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FIGHTING BACK

Discounter Zellers makes sweeping reforms to compete with Wal-Mart

BY SUSAN THORNE

Renovated stores sport wider aisles and more-attractive signage and fixtures.

Competing with the world’s largest retailer can be both expensive and difficult, with no assurance of success, as Canadian discounter Zellers has learned.

Toronto-based Hudson’s Bay Co., Zellers’ parent, is hoping that a fresh, new store format will increase sales and boost Zellers’ image in its head-to-head rivalry with Wal-Mart, whose Wal-Mart Canada holds first place in the Canadian discount sector. Hudson’s Bay announced in March that it will spend about half of its C$200 million to C$250 million ($153 million to $191 million) in capital improvement funds renovating Zellers stores.

“You can’t stand still in retail,” said Gary MacDonald, Zellers’ senior vice president of store operations. “You have to constantly upgrade and evolve. We are investing to upgrade and evolve along with our customers.”

The new Zellers store protoype includes electronics and baby departments, diner-style restaurants, enhanced grocery sections and wider aisles, and more attractive signage and fixtures. Roughly half of Zellers’ 312 stores, which measure about 97,000 square feet, have already been updated according to this model, and the remaining stores are scheduled to follow over the next four years, says MacDonald.

“Normally, when people walk into one of our upgraded stores, they express surprise and talk about the store as being very attractive,” said MacDonald. “I think you would be very favorably impressed with the stylishiness of the environment.”

Zellers says it expects to realize an annual profit increase of about 5 percent at renovated stores, though MacDonald calls that a conservative estimate.

The new format is only the latest in a series of enhancements Zellers has undertaken in its market-share battle against Wal-Mart. Zellers adopted an everyday low pricing strategy two years ago and has expanded its exclusive branded merchandise offerings over the past several months. One landmark choice was the addition in 2003 of two clothing lines by Mossimo, a label Canadian shoppers will find only at Zellers (or at Target, if they want to cross the border to the United States). In March Zellers launched the “Stuff by Hilary Duff” fashion line, capitalizing on the popularity of teen recording and film star Hilary Duff, whose name will grace apparel and accessories for young girls. The new addition brings the total of in-house brands to 30, including Disney (children’s clothing, women’s sleepwear), Airwalk (skater-oriented apparel), Orange Tab Levis for women, Home Styles (housewares) and Request (junior-size clothing). A growing assortment of “Truly” private-brand merchandise in the food, health and beauty categories complements this branding strategy.

Zellers has updated half its 312 stores; the rest will follow over the next four years.

This substantial investment in the chain is “the price of admission to stay in the ball game,” said David Brodie, a retail analyst at Toronto-based stock brokerage Research Capital Corp. Hudson’s Bay has put its house in order with better fiscal and inventory management, says Brodie, which is, of course, an area in which Wal-Mart excels.

“They have made a lot of adjustments,” he said. “They are trying to cut down costs, and they’ve done a lot in that respect in the back room in terms of inventory management and logistics.”

The company has also scrutinized its real estate. After Hudson’s Bay bought Kmart Canada’s 112 stores in 1998, some Zellers stores were suddenly too close to the now-converted Kmart stores — and too small, Brodie says. Zellers replaced many of these with larger stores.

Now there’s something for baby, too, in the revamped discount stores.

Well executed as all these efforts have been, however, Zellers hasn’t been able to snatch any sales from Wal-Mart, Brodie says. “None of this has resonated with the customer to increase sales per square foot, and you have to wonder what could accomplish that,” he said. In fact, Zellers’ year-over-year sales dropped slightly in fiscal 2003 to C$4.6 million, from C$4.7 million in 2002. That may be an anomaly, says George Hartmann, a retail analyst at Toronto-based Dundee Securities. Those results reflect the impacts of deflation, weak clothing sales, the SARS scare and Ontario’s summer blackout, as well as some fallout from the Iraq war, Hartmann says. “These are all mitigating factors that probably won’t happen again.”

Yet there is room for considerable improvement at Zellers, industry observers say.

“The trouble is that the rollout isn’t complete — they’ve got numerous stores that don’t reflect the new look,” said Richard Talbot, president of Talbot Consultants International, a Toronto-based retail and shopping center consulting firm. “This is always the problem when retailers do a makeover — they announce it, they carry it through in the big cities, but in small towns it’s still the same-old, same-old.”

Zellers is often compared to Target in its endeavors to bring the excitement of branding to the discount category, but Talbot says Zellers lacks the promotional punch that Target has used to great advantage. “Target features fantastic ‘wow’ promotions and one-of-a-kind items, but Zellers isn’t doing that,” he said. “To a certain extent, that niche has been occupied by Winners in Canada.”

But Zellers’ family focus contrasts markedly with Target’s market orientation, points out Kari Emond, Zellers’ fashion director for private brand development.

“Our customer is a woman, a mom with an average age of 32 who is shopping for her everyday needs for home and family,” Emond said. “If you analyze Target’s merchandise assortment versus ours, they probably have greater breadth in the [highest] price band; you might find six leather jackets to choose from, where we would only have two.”

It is not possible for a mass merchant in Canada to market to as narrow a demographic band as Target does, Emond says, because of Canada’s smaller population versus the United States. “It’s harder to dissect the market, because you start to lose critical mass.”

Though it’s good to see Zellers stand up to Wal-Mart, says Tom Leung, executive director of Vancouver, British Columbia-based Thomas Consultants, the discounter has failed to follow through on its new store image in terms of basic store upkeep and appearance. “If you go into a Zellers, the shelves are often empty, and the store is dirty. The basic quality has dropped in the last five or six years.”

And Zellers’ situation is becoming untenable, Leung says, because The Bay, also owned by the Hudson’s Bay, has shifted its price point down in recent months, even as Zellers moves slightly upward with its branded strategy.

“Zellers is now facing competition not only from Wal-Mart, but also from the Bay, which has been moving downscale to target what’s perceived to be a larger mass market out there,” Leung said. “The Bay has encroached on traditional Zellers market territory.” Under the circumstances, Zellers might best merge with the Bay, he says.

But despite its troubles, Zellers does still enjoy some advantages no other discounter can match. One is its strength as a shopping center tenant. It will continue to occupy a strong role in regional shopping centers, Talbot says, because the Bay is often the only other real anchor choice. This limited field of discount and department store players in Canada also protects Zellers from competition to some degree, says Dundee Securities’ Hartmann. “We have an unusual competitive structure, with only two discounters or mass merchants — Zellers and Wal-Mart — and two department stores — Sears and the Bay,” he said. “This is rather positive [for those retailers], in that we don’t have the problem of extreme competition with too many similar retailers.”

Canada’s relatively small population means that mass merchants there cannot market to narrow demographic bands as their counterparts do in the United States.

As a division of Hudson’s Bay, Zellers stands to benefit from new cross-promoting initiatives that jointly advertise the Bay and Zellers under the “HBC” umbrella. The two chains now share the HBC credit card and HBC Reward loyalty program, and they are starting to offer common merchandise items, such as Beaumark appliances, a traditional Bay brand now available in selected Zellers stores.

And there’s something else the chain has going for it. The Zellers name carries historic resonance in Canada (the company was founded in 1931), and that identity is trumpeted in the “Proudly Canadian” slogan posted at newer stores. But Leung says this home-grown character could be exploited to better advantage. “Canadians are very, very nationalistic,” he said. “We don’t wave the flag as such, but in terms of purchasing habits and where we choose to spend our dollars, we are very loyal. If you were to provide a Zellers and a Wal-Mart store of similar quality, I’ll bet the Zellers would get far more shoppers than Wal-Mart.”

MacDonald is sanguine about the retailer’s chances against Wal-Mart. “It’s our objective and expectation that we will have a competitive edge not just against Wal-Mart,” he said. “We are trying to be a compelling shopping destination versus a variety of retailers.”

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