon says its customers' usage overlaps heavily with smartphones: 68% of users (as of 2010) were 18 to 34 years of age, and 49% were single. Following the Groupon direction, 67% of smartphone users under 35 use smartphones while shopping, according to the research firm Chadwick Martin Bailey.³ As fast as U.S. consumers are buying smartphones, however, they lag southern Europe. According to year-end 2010 figures from the researchers at comScore, U.S. smartphone penetration moved 50% in a year, from 17% at the end of 2009 to 27% a year later. Spain, meanwhile, leads all countries at 38% smartphone market share. Italy is growing more slowly but still ranks second to Spain at 35%.

It shouldn't be a surprise that women are more social than men, but online, they are clearly in the ascendancy.⁴ Consider what these sites all share in common: Women drive 62% of Facebook activity. Sixty percent of Zynga gamers (FarmVille et al.) are women. Seventy-seven percent of Groupon users are women. Women follow more people and post far more than men at Twitter. Women are notably more active than men at dining-related sites, including Yelp and Opentable. Why does this matter? Women control 80% of consumer spending in the United States.

Mobility

Once people go mobile, what do they do? Among smartphone users in the United States, the overwhelming leader in shopping tasks is price comparison. eBay bought the Red Laser start-up in 2010 and quickly rolled out its capability to turn a smartphone into a barcode scanner and compare the Universal Product Code (UPC) of the physical good in the store to prices across virtual merchants. The speed and power of the services are most impressive. Nine million downloads were reported as of early 2011, and eBay has licensed the technology to more than 150 firms, including Coupons.com and Shopkick (about which, more in a moment). Amazon offers the same functionality. Some retailers are defeating the bar codes on their own merchandise (black permanent markers are quick and effective, while some chains historically have pasted proprietary bar codes over the UPC) to prevent in-store price comparison.

The logic of these merchants is easy to understand. Amazon has massive buying power, enjoys a ~6% structural price advantage because of its sharply limited exposure to state sales tax, and has built a powerful lens into various product categories with its affiliate sellers: Shop for a camera, and J&R or Adorama will likely be featured on the page, while in athletic shoes, Road Runner Sports might show up. Through these and other means, Amazon knows and likely often makes the market for a given item.

Apart from these shopping-specific applications, the power of the smartphone platform as a general-purpose computing platform is being explored at a stunningly rapid pace. As mobility becomes more powerful and more flexible, retailers will continue to be pressed to match the innovations of the smartphone. The Apple App Store, operating since 2008, has a section of about 500,000 titles; the Android platform is growing faster and has about as many apps, if not as much revenue.

Having access to such power while in motion has the effect of lowering coordination costs. Services that not long ago required a formal organization can be accomplished on a people-to-people basis. Airbnb (an air mattress in your spare room turns you into a bed-and-breakfast, hence the name) has booked a million room nights and now has launched a mobile app, for example. Square, a potentially disruptive credit card reader attachment for smartphones, allows anyone to become a merchant. Kiva has loaned more than $200 million to more than 500,000 entrepreneurs in just over five years. Zipcar operates a short-term car rental service that would be impossible without distributed wireless technology. Each of these innovations holds challenges and lessons for physical retailers.

For example, access to smartphones changes game play. Check-in games such as Foursquare and Facebook Places allow patrons to become “mayors” of businesses they frequent, or connect to other facets of identity. Shopkick, a two-year-old start-up, gives shoppers reward points simply for checking into a retail location. The service employs a proprietary radio technology that both works indoors and is more accurate than GPS. Best Buy and Sports Authority are both customers.

More recently, two-dimensional bar codes (see Figure 21.1) allow the retailer to leverage the mobile platform to raise customer service capabilities, manage promotions, and otherwise use the same smartphone to help turn the tide of price comparison and the concomitant commoditization. Home Depot launched a program using bar codes to drive in-store purchase behavior, in part through the kind of detailed product information and person-to-person reviews familiar to anyone who has shopped online. Macy's and Best Buy are also experimenting with the technology in selected markets.

FIGURE 21.1 Two-Dimensional Bar Code

Social Media

Shopkick is also significant in that it marries location/mobility with social media. Many users of Facebook and other networks are interested in social change, so Shopkick piloted with CauseApp, which was downloaded more than 500,000 times. It donated money to nonprofits based on a consumer checking into participating retailers. (SocialVibe offers similar functionality to such clients as Disney, GE, and Microsoft but not specifically on mobile.)

Apart from social causes, shopping is an inherently social activity. Groupon is an obvious example: Deals are not merely broadcast but engineered to be shared by social networks. Blippy allowed members to update each other on purchase behavior before shifting direction. LivingSocial began as a social sharing site (tell your friends what's on your bookshelf) but later launched daily coupon deals.

Back in the retail domain, shopping is taking on a social dimension as it overlaps with gaming and entertainment. Calling it “shop-pertainment” isn't elegant, but the description fits. While people have long passed on news of deals to their friends (coupon-sharing sites are more than a decade old), the trend toward merging entertainment and commerce can be clearly seen in the rapid rise of one-deal-at-a-time (ODAT) sites. The granddaddy here is probably Amazon: The Gold Box was introduced in 2002 and has been expanded and refined in the years since. More recently, woot! launched in 2005, offering one deal a day, with the new product available at midnight Dallas time. The social dimension is key: Contests, blogs, and user-generated content abound. Facebook refers significant traffic. Product descriptions are written in a mock-literary tone that can be equally grating, snarky, and humorous: The FAQ expressly states they are included for entertainment purposes. The site then expanded from its core in electronics to include parallel wine, home, T-shirt, and kids' offerings. Amazon acquired the firm in 2010.

In that same period, Gilt Groupe was getting serious publicity. The ODAT firm, founded in 2007, specializes in luxury goods, available only to members for 36 hours. Annual revenues are in the $300 million range. Given the firm's New York offices and proximity to the fashion industry, media attention has been plentiful. The firm's leaders state that it is contemplating an initial public offering in 2012.

Far from New York, another ODAT business has expanded. Backcountry.com is headquartered in Salt Lake City and carries roughly 1,000 brands. Its family of sites sell bike, snowboard, ski, and outdoor gear, sometimes at aggressive discounts. As opposed to Amazon (which hosts Gold Box deals for a few hours), woot! (24 hours), or Gilt (36 hours), Backcountry's steepandcheap site usually sells in 30-minute windows. Matching the inventory, the price, and the time is akin to television programming: Much as local stations rely on late-night comedian David Letterman to bring viewers to their 11:00 P.M. newscasts, steepand-cheap and its sister sites like Bonktown (for cycling gear) need people to sit on the site for more than one bargain.

Several tools help drive Backcountry's success. First, social media and texting allow people to clue fellow enthusiasts in to new deals. Second, the site can send alerts to mobile devices, and smartphone owners can purchase from that platform. Finally, affiliate sites, some of them aggregators, also help spread the word among deal hunters. Given that these are discretionary purchases, the game elements of the presentation help provide incentive: Counters convey the number of people on the site (for the Web site version, not the app), the current inventory levels, and the time remaining. Deals may show up multiple times per day; somewhat fewer than 48 unique products are featured every 24 hours. But because of the randomness, an average of about 10,000 to 12,000 users can be watching the site during daylight hours.

The model clearly works. In one 30-minute segment, 168 Oakley sweatshirts came up at $16.99 each; 152 sold, for a net revenue of $2,582. In another block, 339 pairs of cold-weather boxer shorts sold at $14.00 apiece; that netted $4,746. Averaging those random examples gives about $3,600 per half-hour, $7,200 per business hour, or perhaps $75,000 to $100,000 per 24-hour day. Guesstimating $500,000 per seven-day week would extrapolate to $25 million a year just for one site; others, devoted to bigger-ticket items including bicycles, would have different profiles. All together, Backcountry.com is a $250 million business, according to the firm's Web site.

Adding It Up

Where is retail heading? Three overall trends appear to be mutually reinforcing:

1. Physical and virtual shopping are becoming indistinguishable. Shoppers can touch and compare physical items at the same moment they are accessing extensive price comparisons, researching detailed descriptions of features and benefits, and weighing word of mouth (either archived on review sites or real-time via Twitter).
2. Retailing, particularly for discretionary purchases, must transcend price, selection, and service. Involvement, whether through game elements (including the in-store promotions made possible with smartphone bar-code readers), user-generated content (e.g., ski videos at Backcountry), clever ad copy, or other features, is becoming more important in some categories.
3. Price and performance pressure will not relent. Groupon and LivingSocial are conditioning bargain hunters to expect 50% off as the baseline. Amazon's volume purchasing, supply-chain excellence, and tax-advantaged status make it difficult to beat. At the same time, its sites load fast, its mobile apps are appealing, and surveys rank it at the top of on- or offline customer service polls. Regardless of prime real estate, customer goodwill, or previous isolation from competition, local retailers cannot avoid confronting the long reach of the Seattle superstore. In addition, Amazon never stands still, constantly innovating, acquiring, and refining, making it a moving target for anyone else to benchmark, much less emulate.

Real Estate

It's hard to believe that in the 15 years since the notion of Internet disintermediation first received widespread attention in Bill Gates's book The Road Ahead, we're still being surprised. If you look at travel agents who formerly collected a lot of money for printing airline tickets, for example, the prophecy has come true.

Residential real estate was another field predicted to be toast. John Baen and Randall S. Guttery predicted in 1997 that jobs would be lost to automation, commissions would drop, and more sellers could sell direct.⁵ The logic of the argument is strong, even in hindsight, but it doesn't hold up. Instead of being pushed aside by the Internet, real estate agents, individually and in powerful trade associations, have been aggressive in their adoption of emerging technologies. Rather than being disintermediated, the National Association of Realtors has become the subject of Federal Trade Commission and Department of Justice inquiries into price maintenance: U.S. house sellers generally pay a 6% commission while in the United Kingdom, the figure is only 2%.

What happened that the prediction could be so far off?

The picture is not unambiguously successful. Real estate agents in the United States enjoyed a year of extremely high market activity in 2004, but average commission income went down, in part because average selling prices were accompanied by a drop in the average commission to 5.1% and in part because the barrier to entry for the field is low enough that lots of new aspiring agents got their licenses. Still, this increased interest largely means that the field was a victim of its own success. Six factors appear to have helped real estate brokers avoid disintermediation:

1. Real estate is a relationship business. Whether an individual is hunting for scarce properties in a hot market or scarce buyers in a cool one, good real estate agents embed themselves in deep social networks. The trust required for buyers to make what is typically the biggest purchase of their lives does not translate to a browser-based form. In a tough market for house sellers, people often find their buyer through a real estate agent who had been working with her as a buyer's broker. Could a Web site, however thorough, have emulated that trust if people try to sell the property themselves?
2. Houses aren't plane tickets. To the extent that house purchases are deeply personal and given that every buyer is different, the matching of buyer to property requires both architectural and psychological understanding, patience, and some luck. Real estate agents spend a lot of time behind the scenes learning the market, tracking trends, and generally becoming informed as to what combinations of features will match up best with a given buyer.
3. Control over information confers power. A real estate transaction involves multiple layers of information: comparable sales, future uses for nearby vacant land, whether the neighborhood kids are nice and the schools good, what kind of builder put up the structure, and so on. Little of this exists in standardized databases, and it's both hard and expensive to generate in a channel outside traditional real estate firms. Where data does exist in structured form, access both to add and to view important kinds of information is tightly controlled.
4. Organization is power. The National Association of Realtors is large, well funded, and effective in influencing legislation. Many attempts to create alternative business models, involving less than full service but more than for-sale-by-owner behavior, have been literally or effectively outlawed in certain states. No comparable organization exists for travel agents, for example.
5. Real estate has embraced emerging technologies. I can recall seeing the iPix 3-D photographic demo at a trade show in the late 1990s; now fly-throughs, often sophisticated, are a staple of real estate Web sites. Some brokers have taken to using blogs as another tool to build relationships, confer authority, and generally keep their names in play. Even so, the most powerful tool for most agents remains the mobile phone, a device and set of capabilities that the Web has a hard time replacing.
6. Home buying is a complex transaction. As my former Penn State colleague Steve Sawyer and his coauthors have found, it's naive to speak of disintermediation, singular, in the process of purchasing a house or condominium. The Web has clearly changed the process, but there are too many moving parts in the transaction for it to be conducted completely on line. Some business-to-business aspects are moving toward standards like XML to smooth work flows between, say, mortgage lenders and title insurers, but conceiving of the process as analogous to even car buying ignores the coordination and other roles played by a trusted party in a complicated, emotional, and large purchase. As Sawyer et al. state, “The analytic simplicity of categorizing complex transactions as either intermediated or not belies the web of connections and actions that make selling and buying real estate a multi-state and multi-step process.”⁶

It's good counsel to observe as we analyze other predictions in the future.

Notes

1. http://financialinsights.flles.wordpress.com/2011/02/mortgage-equity-withdrawals.jpg.

2. Dennis Jacobe, “No Improvement in Gallup's Underemployment Rate in May” Gallup Economy, June 3, 2010, www.gallup.com/poll/139346/no-improvement-gallup-underemployment-rate-may.aspx.

3. “Smartphones Lead to Greater Transparency in the Shopping Experience”, Press Release, Cmbinfo.com, March 9, 2011, http://blog.cmbinfo.com/press-center-content/bid/55078/Smartphones-Lead-to-Greater-Transparency-in-the-Shopping-Experience.

4. Aileen Lee, “Why Women Rule the Internet,” TechCrunch blog, March 20, 2011, http://techcrunch.com/2011/03/20/why-women-rule-the-internet/.

5. John Baen and Randall Guttery, “The Coming Downsizing of Real Estate,” Journal of Real Estate Portfolio Management 3, no. 1 (1997) 1–18.

6. Steve Sawyer, Rolf Wigand, and Kevin Crowston, “Redefining Access: Uses and Roles of Information and Communication Technology in the U.S. Residential Real Estate Industry from 1995–2005,” Journal of Information Technology 20, no. 4 (2005). See also Waleed Muhanna, “The Impact of e-Commerce on the Real Estate Industry: Baen and Guttery Revisited,” Journal of Real Estate Portfolio Management 8, no. 2. 2002, pp. 141–152.