Inno in Services Retail Report

8/3/2019 Inno in Services Retail Report

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Innovation in the UK Retail Sector

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Preface

Oxford Institute of Retail Management (OXIRM)

The Oxford Institute of Retail Management (OXIRM) is a leading centre of retailstudies based at the Sad Business School, University of Oxford. OXIRM wascreated in 1985 to relate sound scholarship to the practical needs of retailers,service companies and public sector agencies. It undertakes managementdevelopment programmes for companies, conducts research with direct relevanceto practitioners and acts as a centre for education and networking activity.

Authors

Latchezar Hristov and Dr. Jonathan Reynolds

Latchezar Hristov is a senior lecturer in marketing at Sheffield Hallam University and doctoralresearcher in the area of management and innovation at Sad Business School, University of Oxford.

Dr. Jonathan Reynolds is a lecturer in management studies at the University of Oxfords SadBusiness School, and Director of the Oxford Institute of Retail Management.


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Executive Summary

1. In the current discussion on the stimulation of innovation in services, the practice of innovation inretailing is poorly understood and inadequately measured. And yet retailing is the eighth biggest sectorof the world economy in terms of total market value and accounts for 7% of total value-added and

10% of the UKs working population. The retail sector makes direct contributions to GDP andemployment, but also makes indirect contributions to demand and economic growth through its work with suppliers and business service firms, as well as to the UKs social and environmentalperformance. Innovation by retailers plays a critical role in allowing the sector to make thesecontributions. The 17 th annual edition of the UKs R&D Scorecard notes that Tesco and Marks &Spencer are amongst the UKs R&D leaders and fastest growing R&D spenders respectively.

2. However, conventional measures of innovation suggest that the retail sector scores relatively lowly compared to sectors such as pharmaceuticals, biotechnology or knowledge-intensive based services.40% of UK retail firms claimed to be innovation active in 2005. Whilst these results are notdissimilar to those for many other service sectors, it also suggests that conventional measures of innovation may not capture the full picture. Is there less innovation in retailing, or do retailersinnovate differently?

The distinctive characteristics of retail innovation

3. Our research suggests that innovation in retailing has several distinctive characteristics which are noteasily captured by conventional measures of innovation. Firstly, retailers are acting as innovationbroadeners in the value chain, or innovation hubs , deciphering existing or impending consumer needsand communicating them upstream to suppliers. Secondly, the retail environment is one in whichinnovations can be easily copied. Such a low appropriability environment causes innovating retailers to

work differently, perhaps starting small, or working incrementally, before rapidly scaling up hithertohidden innovative activities. Thirdly, much retail innovation is non-technological in nature. Whilsttechnology is important, it has a smaller role in relation to innovation than in other sectors. Fourthly,however, some retailers have hybrid characteristics which can make them more than purely servicebusinesses. Some retailers are vertically integrated (such as Zara or Migros). Others may exhibit amanufacturing approach to product innovation for example, in relation to own brands. Finally,retailers can experience a reverse innovation cycle , where unlike in manufacturing financial andorganizational costs attached to innovation are low at the beginning and high at the end, following perhaps an extended roll-out.

4. Retailers recognise the crucial role of innovation for the performance of any retail business, butattribute a real range of meanings to the term, which may contribute to under-reporting in surveys.

Whilst innovation is seen by all as a necessary means for survival and growth, how to stimulate,manage and measure it is a matter of organizational choice. Retailers make the distinction betweenstrategic retail innovation and operational retail innovation. Strategic innovation represents more a radicaldeparture from business as usual, (developing a wholly new online offer, or a new format) whilst themajority of operational innovation comes from what many prefer to call newness, or a stage below

innovation. Such innovation is inevitably incremental, and might include anything from the extensionof own brand ranges through to experimentation with checkout queue management techniques.Further, retail innovation appears to occur in three main applications areas: offer-related,(in product,service category, channel or format), support-related (technology, systems and the supply chain), and organization-related (providing innovative management and delivery frameworks for the previous two).

The drivers of retail innovation

5. There is broad agreement amongst retailers as to the drivers of innovation within the sector: boththose external and those internal to the firm. As might be expected from a customer-facing industry,the most significant external driver of retail innovation is the customer. One-stop shopping, the dollarstore concept, in-store theatre, multi-channel retailing, fast fashion, EDLP or more holistic customercentricity initiatives are all innovative responses to changing consumer trends. Growing international

competition coupled, with continued industry concentration and the disruptive effects of the Interneton consumer demand and shopping habits also invariably affect the way in which and the pace with


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which retailers innovate. In terms of internal drivers, the majority of retailers think that strategy drivesinnovation in terms of its direction, the resources available for it and the timelines devoted to it, sinceinnovation often requires sustained support. Many also talked about the will to implement new ideasbeing as important as the ideas themselves and highlighted the role of the vision and leadership of senior management as entrepreneurs of the business and in creating a culture within innovationcould flourish.

Barriers to retail innovation

6. The majority of retailers do not perceive there to be any barriers to innovation within their businesses. Amongst those that do, the biggest barriers are reportedly in relation to costs, in particular the cost of finance and the perceived economic risks of innovation (especially for SMEs). Shortages are seen inrelation to technical, leadership as well as project management skills. The majority of retailers claim toknow their markets well and to have little concern that lack of knowledge about technologicalpossibilities works to prevent innovation. In relation to regulation, the majority of retail firms reportno experience of barriers preventing innovation, although a number of specific issues do emerge.

These include: the availability of allowances for mitigating some of the risks of innovation, as well as alack of a common agenda across Government to stimulate investment in sustainable innovation,

which often results in conflicting outcomes on the ground for firms.

Measuring retail innovation

7. Innovation needs to be measured in order to be successfully managed. Retailers tend to focus most onshort term tangible performance outputs, based on cost benefit analysis and captured throughtraditional measures of performance but much less on the longer term commercial impact of innovation as a value added activity. Measures are adapted from existing KPIs, rather than being innovation-specific, since retail innovation is often incremental and dispersed across differentdivisional budgets. The vast majority are financial are relate to sales and market share impact, rate of return and measures of profitability. Retailers also recognise that the soft benefits of innovation - interms, for example, of brand value, or total impact on the business - are less well measured, due tolimitations in management accounting systems, but some progress is being made in tracking the shareof new activities in the broader context of the business, including customer perceptions about theretail and its brand.Stimulating and supporting innovation in retailing

8. Governments around the world have recognised their responsibility for supporting and stimulating innovative activity by firms. Similarly, however, many governments have also historically shared apreoccupation with the manufacturing sector over services, and support for technological over non-technological forms of innovation. This is now changing and the present UK Government initiativeinto Innovation in Services forms part of this broader response. Existing Government policiestowards innovation can be adapted to the needs of service sector firms in three particular ways:

Deepening of existing policy (making innovation policies more service-friendly); Broadening of existing policy (recognising that innovation within the service sector are more

likely to span firms as well as whole value chains); and Horizontalisation of existing policy (recognising that other policies not explicitly designed to

stimulate innovation may indirectly improve the climate for service sector innovation.)

9. We identify four distinct areas of policy focus which provide the basis for our recommendations:

a. Provision of support mechanisms for retail innovation;b. Promoting innovation in sustainability by the retail sector; andc. Fostering skills and organizational innovation in the retail sector.

10. We also make recommendations for those areas in which the Government might better focus and

communicate existing activity, in addition to potentially providing new stimuli which might matter particularly to retailers because of their commercial benefits.


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Recommendation 1:

Improve the effectiveness of innovation-related support activity within Government.

This will require:

A more systematic approach to co-ordinating information & expertise in Government & NDPBs which mimimises bureaucracy and improves access. The provision of a one stop shop hosting information on initiatives, support and services available to the sector, especially to SMEs.

A better mechanism for identification, prioritising and channelling of commercial, innovation-relatedinitiatives and research to firms (a single voice).

Encouragement of longer term horizon scanning that is more relevant to retailing: facilitating theshowcasing of new ideas with commercial potential and supporting projects on the margin.

Government should identify an appropriate mechanism or intermediary to channel innovation-relevantinitiatives simply and efficiently to the correct individuals within the sector and to prioritise those of mostcommercial relevance to the sector. Evidence that the sector was responding with purpose and conviction

to any integrating efforts by the Government would be an important demonstration of commitment.Recommendation 2:

Increase the awareness and take-up of R&D tax credits by the retail sector.

This will require:

Identifying and prioritising the kinds of activities undertaken by retailers and by suppliers on theirbehalf which might qualify for support under both large business and SME schemes.

Improving awareness of the schemes and of these priorities amongst retailers, particularly retail SMEsoutside London and the South-East.

Improving the speed and transparency of the application process to reduce uncertainty. Investigating the extent to which, without diluting the existing mechanisms, the R&D tax credit

scheme might be both deepened and broadened to benefit service innovation

Government should work with retailers and key third party suppliers to clarify the kinds of activitiesundertaken by and for retailers which would qualify for tax credits and to examine ways in which theapplication and inspection process for tax relief on such activities might be further streamlined.

Recommendation 3:

Promote innovation by retailers in sustainability.

Eight specific measures which might act as stimuli for innovation in sustainability have been identified by the sector:

Provision of support mechanisms VAT reductions to stimulate green product innovation, Business rate relief on energy efficient buildings, and Encourage development of shared waste facilities by SMEs.

Reduction of barriers Faster and easier planning regimes for sustainable technologies relevant to retailing Fostering a standards-based framework to manage sustainability and reduce uncertainty and risk


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Working towards identifying sustainability metrics, requiring retailers to publicly report on theirachievement.

Fostering of skills

Building environmental awareness amongst retail staff Training for low carbon technology skills to support growth in retail initiatives

The Government should work with the retail sector in identifying and disseminating priorities forinnovation in sustainability. This should occur through the development of a meaningful framework foraction, including the provision of evidence for the effectiveness of funding incentives, priorities for barrierreduction and any skills shortages or gaps which can be addressed at the national or regional level.

Recommendation 4:

Identify and support the complex sets of skills required for retail innovation.

This will require: Provision of innovation awareness training amongst employees Provision of management of innovation skills training Provision of cross-sector technical skills training capability and, for SMEs, Development of innovative approaches to areas such as product buying and presentation for SMEs Provision of an integrated support structure for retail SME skills and mentoring at the local level

which further reduces present duplication.

The Government should identify the lead co-ordinating agency on retail skills at the local level. It shouldtake further steps to better integrate the work of the existing relevant agencies to meet both large andsmall retail business requirements in relation to retail innovation skills.


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1. Introduction

1.1 There is a broad consensus that innovation deals with the successful exploitation of ideas which leads to sustainable economic growth. However, the precise meanings, practices,measurements of and potential support for the innovative activities of firms largely depend on the context in which they occur. The present Innovation in Services initiativerecognises that innovation in services may be different in its nature, incidence andmeasurability than that in more tangible sectors of the economy, and that differentactions and policies may be required of Government in support of service sectorinnovation. What, then, of innovation in the retail sector, one of the largest in terms of

value added and employment within the UK service sector? Retailing is considered to bea service but is, of course, a hybrid economic activity performing a bridging role betweenproduction and consumption, in which firms bring together assortments of goodsrelevant to the needs of consumers. Yet the nature of innovation in this important sectoris often poorly understood and inadequately measured.

1.2 Over the last forty years, UK retailers have become much more active in their own right within the value chain. Indeed, large, professionalised, organizations now run most of theretailing in western economies and are now coming to do so in emerging economies. Inaddition to being substantial commercial enterprises, such retailers have also becometrusted brands with, in some cases, retailers own label brands being regarded as of similaror higher quality than those of branded manufacturers. Now retailing is the legitimatefocus of business strategy, marketing, operations management and other conventionalbusiness disciplines. How do such companies innovate, and what kind of innovationmatters for such firms? How do small and medium-sized enterprises firms whichcontribute to the vital entrepreneurial froth of the sector - undertake innovation?

1.3 This report has been commissioned by NESTA to examine innovation in the retailsector. It seeks to answer the following questions, using a common format and structure:

What is the innovation that matters in the sector? What is driving this innovation? What are the barriers to further innovation? How is this innovation evidenced within the sector, and how might this inform the

development of new metrics and tools for benchmarking innovation performance? Itfinally considers and makes recommendations for:

The role for Government in supporting these particular forms and systems of

innovation to create greater economic and social value1.4 The report combines findings from a variety of sources. It analyses for the first time the

retail-specific responses to the most recent Community Innovation Survey. It draws uponselected insights from a series of in-depth interviews and discussions conducted by one of the authors as part of his doctoral research with over 50 senior retail executives and otherindustry experts from over 30 retail businesses, consulting firms and industry associations(within the UK and elsewhere) on how they define, encourage and manage innovation. Itbrings together a wide range of secondary material dealing with innovation (examining itsrelevance through a retail lens). It reviews existing Government activity in this area.Finally, the report makes recommendations on the particular ways in which Government

may improve the effectiveness of its stimulation and support of innovation within thesector.


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2. The nature and contribution of retailing

a. The size and growth of the retail sector

2.1 Retailers were once seen as downstream resellers of products, simply ciphers inmanufacturers distribution channels, intermediaries whose only role was to enable theflow of goods and services between suppliers and consumers - and who were of themselves incapable of innovation. This conclusion could be attributed partly to thedominant nineteenth century view that manufacturing rather than services provided theprimary motor of economic growth and partly to the fact that in many developedmarkets, until the early 1970s the retail industry was fragmented, mainly consisting of single-store and smaller chain retailers.

2.2 This is a view, curiously, reflected until very recently in the way in which innovation isdefined and measured. As little as fifteen years ago, the late Keith Pavitt (1984) in seeking to explain variations in the nature and impact of innovation between sectors, in terms of their contribution to technological change 1, suggested that innovation in retail firms wasessentially supplier-dominated. Firms in the sector, he suggested, were passive adopters of supplier technologies rather than more active non-technological innovators. Such viewshave been strongly contested, but have become embedded in policy. According toMcGoldrick (2002, p.2) it is equally, if not more, realistic to talk about channels of supply within a retailer-centred vertical marketing system.

2.3 Indeed, today, retailers are no longer hired links in a manufacturers supply chain butcomprise an independent market, the focus of a large group of customers for whom they buy (McVey, 1960; Spriggs, 1994; Reynolds, 2004). They provide readily identifiablelocations where final consumers enter into the transactions by which they acquire goodsand services sourced by the retailer. In addition, they provide support services of variouskinds. As such retailing is an extremely significant economic activity which bridgesproduction and consumption and affects most of the population every day (Burt, 2003).It is the eight-biggest sector of the world economy in terms of total market value(Financial Times, 2006). Whilst as recently as 1990, there were no retailers in the USFortune 500, by 2006 Fortune reported that nearly one fifth was now made up of generalmerchandisers, food & drug store and speciality retailers alone (Fortune, 2006).

2.4 In the US, retail trade accounts for 9.2 % of the GDP and employs 17.4% of the total working population (Hristov, Cuthbertson et al., 2004). In the UK the sector represents7% of total value-added and employs 2.6 million (10%) of the total working population

(Burt, 2003). In 2006 general retailing was the UKs eighth biggest contributor to valueadded. Tesco is the biggest UK private employer (240,000 employees) (FT 500, 2001), thetwelfth biggest individual contributor to value added and among the eight fastest growing UK companies (DTI, 2005; DTI, 2006).

1 Pavitts essentially manufacturing-led perspective distinguished among three main types of firms; (1) supplier dominated (2) science-based, (3)production-intensive firms.


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Table 2.1. Key indicators of UK retail performance and economiccontribution, 1990-2006.

UK 1990 1995

2000

2006

90/95 95/00 00/06 (*05) Sales (mn) 159,519 171,535

207,168

255,438

8%

21% 23%

GVA (mn) n/a 29,598

49,415

(*)60,507

n/a

67% (*)22%

Index of Services(Retail trade) n/a 73.8

86.4

112.5

n/a 17% 30%

Enterprises n/a 209,386 214,876 (*)201,420

n/a 3% (*)-6%

Employment (**) 2,101,882 2,146,940 2,978,000 3,109,000 2%

39% 4%

Source: Office of National Statistics, 2007, 2003, 2000. (*) 2005 data; (**) Average during the year

2.5 The contributions of retailing can be seen as economic, social and environmental in their

nature. From an economic perspective, retailers make both: Direct contributions towards GDP, employment and the supply of vital products

and services to the population which stimulates demand and economic growth.

(The output of the sector is considerable (see Table 2.1) and stretches across the whole services-to-goods continuum with offerings ranging from intangible-dominantpure services such as insurance or internet access, to tangible-dominant physicalproducts such as food or furniture); as well as:

Indirect contributions , which are less easily recognised and work in the form of amultiplier effect.

(For instance, by developing new services, new formats, new products, or new stores,retailers stimulate demand not only for goods for re-sale but also for a wide range of intermediate inputs which they may buy from other industries to produce their outputand which stimulate business activities and employment outside the sector. Suchinputs may be in the form of transportation and construction services, consultancy,ICT, advertising and other business services. Similarly, efficiencies and productivity gains within the sector create the potential for retail price deflation which in tandem

with increases in consumer real income stimulates consumer spending and has apositive effect on economic growth (Hristov, Howard et al., 2004).

Between us, we've achieved a revolution in shopping over the past 10 years. The price deflation we'v pushed through in clothing has even forced down the overall rate of inflation, which is pretty majo

stuff. (Andy Bond, CEO, Asda)

2.6 However, retailing has a role to play not only in economic but also in social terms.

Branding is the dominant strategy around which retail competition is structured. In the case of the retail sector, products, ranges and the company itself may be branded. (Pettinger, 2004)

Some retail brands (not always the largest) perform as cultural innovators, creating orassisting in the creation of trends for new products and services; or making such productsand services more widely available to larger sections of the population. For example,


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clothing retailer Zaras quick response, vertically integrated business model made anopportunity of the transience of fashion to create distinctive competitive advantage,

whilst Marks & Spencers growth of its Simply Food smaller format store was explicitly designed to bring convenience foods to more convenient locations. A retailer withstrong brand equity will be able to convey clearer value to customers which in turn will

provide a more rigorous basis for innovation within the firm.

2.7 Finally, as in other sectors, retailing has also needed to come to terms with thecontemporary challenge of the triple bottom line, where innovation has to service theneed for environmental and not just economic and social - performance. Partly becauseof their position in the value chain, in being closest to the consumer, retailers have alsobecome reference points for their customers with regard to topical socio-economic orlifestyle debates about the environment, health, nutrition or fair trade. It is also in thenature of retail businesses to strive to understand their customers and to quickly respondto new trends, needs or wants and, in the process, retailers brands have increasingly tofunction as guarantors for product quality, traceability, authenticity, safety, reliability and

convenience.

b. Drivers of change

2.8 The retailing that we see today is the product of four main forces: economic, social,features arising from changing levels of competition and innovation (including technology), and those derived from evolving regulation. In some cases, these influencesact as constraints, in some cases they provide real opportunities for experimentation andinnovation. We elaborate upon the specific drivers for innovation as perceived by retailfirms themselves, from both within as well as outside their organizations, in Section 5.

We discuss regulation in the context of barriers to innovation in Section 6. Here, in line

with other Innovation in Services reports, we briefly enumerate the main factors driving change in the sector and identify the pressures to which it is responding.

i. Economic drivers

2.9 Table 2.1 demonstrates that for much of the past fifteen years, the UK economysdevelopment has been underpinned by extensive growth in domestic consumption. Thebroad consequence of this has been the relatively untrammelled growth of retailbusinesses and an optimistic and entrepreneurial outlook towards experimentation andexpansion in a variety of ways. Most recently, the Bank of England has sought to rein inconsumer spending through a series of interest rate rises. This, in combination with

concern over rising levels of personal debt and more general economic uncertainty, hasled to growth in retail spending faltering.

2.10 In practice during this period, UK shoppers have experienced substantial price decreasesin a number of categories of consumer products over the past fifteen years in categoriessuch as clothing by as much as 20% and in audio-visual goods by as much as 60% -(Office of National Statistics, 2007). However, the debt which is of concern to consumershas not necessarily been incurred in consuming retail goods, but as a result of higherutility, transport and housing bills. The pressure has therefore been upon retailers toclearly communicate fair, if not low, prices to those consumers for whom it is important.

Those retailers which can continually demonstrate value in their propositions will win

out against those retailers with muddled price points or value propositions.


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2.11 At the same time, retailers themselves have been exposed to cost inflation in much thesame way as consumers: not least in terms of utilities, property and transport. The 23%growth in retail sales value looks strong beside a fall in telecommunications costs, catering cleaning and market research over the same 6-year period; but does not appear to havekept pace with increases in costs of waste disposal, transport & logistics, property rental

and banking services. The introduction of the NMW, wage inflation and increasedstaffing levels has meant that the proportion that employment costs comprise of UK retail sales has increased from 10.5% to 13% over the past ten years.

Despite a slow down in growth [in corporate costs], the largest upward effect came from freight transporby road, reflecting increases in fuel prices. Other notable upward contributions came from: sewerag

services, following the setting of new price limits by Ofwat; property rental prices following general increacross the industry; and waste disposal prices following general rises coupled with increases to landfi

charges being passed onto customers. (National Statistics Office, Corporate Services Prices Index, 2006)

2.12 It has been argued that the combination of price deflation accompanied by cost inflationhas led some retailers into an increasingly difficult financial position and focusedattention upon some types of innovation (such as process-related innovation delivering productivity benefits) over others. Firms can put pressure on suppliers to reduce the costof goods or can also accept a fall in margin; cut other costs, or persuade consumers totrade up to higher margin products within a category.

ii. Demographic and consumer behavioural drivers

2.13 We have already suggested that the paradox presented by consumers lack of appreciationof price falls in certain categories of consumer goods can be largely explained by the halo

effect of price increases occurring in more obvious categories - such as householdutilities and transport. Many consumers are already inclined to believe that the selling price of a product is substantially higher than its fair price would be.

Consumers also now play games with retailers sitting tight and waiting for the discounts to come.Because purchases are not necessities (except food), they have more choice about when they buy

(Retailer)

Greater sensitivity to price and greater wariness of retailers promises on price, together with the growth of greater price information availability as a result of the Internet, has ledto a greater focus on value formats by retailers. An increasing number of sectors have

gone to value.

Value retailers have 18% of the market [in the UK], but in the US it is 35%; there's plenty to go for. (John King, Matalan)

This concern with value for money is actually embedded in much broader concerns that people have abou for example, what to put in their kids packed lunches, or about the health impacts of different sorts of

foods on themselves and their loved ones. (Barnett et al, 2005)

2.14 Consumers have also begun to exert greater control within the buying process, not leastin response to the non-price concerns expressed above, ranging from word of mouth

effects to product boycotts. The National Consumer Councils Active Consumer Index, which tracks switching trends for six services markets, has risen 52% since 2000.


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Retailers have not been immune to this growing activism as it has extended into broaderareas of social and environmental responsibility. Solutions for retailers run from choiceediting in product range, to the use of environmental or social sustainability as adifferentiator in the creation and design of formats, to a complete ethical makeover.

2.15 As a result, the largest retail firms are increasingly expected to take the lead over issues of social responsibility and accountability related to consumption. This brings new opportunities and challenges for innovative behaviour in the sector in terms, for example,of:

The environmental impact of commercial activities (for example, Wal-MartsProject Aurora will, amongst other things, invest $500 million in technologies that

will reduce greenhouse gases from the companies stores and distribution centresby 20 percent over the next seven years);

Ethical sourcing (for example, the values expressed by Lush, the cosmeticsgrocer, lead it to buying only those ingredients which are not tested on animals,using vegetarian ingredients, made by hand with the minimum of packaging -http://www.lush.co.uk/LushLife/WeBelieve.aspx); and

Responsible consumption (for example, in addressing concerns over childhoodobesity and healthier lifestyles, Sainsbury's has developed its Active Kidscampaign, spending 34mn over two years in subsidising the purchase of sportsequipment by schools, scouts and guide movements, and has commissioned aresearch programme to discover what parents of young children buy and how that varies across regions and socio-economic groups).

2.16 There is a potential dilemma for some firms in that the pressure towards providing valuefor money formats pushes firms towards cheaper, and potentially less sustainable,procurement. Similarly a contrasting growth in demand for service and experienceamongst some consumers can be seen as both an attractive non-price differentiator whenset against online competitors, but also a potentially costly consideration in designing new formats in the light of what we have said already about the increasing cost of space and of retail labour. Getting the balance right in response to consumer pressure is difficult:

Its also finding the trade-off between what customers want (price, convenience, choice) and what retailehave to deliver to shareholders (profits, margins, sales growth). For example, unmanned kiosks may not be so pleasant for a customer as is the live interaction with someone on the floor, but then the custome

may trade off this inconvenience for the better price and the time saving. (Finance Director, generalmerchandiser)

iii. Competition and innovation drivers

2.17 In general terms, levels of competition ultimately determine the mix and range of retailing on offer to consumers and the extent to which continual innovation is required to build aswitching barrier between, say, one retail format and another. With increased levels of competition amongst larger scale retailers, achieving that differentiation on a sustainablebasis is costly and requires retailers to make choices:

Theres a perception now that you can only pull some of the levers. You have to make a choice betwee price, choice and breadth because of increased levels of competition. You cant compete on all the cho

criteria. (Director, variety store retailer)


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2.18 Technology has played a complex role in relation to retail change. Retailers themselveshave been generally reluctant adopters of technology (CEC, 1991). The majority of firmshave tended to be adapters rather than innovators, using information technology tosupport existing operations. As a result, investment in ICT conferred little lasting competitive advantage even if it managed to raise rudimentary barriers to entry. Indeed,

successful retail ICT for many in the 1990s comprised projects that did not involve long term research & development, provided a visible financial benefit, came withoutextensive capital commitment and provided for low risk, staged implementation. Eventoday, ICT accounts for extremely low levels of capital spend in the sector. However, anumber of leading firms have used technology to achieve significant gains in productivity (Johnson, 2002). In addition, disruptive innovations driven by technology, such as e-commerce, have resulted in significant challenges for the sector. 2 For example, theanticipated compound annual growth rate between 2007 and 2012 for retail onlinespending is 14%. The expectation is that online sales in the EU will overtake those in theUSA by 2011.

2.19 One driver of domestic format innovation comes of course from continually growing international activity within the UK. Estimates made in 2005 suggested that over 500non-UK retailers currently trade in the UK, numbers which have been rising over thepast twenty years, with high proportions of operators in clothing, footwear andaccessories, health & beauty, toys and games and department & variety store retailing (Retail Knowledge Bank, 2005).

iv. Regulatory drivers

2.20 Regulation is often seen by retailers as an unnecessary cost to the business, but regulationcan work to direct and focus innovation in unanticipated and otherwise unexplored ways,

in seeking to attain specific social, economic and environmental goals. There is no centralfinancial analysis of the administrative burden of regulation on UK business, although theestimate is of some 20-40bn per annum across all firms (Better Regulation Task Force,2005). The Task Force also estimated that small retailers were disproportionately affectedover large: with small shopkeepers spending 3-5 days a month dealing with a range of government administration (Better Regulation Task Force, 2001).

2.21 There is some evidence that the burden of retail regulation on the sector has reduced(Figure 2.1). Recent work by OECD suggested that the UK fell from the 8 th to the 17 th most regulated market from 1998 to 2003, although the difference was not statistically significant (OECD, 2006). Regulation can affect retailers in two ways in relation to

innovation. The overall economic viability of any retail business model might be adversely affected or constrained. Additionally, however, because of the nature of retail business,regulation also influences the possible locations available for a particular retail format andthe costs of servicing those locations.

2 Christenson & Tedlow (1999) define disruptive technologies as innovations that change the economics of an industry (even if they may not beinitially profitable innovations).


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Figure 2.1: Anti-competitive regulations in retail distribution, 1998-2003

Source: OECD International Regulation Database, 2006. Note: Graph ranked by extent of regulation in2003. Scale of regulation from 0.0 to 6.0, with 6.0 being the most restrictive.

2.22 The OECD study did not include these kinds of regulatory constraints in its analysis. Inaddition to planning and competition policy, such regulations might include:

Modally-constrained access to town and city centres by consumers (such asbus lanes, greenways and park & ride schemes);

Delivery curfews (the British Retail Consortium suggested that some 32% of allretailers were adversely affected by a delivery curfew of some sort in 2005, at acost of some 3.3mn), and the

Cost of parking (Parking revenues in London alone were an estimated 500mnin 2005.)

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3. What are the distinctive characteristics of retail innovation?

a. How different is retail innovation?

3.1 What do conventional measures report as the extent of innovation in retailing? Datarecording factors such as R&D intensity 3 and patent citation, suggests that retailing on aglobal scale scores relatively lowly compared to sectors such as pharmaceuticals,biotechnology or technology hardware and equipment. The Community InnovationSurvey, a four-yearly pan-European examination of innovation activity, was extended toinclude services and retailing for the first time during its most recent iteration in2005.4 Figure 3.1 below shows the extent and nature of retail innovation compared toother sectors. 40% of retail firms surveyed claimed to be innovation active 5.

Figure 3.1. Extent of innovation in retailing

Source: Community Innovation Survey (CIS4), 2005.

3.2 The survey suggests that:

UK retailers report lower levels of innovation than all sectors in the UK as a whole:40% of firms are innovation active, compared with 57% in the economy as a whole.

The sector scores below the all sector average for every category of innovative activity but one; and is apparently significantly lower, for example, in terms of processinnovation.

Retailing did score highly on new to market product innovations (suggesting highlevels of competition in the industry and/or constant search for new business streamsand markets).

3 R&D as % of sales4 Retailing comprised 1,545 of the total of 16,445 UK firms surveyed (9.3% of responses). Of these, 18% of respondent firms employed morethan 250 people. The survey sought to capture activity between 2002 and 2004.5 Innovation in the survey is defined as major changes aimed at enhancing competitive position, performance, know-how or capabilities forfuture enhancements. These can be new or significantly improved goods, services or processes for making or providing them. It includes spending on innovation activities, for example on machinery and equipment, R&D, training, goods and service design or marketing.

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Innovation-related expenditure of retailers is lower than the average; it looks asthough this smaller number of innovations was both cheaper and had greaterimpact than on average.

3.3 It is important to stress that these results are not dissimilar to other low innovation

engineering sectors and for other services (with the notable exception of knowledgeintensive business services (KIBS))6. And other evidence tells us of the capability of retailers to innovate in ways which lead to efficient economic performance, whichsuggests that the CIS does not capture the full picture. For example, decomposing productivity growth in the US from 1995 to 2000 suggests that the whole of itsacceleration is driven by six sectors, the top three being wholesaling, retailing, andsecurity and commodity broking. In fact the joint contribution of these three key sectors

was twice as great as the next three i.e., electronic and electric equipment(semiconductors), industrial machinery and equipment (computers) and telecoms (Solow,Bosworth et al., 2001). The data since year 2000 suggests that retailing continues to beamong seven sectors which altogether accounted for 85% of all the productivity growth

of the US economy 7

. None of these, with the exception of computers and electronics, areamong the conventionally R&D intensive sectors (Farrell, Bailey et al. 2005; Hughes2007). More recent figures from NAICS suggest that retailing continues to be among thetop contributors to the US productivity growth (McKinsey Quarterly, 2006). About 12%of labour productivity gains in the second half of the 1990s could be traced back to oneretailer alone: Wal-Mart (Johnson, 2002).

3.4 One other major indicator of the level of innovation within UK firms is the regularly conducted R&D Scoreboard (DIUS, 2007). The 17 th annual Edition was published in2007 and shows that Tesco and Marks & Spencer are amongst the UKs R&D leadersand fastest growing R&D spenders respectively 8. In relation to the sector as a whole,

however, there are significant deficiencies in the Scoreboard (including significantomissions, misallocation of firms including pharmaceutical suppliers - to the retailsector and some evidence of double-counting) 9. Whether this is as a result of non-response by major firms, the growth of private equity in the sector, a lack of an R&D linein public company accounts (or other accounting complexities arising from a firmsdiversified activities), or their not falling into the top 850 UK firms (or top 1,250 globalfirms), is unclear. For whatever reasons, however, the Scoreboard cannot therefore beregarded as a reliable indicator of retailing R&D.

3.5 This evidence is alongside the increasing realisation is that the sole use of R&D intensity,patent registrations and other hard measures of innovation fail to reflect the variety of

innovation activities in knowledge based service firms. OECDs Frascati Manual10

acknowledges that hard measures need to be examined within a broader conceptualframework,

6 A classification of those services defined as KIBS can be found at: http://www2.cst.gov.uk/cst/reports/files/knowledge-intensive-services/services-study-annexes.pdf 7 These were retailing, finance and insurance, computer and electronic products, wholesaling, administrative and support services, real estate andmiscellaneous professional and scientific services.8 Tesco ranked 21 st of the top 850 UK firms in terms of its R&D expenditure in 2006 (+12% on the previous year). Marks & Spencer ranked 14 th of the top 850 UK firms in its increase of R&D expenditure in 2006.9 The limitations of the Scoreboard methodology are described at http://www.innovation.gov.uk/rd_scoreboard/?p=33 . The firms allocated tofood, drug and general retailers can be seen in the main tables, downloadable athttp://www.innovation.gov.uk/rd_scoreboard/downloads/2007_UK_RD_Scoreboard_Web.csv 10 The OECD Frascati Manual (2002) proposes standard practice for surveys of R&D


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that relates them both to other types of resources intangible investment which covers not onlyR&D and related S&T activities but also expenditures on software, training, organisation,

etc. (OECD, 2002, p.14).

In relation to services these sentiments are echoed by the recent report commissioned by

the US National Science Foundation (RTI International, 2005). Measuring service sectors(such as retailing) with direct R&D measures does not account for R&D flows betweenthe manufacturing and services sectors, neither does it account for the large volumes of R&D services outsourcing. This results in potential under-representation of non-manufacturing sectors such as retailing.

Using both direct R&D expenditures and indirect R&D (consumed), such as R&D incorporated in equipment and intermediates, provides a different estimate of technology intensity for the service indust

(RTI International, 2005, p. 2-3).

3.6 There is also evidence that in low innovation sectors such as oil production,

construction or retail banking, large proportion of innovation is to a lesser extenttechnological, involving organisational and market change or melding technologies indelivering innovative services. This type of innovation remains largely hidden under theradar of the traditional measures of innovation (NESTA, 2007). Similarly, Jorma Ollia,the Chairman of the Board of Directors of Nokia points out that currently the mostfertile area of innovation today in effect could be found in management (Economist,2007). In this vein according the most recent BCG innovation survey among a crosssection of senior executives, the retail sector appears among the most innovative; fiveretailers feature in the top twenty most innovative firms of 2007; i.e., Wal-Mart (11),Starbucks (14), Target (15) and Amazon.com (20), with another four retailers in the top50 (i.e., Ikea, Costco, Best Buy, McDonalds) (Business Week, 2007).

3.7 The Community Innovation Survey sought to uncover aspects of hidden innovation forthe first time in 2005. Wider innovation within firms was examined in the form of aquestion exploring new or significantly amended forms of organisation, businessstructures or practices, aimed at step changes in internal efficiency of effectiveness or inapproaching markets and customers. This included the possible introduction of a new orsignificantly changed corporate strategy; advanced techniques such as knowledgemanagement systems or an Investors in People initiative; organizational changes, such asout-sourcing or cross-functional team building; or marketing concepts or strategies, suchas packaging or presentational changes to a product to target new markets, or new support services to open up new markets. Figure 3.2 shows a comparison between the

retail sector, engineering and the survey average.


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Figure 3.2. The extent of reported wider innovation within retailing

Source: Community Innovation Survey 2004 (CIS4), 2005.

3.8 Just over a fifth of retail enterprises reported having engaged in one or other form of wider innovation during 2002-04. The most popular form was marketing-related; the leastconnected with the introduction of advanced management techniques. However, levels of

wider innovation were below the national average for all firms and well below thatreported for engineering.

3.9 So if there is a widespread perception that the best of UK retailing is creative andinnovative, how might we explain such a discrepancy in terms of innovation performanceaccording to the CIS4 innovation survey? There may be several explanations. Perhaps weare dazzled by the best practice of a few leading innovators in the sector, which serves toconceal a lack of innovative activity elsewhere in retailing. Or, as we have suggested,perhaps the environment for innovation in retailing is different and distinctive in some

way that masks or changes its nature. Or it may be that retailers think about innovationdifferently, or conduct innovation of a somewhat different kind than that which isconventionally used as an indicator by the statistics. We examine some of these possibleexplanations below in identifying five distinguishing features of retail innovation and theenvironment in which it occurs.

3.10 Discussions with retailers as part of this research suggested that a lot of retail innovationis more about changes in how, where and when. Continuous and non-linear,innovation in retailing appears much closer to the entrepreneurial notion of innovationaccording to which it is immaterial whether innovations involve an element of scientificnovelty or not. In this respect innovation is seen as an economic process of cause andeffect which essentially involves putting available resources to new uses. According toOgawa (1998), who explores supply chain innovations, retailers tend to developfunctionally novel supply chain innovations in contrast to manufacturers who tend todevelop innovations that improve on well-articulated needs. For instance in termsinventory-management systems retailers tend to focus on new approaches to inventory

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management while manufacturers tend to develop improvements to the equipment usedto deliver these new approaches.

3.11 The retail type of innovation appears more difficult to record than the manufacturerone, since manufacturing firms predominantly innovate in a staircase mode characterised

by identifiable step-wise jumps in product development, while large part of retailinnovations tends to occur in a continuous mode of organic change. This highlights thebroader problem of under-recording services innovations in cases where innovationactivities cannot be clearly described as definitive products or outcomes, for instancepertaining to process or organisational innovations which are hard to identify, define andgrade. According to Tether (2005) the CIS, which was initially designed around themanufacturing continues to be more suited to record staircase innovations and may bestill significantly under-recording continuous innovations more common service sectorssuch as retailing.

b. Selected characteristics of retail innovation

3.12 The classic function of a retailer is as an intermediary, which involves the creation of assortment, break of bulk and the facilitation of value creation for consumers atconvenient times and in convenient places, alongside the provision of productinformation and appropriate pricing architectures. In this context, our research suggeststhat innovation in retail organizations has five distinctive features: (1) Retailers role asinnovation hubs, facilitating two-way innovation diffusion, (2) innovation in a retailenvironment of low appropriability, (3) predominance of non-technological innovation,(4) hybrid characteristics of retail innovation, (5) reverse innovation cycle (Hristov 2007).

i. Retailers as innovation hubs

3.13 First, retailers are increasingly innovating by acting as intermediaries well beyond theircore retail propositions. Firms such as Tesco, Wal-Mart, Carrefour, Best Buy, El CorteIngls, Nordstrom, Sainsburys & Metro are rapidly diversifying through tie-ups withsuppliers into financial services, telecoms, utilities, travel, amongst others. In many of these cases they innovate by intermediating in the value chain and thus increase theefficiency of market exchange. They do this through what we can call a two-way diffusionprocess (see Figure 3.3) comprising supply diffusion - which conventionally aggregates,augments and defuses new products, services and technologies from suppliersdownstream to consumers - and demand diffusion - a relatively new feature in which theretailer deciphers existing or impending market/consumer needs and communicates them

upstream, thus initiating and often co-creating innovations with suppliers. (See Vignette3.1 Best Buy, 3.2 The Local Epicurean/Budgens, 3.3 Marks and Spencer)

3.14 This innovation broadening role of modern retailers suggests that many of them are inthe position to act as innovation hubs within their supply chains. For instance Hughes(2007) highlights the importance of the diffusion and use of ICT as a general purposetechnology beyond the ICT and other R&D intensive high-tech producing sectors. Thismay help explain why so-called unexpected user sectors with negligible conventionalR&D spend such as retailing have been dominating movements in US aggregateproductivity growth for the past ten years. The DIUS/BERR 2007 Scorecard exercisepoints towards similar examples of consumed R&D that is subsequently diffused by

industries such as retailing and financial services (DIUS/BERR, 2007).


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In the supply chain, the retailer has the final responsibility towards the customers and thus for the whole chain (Chairman of the Board)

Figure 3.3. Two-way innovation diffusion

Source: Hristov, 2007

ii. The low appropriability of the retail environment.

3.15 Secondly, the retail environment is one in which innovations can be easily copied. Teece(1986) defines what he calls regimes of appropriability - environmental factors externalto innovating firms which affect an innovators ability to extract profits from theirinnovation. Such regimes can comprise the availability of legal instruments for protecting innovations like patents or copyrights, alongside technological conditions including production cycles or codified and tacit knowledge.

3.16 But operating in conditions of low appropriability causes knowledge spillovers betweenfirms resulting in the rapid erosion of any first mover advantage. Sir Terry Leahy, TescoCEO, has observed that the average dwell-time of an innovation in grocery retailing isaround six weeks. In retailing there are low barriers to protecting intellectual property

and thus high risk of not being able to extract profit from innovation.

It is very difficult for retailers to make continuous big changes because they're constantly sort ofmeasuring and matching each other (Board Director).

In retailing generally you have those who create something new and those that copy. For example HomDepot has been copied everywhere by different retailers (Marketing Director).

3.17 If retail innovations can rapidly be copied, then continuous incremental change coupled withbuilding airtightmarket matching capabilities through the rapid scaling up of innovation tothe point of profitability, or simply through sheer economies of scale are the kinds of defence mechanisms used by retailers to protect their innovations. For instance Tescouses the strap line start small, scale up, think big .

Supply Demand

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iii. Predominance of non-technological innovation.

3.18 Thirdly, retail innovation for the most part appears to comprise non-technological,customer facing activities which are driven by social-economic rather than technologicalforces. Of course, technology is a high profile and important enabler in what retailers do,

as well as providing the capability for reaching out into untapped markets. Nevertheless,in contrast to manufacturing, technological trajectories are seen by retailers to have arelatively limited impact on the overall characteristics and focus of their innovation(Hristov & Reynolds, 2005).

I think technology is always important, however its not the be all and end all because, you know, at the end of the day customers dont buy technology, not in our business, they buy the

results of technology. So I think as long as its seen in terms of what the customer wants, does this provide things faster or better or cheaper, then you're in the right place. (HR Director).

iv. Hybrid characteristics of retail innovation.

3.19 Fourthly, some vertically integrated retailers have their own production units or designfacilities, such as Zara (Spain) part of Inditex, Migros (Switzerland), Tchibo (Germany),the S-Group (Finland) For instance Migros, the largest Swiss retailer is the second biggestchocolate producer in Switzerland (Hristov, 2004). Others consider themselvesmanufacturers without factories in the sense that they exert significant upstreaminfluence over suppliers. These characteristics have specific consequences in terms of innovation. We might expect such retailers to exhibit many characteristics in common

with manufacturers, such as a focus on step-wise rather than continuous innovation. Onthe other hand, all retailers provide services of various kinds and we might expectinnovation here to be different from the predominantly linear innovation patterns of

manufacturing.

3.20 Therefore retail innovation displays hybrid characteristics which are consistent with thecomplex nature of retail output. For instance, in the introduction of certain new productlines, there may be obligations on retailers to undertake scientific and quasi-scientific testsand trials. In many cases the NPD processes of retailers can be analogous to that of manufacturers. Sainsburys operate a five stage-gated system of NPD of (Stage 1) captureand develop ideas, (Stage 2) develop project, (Stage 3) develop concept samples to ownbrand strategy (Stage 4) production, trials and launch (Stage 5) product analysis andproject performance. This is not an isolated example: similar linear innovation pipelinesare used by ASDA, Boots and Marks & Spencer in their NPD. However in areas such as

trading, customer services or sourcing, innovation appears non-linear and, at times, evenad-hoc. For instance some winning retail formats emerge from an opportunistic,experimental and incremental process, sometimes based more on intuition than rationalanalysis.

Inside the business development area, under the Business Development Director, there's a very structured point to the way we do things. But in some cases innovation is much less structured,

in some cases its quite ad-hoc (Managing Director)

But I would guess in retailing there isn't much organisation of innovation, I think its more

experimental and haphazard and opportunistic because of the nature of the business (CEO of Industry Association).


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v. Retailers reverse innovation cycle.

3.21 Finally, retailing can experience a reverse innovation cycle (where financial andorganizational costs are incurred at the end of the innovation process rather than at the

beginning). This has also been observed in the financial services sector (Barras, 1986). Butamong multiple retailers we can also see both reverse innovation development andinnovation investment cycles similar to those of many manufacturing firms. Inmanufacturing, the biggest financial outlays tend to be associated with R&D and thefollowing NPD process. Once the product gets to market radical innovation gives way toincremental improvements throughout the product life cycle (as in the software industry).In retailing, the initial idea - even at the stage of initial prototyping - is relatively cheapand largely experimental. However, the process of scaling up an idea across a largeportfolio of stores often requires radical innovations (such as in organisation and process)and major investment and management resource. For example, it took Tesco nearly 12years from 1994 to 2006 to bring to full scale their initial idea of an Express store. That

included trials of the concept, limited rollout, location planning, refinement of theconcept and subsequent scaling up through the acquisition and re-branding of T&SStores as well as organic growth to what is now a portfolio of over 730 stores. Once at acritical mass this innovation had a transformational effect on the market and led to arange of radical innovations in logistics and marketing.

I think the actual development of a concept is not complex and as soon as you know it works, then you do it. However lets take PC World, it would have taken ten years from the point that it was clear that

it was a success to having rolled out through the UK, and I dont know how much longer it will take to goout to Europe

(CEO).

Vignette 3.1: Best Buy

Context: Retailers as innovation hubs

Example: Best Buy, the biggest US electrical retailer has set up what it refers to as a Venture Capital Network (VCN) foridentifying promising technologies for new products or services. The role of this VCN is to speed up the transition of thesetechnologies from concept to market. This is achieved through the creation of external innovation networks linking up venturecapital firms with innovation start-ups working on particular retailer projects. Best Buy stores are then used to hot-house and testthe innovations in a retail environment.

For a number of years the retailer has also been pursuing a customer centricity program of segmenting their market and

developing bespoke retail formats for each of the target segments, for instance affluent professionals seeking the best technology experience, younger males wanting cutting-edge new technology, fathers looking for technology to improve their lifestyle,mothers seeking technology to enrich their children's lives or small-business people using technology to improve their bottomline. The range and the services offered for each segment are tested in what the company refers to as lab stores, 68 of which arelocated throughout California.


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Vignette 3.2: The Local Epicurean/Budgens

Context: Innovation in a small retailer

Example: The Local Epicurean was founded in 2006 by Andrew Thornton, a retail consultant who acquired his first food storefrom Budgens and joined the Musgrave-Budgens-Londis (MBL) franchise. Less than two years later his company The LocalEpicurean operates two Budgens branded stores, the first one of 9,000 sq ft in Londons Crouch End and the second of 7,000 sq ft, located in Belsize Park. The company employs altogether 170 people and has an annual turnover of about 17 million.

Budgens as a retail brand is owned by MBL - Irelands largest food and grocery distributor. The business model is based onindependent retail operators who buy products from the company and to whom MBL provides sales, marketing, IT and logisticalexpertise. In the process the independent franchisees have a fair amount of freedom in terms of how they construct their rangesin view of local needs. According to Thornton:

Consumer needs can be very different from one place to another therefore the benefit of such entrepreneurial model is that individuals who own their swill do what is absolutely right for the local community. There some guidelines you have got to follow in terms of brand entity, but within that, how y

work with the local community is up to you.

Therefore while Thornton has to buy a substantial amount of his goods through the MBL system he does not have to buy all of them from there.

So you can buy from Musgrave your corn flakes at competitive prices but you can also buy your bread from the local baker who is just 50 yards acrothe street.

Thorntons two stores serve over 22,000 local customers seven days a week. Competition in the area is intense. Just within a walking distance from of his Crouch End store there are one Tesco Express and a Marks & Spencer Simply Food - bothformidable competitors. Therefore as a retail entrepreneur, he sees his role in keeping the business fresh and attractive tocustomers: innovation is not a matter of choice but a matter of survival.

We must innovate continuously and in a customer focused way to sustain and grow the business and my job is all about innovation really, businesdevelopment, changing things making thins better. Thats how I would define innovation basically change in a business in line with what custome

want.

New ideas are implemented through a team of managers whose concern is the smooth day-to-day running of the business. The

innovation effort of the company is channelled in three broad directions: (1) local sourcing, (2) environmental initiatives and (3)retailing tailored for the local community.

1. A distinctive store, localised product range and friendly services are seen as absolutely essential in establishing the two storesas local destinations. Since the acquisition, the Crouch End store has been refurbished to reflect Thorntons vision of innovative food retailer. The revamp included the introduction of zones for delicatessen, beers, wines and spirits and theintroduction of new lines with emphasis on local foods. Additionally a food to go counter was installed replacing a chillercabinet for pre-packed sandwiches. The new unit features juice and coffee bars for freshly made fruit juices, smoothies andLavazza coffee and also offers freshly baked bread and made to order sandwiches. The store has an Epicurean Deli withfresh salads and meats all sourced locally. There are a many good food producers around London which we want to bring in our stores. In

fact we are organising a meeting in January with about 15 of them and will be working with them to introduce their products into our stores. Both stores already offer a sizable range of direct from the producer SKUs, sourced within 100 miles and free from artificialcolours and preservatives. There is also the product of the week initiative with regular supplier tasting in-store, shelf-edgelabels clearly indicating the food miles of each of the local products. The stores offer fresh bread from Dunns - a localbakery, a range of food products from Suffolk and cheeses from Whitfield.

2. In terms of the environment, the company innovates through a range of initiatives. Pennies for plastic is one of them. We want to encourage people to re-use their bags, therefore for every bag not used in our stores we are donating 1 penny to a local charity. Thecampaign has helped raise money for building a new stage at the local school - Weston Park Primary. The message has beenclearly publicised both in-store and through the media. The initiative has gradually gained momentum, the end result being that Budgens Crouch End has managed cut in 5 months their carrier bag usage by 55%. According to Thornton this is thefirst step towards altogether substituting the disposable plastic bags for the more environmental reusable and Jute bags. In

March next year we are planning to give away 15,000 reusable and Juke bags and then we shall stop altogether offering disposable plastic bags in our stores. Other environmental initiatives include food composting, making sure that food products refuse is compostedrather than to put in landfills and hoisting the heat emitted from the store chillers back into heating up the stores, thusreducing energy consumption. These initiatives are carried out in co-operation with environmental organisations, one of them - The Carbon Trust.

3. The third direction for innovation according to Andrew Thornton is local community retailing. This includes a range of initiatives the aim of which is to make local independent retailers the preferred destination for shoppers. There are many good independent retailers locally, but we have to market ourselves more effectively. The idea is make independent retailing in Crouch End moreattractive and to encourage local shoppers to stop using their cars, travelling all that way to out of town shopping centres and instead just walking


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down to their local high street to for their shopping. Thornton refers to this set of initiatives as The Crouch End Project. The idea was initially developed with the head of the parents association at the local school where the Local Epicurean has built a new stage. 26 independent retailers have joined forces the project sponsoring the local fun run, school carol concerts, music, wineand cheese evenings. We have even designed our very own Crouch End cotton shopping bag and we are experimenting with a Crouch End wedding list, that sort of innovations we develop with shoppers and retailers together. They are relatively inexpensive and easy to reverse if they dowork. We keep innovating since thats important both for us and our customers (Hristov, 2007 - Company interview).

Vignette 3.3: Marks & Spencer

Context: Innovation in sustainable development, co-innovation; retailers reverse innovation cycle

Example: In October 2007 Marks and Spencer unveiled its first eco-store in Bournemouth. The completely refurbished 51,000sq ft store incorporates a whole host of new eco-technologies. It is completely powered by renewable energy and is 25% moreenergy efficient. Its innovative footprint has been developed in line with the M&S Plan A in which the retailer has pledged 200m over 5 years on innovating on sustainable and ethical projects. For instance by year 2012, M&S aims to: become carbon neutral, send no waste to landfill, extend sustainable sourcing, set new standards in ethical trading, and help customers and employees live a healthier lifestyle.

The above is expected to be achieved in tandem with organisations such as WWF in the area of new sustainable store concepts, WRAP in area of eco-friendly packaging, and with their commercial suppliers on issues of reducing carbon emissions, and thedevelopment on new eco-products and healthier foods. The Bournemouth store which is the first of four planned in the next few years has its own green travel plan and bike racks to encourage customers and staff to cycle to the outlet.

(www.marksandspencer.com, 23.10.2007)


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4. How do retailers think about innovation?

4.1 The retailers to whom we spoke as part of this research (Hristov, 2007) acknowledgedoverwhelmingly the crucial role of innovation for the performance of any retail business.

Without innovation, they suggested, like-for-like growth and profit margins decline andorganisations run into life-cycle issues:

You get about two years under the sun and then suddenly there is a new kid on the block ever sooften you have to take a long hard look at yourself

(CEO)

But our findings also indicated that there is a real range of meanings and interpretationsamong retail practitioners as to what constitutes innovation in retailing, and this may contribute to under-reporting in conventional surveys. Its seen not just as:

A necessary means to continued existence, but also as Change with positive, long-lasting effects, A cross-business process of generating and implementing commercially viable ideas

that deliver benefits to customers, and A process of implementation of new ideas which creates differentiation in the

marketplace.

4.2 Further, retailers acknowledged that defining and measuring retail innovation was difficultsince innovations were largely dispersed across the business: requiring the co-ordinatedeffort of a wide constituency of people across functional areas and including suppliersand customers. As a term, therefore, innovation often did not appear immediately self explanatory to retail practitioners. Or, as one senior consultant put it,

Innovation, its too big a term. To communicate it, one has to break it into its component parts.

4.3 With some notable exceptions most of the retailers in the sample pointed out that they did not use the term in their everyday vocabulary. Yet they felt that their organisationsinnovated all the time without having innovation directors or departments. Some referredto innovation as a composite term which in practice needed to be translated into moreconcrete operational terminology such as: new product development (NPD), new SKUs, new categories, refreshing the range, new formats, new markets, or new applications of technology.

It is very hard to define innovation. We are a fashion retailer; therefore every time you design a new product is that innovation? How different does it have to be, to be innovation? We innovate

in the product, in our designs, in our store environment, we are creative in the way we brand ourselves and in the way we interact with our customers but there are many levers to pull, I think

the trick is to pull these at the right time and at the right level, rather than thinking next year I'm going for my store refit, or next year Im going to launch an all-new product offering, one has

to be entrepreneurial about that. (CEO Fashion Retailer).

4.4 Some retailers perceive the term innovation as a much more radical departure frombusiness as usual rather than incremental change in operational practices and new product development.


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We prefer to use newness. Innovation somehow carries the meaning of a radically new idea. I guess it iassociated with blue sky thinking or something that has never been done before. The majority of our

incremental growth comes from newness, which I would describe as a stage below innovation. We also ureinvention (Commercial Director).

4.5 So what therefore constitutes innovation in retailing? Summarising the views of over 50senior industry practitioners, we suggest that a broadly acceptable definition might be:

Elements of the retail offer (i.e., products, range, services, retail format, etc.) in tandem with the underpinning organisation and technologies needed to deliver these to the market, which are new or

significantly improved as a result of the retailers existing market or technological knowledge.

4.6 Whilst interviews with retailers indicated a plethora of meanings and views as to whatmight constitute innovation, it also found a distinction between those innovations which

were strategic and these which were more operational in character.

a. Strategic retail innovation

4.7 Although retail innovation tends to follow a pattern of a continuous change mode ratherthan the more pronounced manufacturing pattern of series of step changes betweenperiods of stability, there is evidence that more radical innovations are often qualified asstrategic in the sense that they are guided by corporate strategy. Examples of these aresector hopping from food to non-food - for instance in the case of Sainsburys and

ASDA - or pursuing new channels to market in the case of the John Lewis Partnership(Waitrose) with Ocado.com. (See also Vignette 4.1 Hotel Chocolat.) Strategicinnovations might also involve the development of new retail formats for internationalmarkets, in the case of Tescos new Fresh and Easy concept for the US market. Similarly they involve innovative business models which combine a range of retail applicationssuch as catering, retailing, entertainment and the internet often introduced by smallerretailers in rural communities. There are also examples of radically new approaches tosustainable development or retailer-supplier collaboration. (See Vignette 4.2 Migros, 4.5- Zara and 4.6 TK Maxx, 4.7 - Somerset Local Direct).

b. Operational retail innovation

4.8 At an operational level there seems to be a broad consensus that innovation is associated with new products, ideas or ways of operating. The predominant view suggests thatoperational retail innovations are mainly continuous, incremental and with a cost or

value-added focus. They often involve planning, management sponsorship or resourceallocation and have short innovation cycles of between 3 to 18 months. For example, onetypical approach to innovation is experimentation through test or lab stores or throughcontinuous store trials. The US electrical retailer Best Buy has opened over 60 lab storesin which they test new ranges, technologies and services (discussed in Vignette 3.1, butsee also 4.4). Similarly Metro set up its Future Store near Rheinberg in Germany (now closed) where alongside testing new technologies such self-checkouts, RFID and smartscales, they also tested and refined their new hypermarket footprint of Real Extra.


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Sainsbury also has its own a technology store in Hazel Grove where it tests the appeal of new concepts to its core customer base 11.

c. The retail innovation pyramid

4.9 What traditional innovation literature does not explore or explain at any length are thetypical application areas in which retail innovation occurs. Our research has identifiedthree such areas: (1) offer-related innovations, (2) support-related innovations and (3)organisation-related innovations. These areas are summarised in the retail innovationpyramid in Figure 4.1 at the apex of which is the retailers overall corporate strategy (Hristov, 2007).

Figure 4.1. The retail innovation pyramid


4.10 Offer-related areas of innovation include innovations in product, service, category

format, channel and market, etc. For example Tescos innovations in non-food categoriesincluding stationery, entertainment, house wares, clothing, electronics, financial services,telecoms and convenience store. For example the US retailer Whole Foods Market hasextended their organic concept beyond their supermarket format into non-food by rolling out in 2005 their Lifestyle store of environmentally conscious clothing, house ware andother non-food products. By locating what they refer to as the Lifestyle Annexe next totheir full-range supermarkets the company is creating one-stop retail destinations for therapidly increasing number of environmentally conscious consumers. (See also theexample of retail service innovation in Vignette 4.3 Retail Clinics). Such innovations arecentral for retailers since they involve customer interactions and have direct contributionto growth. They are often led by major functional areas like commercial (buying), retail

operations, NPD or creative and marketing. In terms of deconstructing retail innovation11 http://www.igd.com, (26.03.2007)

Strategy

Offerrelated innovations

Support related innovations Organisation related innovations


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along the lines of the more traditional innovation typologies of product versus process,incremental versus radical, we conclude that all these are seen amongst retail practitioners.Nevertheless their prevalence appears distinctly retailer specific, for instance in the caseof the novelty mix of a retail range. (See also Vignettes 4.1 Hotel Chocolat, 4.8 -Smileys Delicatessen, Farm Shop and Caf).

4.11 Support-related areas of innovation: On the other hand, support-related areas of innovation encompass innovations in technology, systems and the supply chain, etc.Examples of these are the development of extranet capabilities in terms of electronicstock control, payment, invoicing and delivery systems, similarly sharpening customerfocus through the introduction of customer databases and loyalty schemes or innovating in in-store technologies in terms of sustainable energy consumption, shelf-managementor payment systems. These are seen as key facilitators for the offer-related area andcontributors to overall retailer efficiency and productivity (See Vignettes 4.9 - Boots and

Tesco and 4.10 - The Mid Counties Co-op: payment systems innovation).

4.12 Organization-related innovations comprise the third area, which includes innovations with strategic or operational significance that provide management and delivery frameworks for the previous two - such as innovations in the retail model, inadministrative processes, cross-functional teams or in new activities which requirecoherent management mechanisms such as in the case of CSR, sustainability and ecology.(See Vignettes 4.5 - Zara and 4.6 TK Maxx, 4.7 - Somerset Local Direct, 4.11 - ASDAand 4.12 - the Co-op).

4.13 The management levels and areas of retail innovation described above are summarised inthe organising framework shown in Figure 4.2.

Figure 4.2. Organising framework of retail innovation

Drivers of retailinnovation: external internal

Strategy

Management ofretail innovation: strategic operational

Areas of retailinnovation Market



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Vignette 4.1: Hotel Chocolat: multi-channel format

Context: Offer-related innovation

Example: British chocolate has been a joke for quite a while. We are at the forefront of its resurgence. (Angus Thirwell, co-founder). Hotel Chocolat has exploited a vacant niche within UK retailing for authentic, high quality, British-made chocolate.Hotel Chocolat was founded as a catalogue business in 1993. Its first store did not open until 2004. It now operates a corporategifts service and a tasting club with 100,000 members, in addition to its web site and 22 outlets in the UK., which generate 39mnin sales. It won Emerging Retailer of the Year Award at the Retail Week Awards in 2007 as well as being nominated as aCoolBrand and plans international growth. It is already available online in New York, Boston, Atlanta, San Francisco andChicago.

Vignette 4.2: Migros sustainable brands

Context: Brand innovation

Example: Migros is the largest Swiss retailer with 2m co-operative members, 590 stores, and sales of CHF 21 billion. Overseveral years the retailer has agreed with its suppliers a set of ethical standards manifested through the launch of its range of ownlabels under the umbrella brand Engagement. Each individual label represents a kite mark for a particular initiative of Migros, forexample the elimination of child labour, better living conditions and the conservation of tropical forests. These initiatives pre-date much UK activity. Examples of such labels are:

BIO is for organic products manufactured without the use of chemical-synthetic pesticides and fertilizers, Max Havelaar (Maximal Fairness) is for products complying with our fair trade guidelines, 7-point meat guarantee label is for healthy meat from healthy animals, IP-SUISSE guarantees that the bread, flour, potatoes and rapeseed oil are produced in Switzerland under environmentally

friendly conditions, Marine Stewardship Council guarantees that the fish is from sustainable fishing grounds, Forest Stewardship Council for timber from forests that are managed in an environmentally friendly and socially acceptable

way ECO is guaranteeing environmentally friendly production of clothes, home textil

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