Wednesday, March 20, 2013

Apple, J.C. Penney* and fitness landscapes in everything

James Kwak has an excellent piece on Ron Johnson's unfortunate run as CEO of J.C. Penney.
According to today’s Wall Street Journal article, Johnson quickly eliminated coupons and most sales at J.C. Penney.

“Johnson bristled when a colleague suggested that he test his new no-discounts strategy at a few stores. . . . ‘We didn’t test at Apple,’ the executive recalled Mr. Johnson . . . saying.”

Well, yeah. Apple doesn’t discount because they sell stuff that people really, really want and that they can’t get anyplace else. And they don’t test because Steve Jobs refused to. At Penney? Sales have fallen by about 30 percent.

This doesn’t mean Johnson is stupid, or that he’s going to fail as CEO. Apparently he has partially reversed his early decision, which is a good sign. But it brings up a common feature of external CEO hires. Companies in a perceived crisis often look outside for a new leader, hoping for a superman (or -woman) who can singlehandedly turn around the organization. Not completely illogically, they tend to look for people at successful companies. “Make us more like X,” they pray. In Penney’s case, X = Apple.

There are two important questions they tend not to ask, however. First, was Apple successful because of Johnson, or was he just along for the ride? Yes, he was the main man behind the Apple Store (although, according to Walter Isaacson’s book, Steve Jobs was really the genius behind everything). But was the success of the Apple Store just a consequence of the success of the iPhone?

Second, even if Johnson was a major contributor to Apple’s success, how much of his abilities are transferable to and relevant to J.C. Penney? There’s a big difference between selling the most lusted-after products on the planet and selling commodities in second-rate malls. When someone has been successful in one context, how much information does that really give you about how he will perform in a new environment?
The obvious interpretation here is as a cautionary tale of executive hubris, but you can also look at it in terms of fitness landscapes (the following will be fairly straightforward, but if the concept doesn't ring a bell you might want to check herehere, and of course, here).

Let's try thinking in terms of the retail fitness landscape (presented with the usual caveat that I'm way out of my field). Just how distant is the Apple Store from J.C.P.?

Apple Stores are a relatively small boutique chain (400 stores total, 250 in the U.S.) concentrated heavily in prime commercial urban and upscale suburban areas. Their customer demographics tend toward upper income, fashion-conscious early adopters with a demonstrated willingness to pay a premium for quality. Inventories consist of a few heavily-branded, high-quality, high mark-up items, all of which come from one very visible supplier with an excellent reputation. This allows an unusual (perhaps unique -- there's not another Apple) symbiotic relationship. The stores give the supplier a presence and a profit center while the stores benefit from the supplier's powerful brand, large advertising budget and unparalleled PR operation.

In terms of customers, products, brand, retail space, vendors relations, logistics, scale and business model, moving from the Apple Store to JCP was a shift to a distant part of the retail landscape. What Johnson did, in essence, was say "these coordinates are associated with an extremely high point on the landscape (the Apple Store). Even though we've made large shifts in many of these dimensions, we can keep the same coordinates for the other dimensions and we'll find another optima."

To put this in context, here's a useful example from T. Grandon Gill
Suppose, for example, you had a fitness function that mapped the list of ingredients to an objectively determined measure of “taste fitness” for all the recipes in a cookbook. If you were to do a regression on taste (dependent variable) using the ingredients (independent variables), you might find—for instance—that garlic shows a high positive significance. What would that tell you (other than, possibly, that the individuals rating the recipes enjoyed garlic)? What it would definitely not tell you is that you could improve your recipe for angel cake by adding garlic to it. Indeed, the whole notion of applying a technique that assumes linear decomposability to a fitness landscape that is so obviously not decomposable is preposterous.
Substitute a low level of coupons for a high level of garlic and you have a pretty good picture of the JCP strategy.

How do we know the retail landscape is rugged? We don't, but we do have considerable evidence that certain approaches work better in some circumstances than they do in others (i.e. there are multiple local optima). More to the point, Johnson's entire strategy pretty much assumed that the many small and large players in the department store area (including Macy's, Sear, Dillards, Kohls, the pre-Johnson JCP and countless smaller chains and individual stores) were trapped in one or more low-quality optima. When you have this many diverse companies in a market this competitive and this mature, you expect to see a fair amount of something analogous to gradient searching ("That worked; let's do more to it."). If they haven't settled on your optimum point, it's almost certainly because they settled on another.

The lessons -- when you move into an established market you should probably assume the established players know the field and you should probably not assume that what worked somewhere else will work here -- could be (and were) reached without referring to fitness landscapes, but they do make a good framework for approaching a wide variety of problems.

Johnson moved to an unfamiliar region of a probably rugged landscape and refused to explore the surrounding area for higher points despite the fact that numerous other players that had explored the region had settled on a completely different points. When you phrase it this way, it doesn't sound good (of course, Johnson's approach doesn't sound good when you phrase it most ways).

* The 'C' stands for 'Cash' -- no, really.

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