Analysis: What John Lewis profit plunge means for retail

The group’s chairman Sir Charlie Mayfield had signalled in June that first-half earnings would come in at “close to zero”.

Only a week before the results were issued, Paula Nickolds, managing director of freshly rebranded John Lewis & Partners department stores, again emphasised how steeply its bottom line was expected to drop.

But when it was formally confirmed that, at Partnership level, profits had nosedived 99% to just £1.2m, the plunge – assisted by a spat with Brexit Secretary Dominic Raab over the UK’s looming departure from the EU – made headlines on front pages as well as in the business sections.

While grocery specialist Waitrose & Partners managed to notch up an operating profit of £94.4m, the eponymous department store arm slipped into a £33.5m loss.

It prompted sharp intakes of breath and hand-wringing among retailers. If John Lewis, the bellwether of retail, can’t make any money, what does that mean for the rest of the industry?

Time to jettison Never Knowingly Undersold?

Cut-throat discounting, particularly among John Lewis’s department store rivals, took a toll.

Competitive conditions were exacerbated by the death throes of House of Fraser as it headed over a period of months towards administration.

Promotions became the order of the day as Debenhams followed suit, as did John Lewis & Partners as its Never Knowingly Undersold promise was activated.

“It’s the absolute essence of the brand. John Lewis stands for fair play and fair practice”

Darren Topp, Retail Executives

Some have questioned whether that price pledge has reached its sell-by date.

Mayfield said Never Knowingly Undersold had cost the retailer about £40m over the half, in the “most promotional market we’ve seen in almost a decade”.

Nevertheless he maintained the price promise was of “huge” value to the business. Mayfield said: “It’s the most comprehensive price promise in the market, no-one else has anything quite like it. If you think about the huge value, the trust that comes as a consequence of it, it’s extremely valuable and has proven to be so over many, many years.

“Times like this test the real integrity of that promise. You can’t just be never knowingly undersold in good times, you actually have to be up to it in tougher times.”

Darren Topp, the former chief executive of department store business BHS who now chairs headhunter Retail Executives, sides with Mayfield.

He argues: “It’s the absolute essence of the brand. John Lewis stands for fair play and fair practice.

“If you’re a customer you know they’re offering you the best product at the best price. There was a short-term impact, but Never Knowingly Undersold is a long-term commitment to the customer.

“The partnership structure allows it to look to the medium and long term when many are struggling to keep their heads above water and it’s all about cashflow.”

“It is one of the very few price promises that actually mean anything, but it was designed for a shopping public when times were very different”

Richard Hyman

Veteran industry watcher and consultant Richard Hyman sees Never Knowingly Undersold as both a positive and a negative.

He explains: “It’s always tempting to look at things in a black and white way. Never Knowingly Undersold does have considerable traction.

“It is one of the very few price promises that actually mean anything, but it was designed for a shopping public when times were very different. What I think is that it needs to be updated.”

However, Andrew Jennings, the former Harrods and Karstadt boss and author of Almost is not good enough: How to win and lose in retail, questions the continued appropriateness of the price-matching strategy.

“This sounds like heresy to the partners I’m sure, but it’s change or die. The strategies of the past don’t work now”

Andrew Jennings

He says: “I’m not sure they can afford to do it any more. This sounds like heresy to the partners I’m sure, but it’s change or die. The strategies of the past don’t work now.”

And, despite the maelstrom of discounting, Jennings argues that the lesson for other retailers is that they need to swing the axe on perennial price-cutting too.

“We can’t keep cutting prices,” he maintains. “Costs are going up. Retailers need to be selling at full price.

“It’s very difficult, but you can’t keep doing what you’ve been doing or you get the same results.”

Retailers could begin by scaling back the number of promotions, he thinks. “Cut it down from 12 to 10 to eight events. It all starts with how much you want to sell at full price.”

Own-brand the future

One way in which John Lewis is seeking to avoid being drawn into price matching with direct competitors – and online giant Amazon – is by building its own-brand and exclusive ranges.

The department store business has launched John Lewis & Partners Womenswear, its biggest own-brand collection so far, which it describes as “a significant step forward in our plan to build a £500m own-brand fashion business”.

Similarly, it has become the “exclusive high street partner” of third-party brands such as denim specialist Madewell.

Topp says that strategy makes sense if executed well. He observes: “Own brands have got to have the same credentials and quality of product and style as the branded product around it. The challenge is doing it in a great way, and John Lewis have some history in this.”

But Jennings cautions: “Own brand is not a panacea. It is only a success if the product is the right product, and we’ll see in a couple of seasons if it is.”

Hyman sees logic in own-brand development and draws a wider lesson for retailers.

He says own-brand does help avoid discounting but argues “that’s not the main reason they’re [John Lewis] doing it”.

Hyman says: “Looking forward, it’s very difficult to be successful selling other people’s product – Selfridges is the exception to the rule.

“It will be difficult because brands have progressively less reliance on retailers to deliver customers. Traditionally retail had a monopoly of putting customers and product together. Digital means that is less and less the case.

“Having a unique proposition is much easier if your product is unique and I think that’s the biggest reason they’re doing it.”

Investment priorities

Another big contributor to John Lewis’s profits slump was investment in areas of the business such as IT, including cyber security.

That investment is vital as it builds multichannel operations and chases its ambition of generating 50% of the department store chain’s sales online (they were 39% in the last half).

The retailer has also been investing in stores to focus more on the provision of shopper services, such as advice on technology or fashion consultancy, and emphasising standards of service and the difference its people make through its ‘& Partners’ rebrand.

While some may question whether investing £400m to £500m a year makes sense, especially if profits are in reverse, Jennings backs the strategy.

“John Lewis does deserve a few brownie points for asking: ‘What is the biggest competitive strength we have?’ And the answer is service”

Richard Hyman 

He says: “I like [John Lewis & Partners managing director Paula Nickolds’] philosophy of activities in-store, creating places of discovery and delight, and bringing more service onto the floor.”

Hyman says: “All too often, the response [to tough conditions] is totally focused on the cost line – CVAs, admins, getting rid of people, or all of the above.

“Very rarely do I see restructuring applied to the revenue line, and the overwhelming issue is most don’t sell enough product.

“Only a fool ignores the glass half-empty, but John Lewis does deserve a few brownie points for asking: ‘What is the biggest competitive strength we have?’ And the answer is service.

“It has set standards in customer service in retail. The winners in the market will not be the ones who can control costs. You need loyalty. How do you get that? By delivering added value and exceeding expectations.

“As much as you can when profits fall 99%, it has had the courage and vision to invest in strengthening that.”

At the same time the Partnership has strengthened its balance sheet, bringing net debt down by £700m.

Structural shift

Perhaps the big takeaway from John Lewis’s update is that it is evidence, if any more were needed, of the deep changes being wrought on the retail industry.

Topp says: “If you’ve got a great operator like John Lewis that can’t make money, it illustrates the challenge for everyone else.”

Hyman is emphatic that there is more change to come. John Lewis’s results, he says, are “a massive warning signal to anyone who could possibly think this is going to blow over”.

The change is not cyclical, but structural, he argues. “It’s going to last years.”

Mayfield pointed out last week that in conditions which make forecasting “particularly difficult”, full-year profits are anticipated to be “substantially lower for the Partnership as a whole”.

Growth at Waitrose will be offset by “continuing margin pressure and incremental costs of investment” at the department stores.

Despite the doubters, John Lewis’s top brass are confident in their strategy. Many other retailers, unless they can say the same, must still find ways to adapt and it may be costly – that is the fundamental message from last week.