IESE Insight
Hard discount retailers: the secrets of their success
Aldi and Lidl are among the top 10 global grocery retailers, each grossing more than $60 billion. What is their secret? IESE Prof. Marc Sachon explains the four principals behind the success of these and other discount retailers: limited assortment, private labels, high quality at low prices, and efficient operations.
When the German business brothers, Karl and Theo Albrecht, launched their first Aldi store in Germany in the early 1960s, little did they imagine that the discount chain would boast more than 8,000 stores in 18 countries just 40 years later.
The international boom for hard-discount retail chains really took off in the '90s. Today, the German retail chains, Aldi and Lidl, dominate the hard and soft discount markets, with a total of 15,000 shops worldwide.
Aldi is the clear market leader in the hard-discount field, acting as a role model for competing chains from other countries. By 2009, the two leading discount chains, Aldi and Lidl, featured in the top 10 global grocery retailers, each grossing more than $60 billion.
So what is their secret? And how have they conquered the discount model in retailing?
In this technical note, IESE Prof. Marc Sachon explains that consumers focus on two parameters: cost and quality.
Following these, the aim of hard-discount retailers is to supply customers with basic goods of daily need at the lowest possible prices, while maintaining high-quality standards. This is achieved through four fundamental policies:
- Limited assortment of products.
- Increasing the percentage of private labels offered at low prices.
- Establishing and maintaining a high quality/price ratio, i.e., high quality at low prices.
- Efficient operations.
Less Is More
Offering a limited assortment of products is the most crucial pillar of the hard-discount model, as it enables retailers to provide a high volume of basic goods and helps to streamline efficient operations. It involves limiting the range of product categories and stock keeping units (SKU) within each category.
The large purchasing volumes are a result of a focus on everyday products — and the large number of stores. In 2006, orange juice and toilet paper, for example, were the most important products for Aldi and Lidl in Europe. These everyday products guarantee frequent repeat purchases and few SKUs.
Hard discounters offer a very narrow product assortment, with few SKUs per category. They focus on private-label products, offering few brand names, e.g., less than 10 percent of Aldi's products are brands. Soft discounters, on the other hand, tend to offer a broader product portfolio that also includes more brand names. While Aldi is a hard discounter, also called a "no-frills store," Lidl would be a soft discounter.
Read:"Fast Fashion Retail Strategy Flying Off the Racks"
Private Labels: Advantages and Drawbacks
Hard discounters use private-label products for two main reasons. First, they involve lower costs, allowing for lower price points. Second, they give hard discounters more leverage with their supply base, as they can exchange one supplier for another more easily: the discounter owns the label, not the manufacturer.
Creating private labels allows the retailer to cut out the middleman ("disintermediation"), be more selective of suppliers and implement quality controls to its liking.
However, private-label products do have two key drawbacks. First, any blame or liability for quality problems is shifted from the manufacturer to the retailer itself. Second, consumers have more difficulty identifying with or recognizing a private label brand than they do national brands. This is where the quality and ?value for money? aspects become crucial.
Read: "Do Private Labels Always Benefit the Supply Chain?"
Quality, Not Quantity
Hard discounters have embraced the phrase ?quality, not quantity.? They put great emphasis on the good quality of their standard private-label products, while providing a limited range of products.
Suppliers must pass rigorous quality controls and meet tight objectives. Hard discounters can quickly substitute or change their supplier according to the quality and service provided. This allows retailers to maintain a high level of competition or rivalry between suppliers, and maintain a competitive cost-versus-quality balance.
A reduced number of SKUs allows retailers to focus on quality rather than quantity, and keep operations running as smoothly and efficiently as possible.
Efficient Operations: No Lingering
Efficient and cost-effective operations are the backbone of any successful hard-discount retail model. Motivated by the ongoing objective of carrying out fast inventory turns, hard discounters can often take advantage of operational side effects that spring from this — namely, frequent deliveries and reduced working capital.
Another technique is the use of cross-docking — a logistics practice that involves unloading products directly from one transport vehicle to another in a cross-docking center, to avoid incurring storage costs. At Aldi, more than 90 percent of products in the standard product catalog are distributed via cross-docking facilities; the rest are locally sourced products, such as bread.
Hard discounters pay attention to detail in all aspects of operations management. The author gives the example of Aldi's checkout counters, which are short and have no buffer zone at the end to load shopping bags. This encourages customers to transfer their purchases to their shopping carts quickly and head straight out the door after paying. Unlike some supermarket chains, such as Wal-Mart or Tesco, there are no café facilities — again, encouraging customers to purchase goods as quickly as possible and avoid lingering.
Perhaps one of the key features of hard-discount retailers is the decided absence of a marketing department, a strategy department or collaboration with consultants. By focusing on operations and customer satisfaction — quality products at low prices — there is no need to invest in marketing or communication, as the products and operations model sell themselves. Aldi competes on efficient operations and a philosophy of turning every penny before spending it. This culture was established by the Albrecht brothers more than 40 years ago, and still endures today.
The hard-discount model is a prime example of strategic coherence: There is a perfect fit between business strategy, operations strategy and day-to-day operations, and all the elements reinforce each other. It is also an example of how different business strategies can be successful in the same industry: Aldi uses the hard-discount model, Wal-Mart uses the full-line assortment model, and 7-Eleven Japan uses the convenience-store model. All are very successful, while operating in the same sector.