Ratio(nal) Thinking

What does John Lewis tell us about a critical management discipline?

This week’s Moving Tribes offering is prompted by this excellent post and comment discussion on LinkedIn which in turn builds on the big retail story of the week that the John Lewis Partnership are considering cutting 11,000 of their 76,000 workforce in an effort to ‘cut costs’ and ‘improve efficiencies’.

In Neil Saunders’ LinkedIn post he analyses JLP and their staff costs from two perspectives - their sales per employee and their staff costs as a percentage of sales. In both cases he finds that JLP has figures which are significantly worse than rivals like M&S.

That prompts a range of responses in the comments about what is going on at JLP. Long-time readers of this column will remember that I wrote almost a year ago about the strategy that the Partnership was following and my misgivings about it. In the context of a proposed fund-raising strategy for the group, my conclusion can be captured in 2 quotes from that previous post:

If I object to the potential proposal, then, it isn’t because raising money is a bad idea, but because I don’t think the business currently has the right plan for spending it.

and

Sadly, the conclusion from both the Waitrose and John Lewis parts of the JLP story is that cost-cutting, taking staff hours out of stores and trying to compete at lower and lower price points is unlikely to be the answer.

Given that, you might expect me to agree with the flavour of much of the response to this week’s job cutting news - which is that this is a mis-step, that the problem with JLP is not that it has too much staff cost but that it has too little revenue, and that cutting deeply into staffing levels is unlikely to right the ship.

And broadly I do agree with that. I maintain that if you are going to make a department store business work at all, then the in-store experience is a critical part of what your customers expect from you. The implied transaction when purchasing from a department store is that you accept that their range is going to be narrower than a specialist retailer for any given product and their prices will be higher than the online discounters, but what you are getting instead is great advice, great service (before and after sale) and a lovely environment to purchase in.

Walk around a really successful buzzing department store and you can guarantee that no-one in management is wondering how few staff they can get away with.

I’ve also written before about the tyranny of the spreadsheet and how retailers need to be careful not to chase highly visible metrics like staff-hours at the expensive of less measure-able but arguably more important metrics like customer satisfaction and likelihood to revisit.

In defence of the ratio

And yet.

There is a danger in this line of thinking - if taken too far, we end up ignoring all the financial-health warning lights on our dashboard, and we do so at our peril. If your staff costs as a percentage of sales are much higher than your competitors, it is easier and more comfortable to conclude that you need to drive up sales, rather than accept the messy and painful conclusion that you need to reduce your costs.

Anyone who has ever made anyone redundant would rather spend an hour discussing new ways to engage customers and drive sales than spend the same hour letting go someone they have worked with for years.

But those amber or red warning lights on your financial dashboard are nonetheless probably telling you something that you need to pay attention to. Taking the JLP example, for them to get to the same sales per employee as M&S (which isn’t necessarily a perfect comparator but it will do for now) they’d have to increase their sales by 35%, which is simply not going to happen any time soon. In a retail environment where sales growth of even a few percentage points is hard won, “the solution is to grow your sales to fix the ratio” sounds dangerously like fantasy.

This, then, is the central dilemma facing Boards of all shapes and sizes. When faced with a ratio that compares your business unfavourably with a near competitor, what do you do?

We are surrounded by these ratios wherever we look in our businesses:

• Marketing cost as a percentage of sales

• Sales per square foot

• Head office costs as a percentage of store costs

• Deliveries per van

• Sales conversion rates

And millions more. And in every case, if we find some data that shows we are performing less well than some comparator group, we have a decision to make about how to respond.

Inevitably, as human beings the first response is usually to argue that the comparison isn’t fair for some reason. I’ve lost count of the hours I’ve spent in meetings listening to management teams make that complaint, and if I’m honest I’ve spent a fair few hours in meetings making that complaint myself!

But once we get past that and accept that there is a genuine problem in our business then the question is whether we need to work on the numerator or the denominator of our ratio - hence the challenge for JLP - do you try to make sales go up or staff costs go down.

So what’s the answer

I’d love to finish this piece with the big reveal that there is a simple answer to that conundrum which is always right, but we’d be very naïve to think that was possible.

If I was, though, going to offer any advice to someone wrestling with a ‘ratio problem’, it would be that the answer is usually more complex than that, and involves diving into the detail of what is really going on underneath the headline. (Well, I did write a book called The Average is Always Wrong so what did you expect?)

Simple headline comparisons like these summary ratios are a good way of pointing you to where a problem might lie, but they don’t tell you what the problem actually is, let alone the solution. For that, you need to roll your sleeves up and get into the detail of your business. A consultant or advisor might be able to point out the ratio and the negative comparison with competitors, but usually only the management team in the business will be able to figure out how to close that gap.

Taking the JLP example, my suspicion is that they do indeed need some pretty savage work on the cost structures in their head offices, which have a reputation as political and sluggish. Just look at M&S which has been held up as an example of the alternative strategy of ‘grow sales to improve the ratio’. It has indeed done that, but has also been through a savage restructuring and up-skilling of its central teams.

Conversely, however, I’d be putting more not fewer people into the stores. From a Waitrose perspective that would be to try to improve availability (hopefully with a central team driving a big effort on innovation) and in the department stores it would be to create events, drive customer interactions and make the brand really come to life for customers.

JLP’s problems are inevitably public ones given its size and partnership structure, and we all love to talk about a brand we know so well. But I’ll bet that somewhere in your business there is a ‘ratio’ causing a warning light to flash too. How you and your team handle that, and how elegant a solution you find to the problem it is highlighting, will be critical to your business.