Note: The following posting can be viewed and commented upon on the Kinaxis Supply Chain Expert Community web site.

A Wall Street Journal article last week, Home Depot Undergoes Renovation (paid subscription may be required to view) once again highlights how this remodeling and building materials retailer continues to try to overcome market share loses to rival Lowe’s. The article notes that Home Depot’s history of supply chain capabilities is hampering the company’s productivity and customer service, as compared to Lowe’s, its prime industry rival.  In the article, Home Depot executives concede that the company’s supply chain still won’t be state of the art even after a current investment phase is completed.

Home Depot just reported its first rise in same store sales since 2006, and its stock has lost half of its value over the past 10 years because of shareholder perceptions that the company is not competing efficiently with its industry rivals.  In the article, rival Lowe’s CEO is quoted as noting that he was confident that the Lowe’s supply chain capabilities would continue to provide a competitive edge [over Home Depot].

The notion of losing market share does not lie squarely on the shoulders of Home Depot’s supply chain teams. Rather it is on the awareness and actions of its former senior management.  They did not adequately address both the need for more responsive customer service and investing in industry leading supply chain operational effectiveness.  Instead of enhancing these capabilities, former management led by ex-CEO Robert Nardelli chose to focus on a strategy of centralization and massive IT, and the results are still a rather heavy anchor for this retailer. Much has been written in traditional supply chain media about the Home Depot transformation story, but in my mind, these stories fall short of addressing insight and learning that can be derived.  More importantly, there are some key takeaways around the specific notion of whether smaller, more-focused IT systems deployments trump large-scale and unwieldy deployments that promise multiple benefits for multiple business objectives.

Past history and learning from others are the greatest lessons in management.  There are constant reinforcements and learning that point to the fact that the success of any large-scale transformation lies in the right balancing of the three most important factors of right people, right process and right systems. Take a moment to scan an August 2004 article published in CIO magazine.  The article notes that the origins of Depot’s original success were a decentralized business model where stores were populated with highly knowledgeable sales persons with backgrounds in various building trades.  When customers had a home improvement project, they were confident that their Home Depot store could be just as knowledgeable as the local hardware store in recommending what to buy and how to install.  Regional and store-level managers, those closest to the customer, were empowered with decisions of merchandising and inventory mix.  An original business process design principle was that individual stores would serve as principle stocking centers, in essence a warehouse store model.  IT systems were for the most part homegrown, under the belief that the Home Depot business model was unique and beyond the capabilities of packaged software at the time.  Average store revenues in prime geographical markets were roughly $60-$80 million, which could justify high levels of de-centralization.

Home Depot’s troubles began when the chain decided to accelerate store growth.  A hodgepodge of different store layouts caused customers to be confused as to where to find articles. Multiple store expansion in primary and secondary geographies also caused average store revenues to decline, exposing inefficiency in inventory management.  The majority of supplier shipments flowed directly to the stores and resulted in the Home Depot being the single largest less-than-truckload shipper in the United States, since about 80 percent of supplier shipments were sent directly to individual stores on half-empty trucks. Individual stores were their own stocking centers and store associates had to spend more time in unloading trucks than serving customers.  Managing individual suppliers on delivery performance was an individual store task, causing suppliers to have the upper hand in hiding inefficiency.  Economies of scale for buying from individual suppliers were lost, and transportation systems were not up to the job of managing these higher volumes of activity. The homegrown IT systems also became unwieldy and expensive to modify as the overall scope of business increased.  The business model became compromised as to who had the most stores in the most locations vs. superior customer service.

When previous CEO Nardilli took the reins in December 2000, he decided to make dramatic changes.  From his origins of senior management at General Electric, the primary goal became lowering the overall costs of operating the business and returning more to Wall Street and shareholders.   Reorganization included the centralization of merchandising, store planning and marketing, which rival Lowe’s was already successful at doing.  The goal was to make all stores look the same for shoppers, as well as to dramatically reduce operating costs at the store level.

The prescription further called for large IT that could deliver dramatic gains in productivity, efficiency and decision-support needs. In 2002, he hired a new CIO who came from Delta Airlines, and a $1 billion overhaul of IT infrastructure was prescribed.  This IT transformation included among its projects, replacement of point-of-sales systems, including installation of self-checkout systems, a huge data warehouse for sales and labor management information look-up needs, and assorted ERP investments in PeopleSoft and SAP.  The 2004 CIO article notes a background quote from retail consultant George Whalin, President of Retail Management Consultants.  He did not accept the assertion that all this technology could improve customer service, and further asserted that technology was rather being positioned as the answer to eliminate workers and improve margins.  I found this Whalin quote to be most profound: “their ability to distinguish the stores is going to be badly damaged the more they go to this model of more technology and little in the way of service.”  That was a consultant quote from six years ago.

For 10 straight quarters, from Q2 of fiscal 2001, through Q3 of fiscal 2003, same store sales and net earnings paled in comparison to Lowe’s.  Home Depot stock felt the impact, dropping from $67 in December 1999 to $20 in January 2003. During this same post 9/11 era, consumers were very active in their home self-improvement projects, meaning lost-sales for Home Depot. Meanwhile, Lowe’s had already been quite successful in practicing a conservative IT model, one more focused on highly specific business needs such as implementing retail planograms, and empowering existing store associates with automated inventory information. Whereas Home Depot was the first to implement automated checkout, Lowe’s continued to have existing store associates trained to cover registers during peak volumes.  Their assumption was that people were to be supplemented by process improvement as opposed to eliminated.

During SAP’s 2005 Sapphire customer conference, the then CIO Robert DeRodes hand picked by Nardilli, was on center stage touting a multi-year, $50 million rollout program. I attended that conference and distinctly recall hearing about the multiple customer support and supply chain process improvements that would be garnered as a result of this SAP deployment. 

In 2006, Mark Holifield was hired as senior vice president of supply chain and mandated to modernize the supply chain. Holifield has extensive retail industry supply chain and merchandising credentials, and had previously led the supply chain efforts at OfficeMax, for 12 years.  Holifield is a pragmatist, and he rightfully surmised that the supply chain deployment model had to be turned on its head, and fast.  Lowes had implemented a logistics hub and spoke store distribution model as far back as the early nineties. Holifield laid out an aggressive plan of transformation.  A primary goal was to flip inventory flows, moving the majority of inventory through regional flow-through distribution centers, while shifting inventory replenishment decisions to the RDC’s themselves. With the endorsement of current CEO Frank Blake, the company announced an additional $260 million investment in improved supply chain capability through 2010. The end-state goal is have more than 75% of COGS (cost of goods sold) flowing from the RDC’s.  The company also smartly invested in both a supply chain network design and inventory optimization analysis in order to understand the most efficient means to deploy its new RDC network to balance transportation and inventory investment needs.

Flash forward once again to January 2007, after the resignation of Nardilli. A blog entry published on ZD Net commented on the IT report card to date, and then speculated that a new CEO would most likely usher in a downshifting on the benefits of large IT. In 2008, Home Depot hired Matt Carey, formerly the CIO of EBay for two years. More importantly Carey spent more than 20 years with Wal-Mart, where he was senior vice president and chief technology officer. During his tenure at Wal-Mart, he managed the rollout of the wireless RF infrastructure and led the implementation and integration of Walmart.com, Samsclub.com and the grocery home delivery business in the U.K.  The sense was that Carey would bring a more pragmatic and complimentary approach to IT, but keep in mind that Walmart is not noted as having a high customer service model within stores. The emphasis has always been on lowest cost.

Meanwhile on the supply chain front, Home Depot’s project teams have been hampered by the need to not disrupt exiting retail store operations while the transformation to RDC’s occurs. These same teams must also balance this changed distribution and inventory management model with the existing SAP rollout.

Flash forward one more time to January 2010, and in an effort to dramatically impact customer-facing capabilities, there is now the announcement of a $60 million investment in Motorola hand-hand terminals.  A direct quote from Carey notes the following.  “If you compare us to a world-class retailer, from a technology perspective, 1991 is kind of where we are pegged. This is the first big customer-service tool we’ve given our associates in a very long time.”  While I suspect that this quote was made in the context of customer-facing IT, it certainly does not endorse the merits of the previous multi-million IT investments.

While this has been an uncharacteristically longer than usual posting for this blog, I wanted readers to dwell on the important lessons that can be derived from the ongoing initiatives underway at Home Depot.  Industry competitive advantage is really about the practical ways that teams can balance the needs for people, process and technology to solve customer needs.  Too often, especially in today’s business environment, firms fall into the trap of focusing on the near-term needs for eliminating people to increase profits. Applying massive amounts of technology to solve large problems vs. tailored technology to enhance a business process or in the case of retail, providing answers to customer problems and buying needs seems to be a perspective lost by those who stand to gain by huge transformations.

In the specific case of Home Depot, closing the supply chain gap with Lowe’s remains a self-admitted open question. 

What your view on near-term vs. longer-tern transformation which occurs in phases?  What about large IT vs. focused IT applied to supply chain transformation needs?

 Bob Ferrari