Calculated risk | L.L. Bean CEO Chris McCormick discusses the company's accelerating expansion and the need to steal market share in today's retail world

When Chris McCormick became CEO of L.L. Bean five years ago, much was made of the fact he was the first non-family member to head the 90-year-old catalog company. More significant than his family background, however, was the task he'd taken on: McCormick stepped in to lead a reorganization years in the making to broaden Bean's focus outside its traditional catalog sales.

Since McCormick's appointment, Internet sales have grown to the point that this year is expected to be the first that online orders outstrip catalog sales. But the most significant push is a physical expansion beyond the company's Freeport home base. Bean's first retail store outside of Maine opened in 2000 in Tysons Corner, Va., and four more in the northeast and mid-Atlantic states have followed since then. The company has taken a slow approach ˆ— until earlier this year, when Bean announced plans to build more than 20 stores over the next four years. Two new stores are expected to open this year ˆ— one in Massachusetts and one in Pennsylvania. Next year, the company plans to open three stores in the Northeast. After that, Bean plans to open three more stores in 2008, then eight more in 2009 and possibly another eight in 2010.

Given the acceleration of what seemed like a cautious expansion pace, Mainebiz sat down with McCormick to learn more about the company's retail strategy, and to talk about the changes required to turn a 94-year-old catalog company into a multi-channel retailer.

Besides the infrastructure and operational changes you would expect, McCormick says he also needed to inject a spirit of risk-taking in the old family business in order to deal with a more competitive retail marketplace. And while his job requires a careful balance to avoid the kind of too-fast expansion that felled companies like J. Peterman ˆ— it filed for bankruptcy in 1999 after rapidly expanding both its catalog and its retail stores ˆ— McCormick says the company's expansion is essential to its survival. "In order for a company like Bean to grow you have steal market share. You have to be very competitive," says McCormick. "It requires a different skill set, and we're different from back in the old days."

Read on for more about these changes. An edited transcript of the conversation follows.

Mainebiz: To outsiders, it seems like L.L. Bean's retail expansion has been moving very slowly in the five years since you became CEO. With the recent store announcements, it seems like things are starting to pick up. Has this pace been deliberate?

McCormick: I would share your point of view that it's been moving slowly, but that was necessary. Bean for 94 years has been a catalog company, and we're competent in the catalog channel. And even though we've had this retail store [in Freeport] for years and years, it's a totally different animal than an expansion out of state, because the warehouse is a mile away. Anything you need, you just run down here to fill the store.

This year the Web is going to be the largest revenue channel for Bean, so at the end of this year, you could argue that we won't be a catalog company anymore, we're going to be a Web company. But going from catalog to Web was easy for us because you're still using direct marketing and how we fulfill and communicate with customers is very, very similar to the catalog channel.

Going from the direct channel to retail is a major change. For example, the warehouse that we have is really designed to support catalog and Internet orders. When we get shipments in from our suppliers, they are all boxed by SKU ˆ— they are all blue oxford cloth shirts, size large. And that's okay for the direct channel because as orders come in, the pickers pick a product and send it out. For retail, it's just the opposite. They don't want a box of all one SKU, they need what's called a rainbow box, which could be all blue shirts but along the entire size curve. And it's more efficient for us if we minimize the amount of product being shipped from the warehouse. It would be better if we shipped that product directly to the store, and keeping track of where that inventory is and how much inventory you have is a major, major systems change. So we had to invest a lot in infrastructure in the last five years.

Are you talking about physical infrastructure changes, or is it new processes and software?

All of that. We have our old warehouse here that we're converting to a retail warehouse. But the process of fulfillment to the retail stores needs to be designed and supported differently than what we've had here. So it is a process change, but it's also a physical change in the warehouse.

It's also a system change. There are services that we want to provide in retail that we can't today but we are building for next year. For example, if you're a mail-order customer and call up the operator today and ask if we have a blue oxford in stock in the Tysons store, we don't know, because our systems aren't talking to each other yet. But during this year, you'll be able to pick up the phone and know exactly what the inventory is in that store. Soon after that, you'll be able to go online and look at the inventory by store. If you wanted to order a product and have it shipped to a store, we don't have the capability right now, but we will.

So you're comfortable enough with the infrastructure changes you've made so far to support the new stores, but there are still more changes you have to make?

Right, and that's a good thing. I don't want to wait until everything is in place before we move, because the market is not waiting. Our competitors are not waiting. So if I ˆ— and I have ˆ— determined there is enough progress and enough momentum to build the infrastructure to support the retail rollout at this point, then I'm going to give the green light to roll out stores. That sends the message to the organization to continue the progress that's been made, because now there's a renewed sense of urgency. We have two stores opening in a couple of months. We've got three opening next year. We've got five opening after that, and we're not turning back, so we've got to make sure that projects are getting done in time.

It sounds like there's a balance between being prepared and needing to move quickly. Did you want to up the ante a little bit with the plan for the next four years?

It's important to keep the organization motivated and energized about the need to get things done. Don't worry if it's not 100% perfect ˆ— it doesn't have to be 100% perfect, we're gonna go.

Explain why expanding Bean's retail business is so important, especially in light of how much the Web business seems to growing. Why not focus more attention on that channel, where the infrastructure needs and costs to grow seem much more manageable?

Two reasons: One, 90% of all transactions in this country occur in the retail channel. So mail order and Internet depend on 10% of the transactions. Bean is very well developed in the catalog and Internet channel, but we're totally not developed in the retail channel, and that's where 90% of the market is. So it just makes sense to move where sales are ˆ— knowing, of course, that it's an extremely competitive environment.

The second reason is ˆ— and this is one of the benefits of being a direct marketing company ˆ— we know from our research that customers who go to this flagship store [in Freeport] have a much better understanding of the Bean brand than if they just buy from the catalog or the Web. Along with that, we know from research that customers who experience Bean in multiple channels ˆ— retail, catalog and Web ˆ— have the best understanding of the Bean brand and become the most loyal customers. So it's to our advantage over the long-term to have more people buying across all three channels.

What about your geographic strategy? Obviously, the Northeast is an important market for Bean, but why cluster three stores in greater Boston instead of siting one farther away to attract customers who aren't within easy driving distance to Boston?

There are a few reasons. When we locate a store site, we first do an analysis by zip code for Bean catalog buyers, and we look for total population and demographics and so forth. Once we identify the high-potential areas, the next step is to identify if there's any space there ˆ— and to some degree [where we locate a store] is determined by what's available.

Second, one of the things we learned is that the goal is more than just generating sales. If you want to generate profitable sales, you have to leverage different parts of the business. So, for example, if you have multiple retail stores within a market, you can leverage your advertising costs. The same is true for fulfillment. If you have a truck going down to Boston that hits three stores, you're fulfillment costs are lower. It's a more efficient way of expanding retail.

Our plan, though, is to start moving farther west in 2008 and 2009. The reason why we're locating more in the mid-Atlantic and northeast region is because the catalog-buyer penetration is greater there, and it's closer to the home base. Therefore, it minimizes some of the risk for us, and that's what we want to do ˆ— sort of put our toe in the water and see what we learn from it, and then start getting more aggressive.

What have you learned from the stores you've opened in the last few years?
A couple things come to mind. First, the Tysons store, which is the first store we opened outside of Maine, was about 72,000 sq. ft. on two floors. A two-floor store is not as efficient as a one-store floor. It's more difficult to staff and the traffic flow is different. Another learning experience is that the Tyson's store is in a traditional mall. That's not as good for us as a lifestyle center, which is more of an open-air mall. Customers have easier access to the store that way, especially if you're selling equipment like bikes and kayaks. It's a lot harder moving those things through a mall than through a lifestyle center.

Also, a more efficient template for is a 30,000-square-foot footprint, which is still about five times the footprint for the average specialty retailer. That's what we need to really show the assortment that we want to display for the customer ˆ— men's and women's apparel, kids and home, and outdoor sporting equipment. That's not to say, though, that we're not looking at a much bigger format or a much smaller format. For example, if you look at our bike shop that just opened [in Freeport], we're wondering if we can replicate a sporting equipment store in resort areas ˆ— a bike/ski store near Acadia, for example, or maybe a fly fishing or hunting store in Montana. The other thing we're exploring is whether we can replicate a flagship store. If we were to locate in a market that has a large population and a lot of Bean catalog buyers, can we find a scenario where it economically makes sense to locate a 160,000-square-foot store?

What is the company's overall goal with this expansion? Do you have a target number of stores you'd like to open or total sales you expect to generate from the retail channel?

We have done some financial scenarios, and given the assumption that we open three stores next year, then five stores and then eight stores thereafter ˆ— assuming all 30,000-square foot stores, which may change ˆ— the retail channel could be over $1 billion within eight years. We don't have a particular financial target out to 2012 that says we have to be a $2.5 billion company. It's more important for me to show sustainable sales growth per year that's profitable, that we can manage well, that we can maintain our good service and provide employees with growth opportunities, as opposed to saying, "We're going to be a $3 billion company by such and such a date." We don't do that.

The retail landscape is littered with companies that grew too fast and had to pull back due to the cost of those expansions. How much has the company invested so far, and how much is it prepared to invest to keep its retail expansion going?

I don't know off the top of my head how much we've invested. It's millions of dollars per store, but that's negotiated with each developer so every store is a little different. I can tell you how we plan it, though: When we do our long-range financial plans, our feeling is that if we grow sales eight percent to 10% per year, and you make some assumptions for G&A or capital investment, we can maintain a level of profit that the company has been used to over the years. And so that's more sustainable.

If you start growing faster than 10%, that's when the machine starts overheating a little bit. And it's not so much from a financial standpoint, it's more putting stress on the organization. You need to hire more people to fuel the machine. There's a point where, if your workload is too heavy, you get burnt out, and you're likely to make mistakes and cracks start happening in the foundation, and that's what I'm worried about.

Because Bean is a privately held company, I would think there's less pressure to expand than there is for publicly traded retail companies that have shareholders expecting a certain level of growth each quarter. Do you feel like you can set your own pace because you don't have to answer to Wall Street?

I can't tell you how pleased I am being a privately held company. The public companies are dealing with Wall Street and you have these quarterly expectations that you have to meet, whereas a privately held company ˆ— especially Bean ˆ— can take a long-term view of the business and make investments that will pay back years from now.

A couple of years ago, Bean was looking at buying Eddie Bauer. Was part of your interest in that company related to the ability to expand your retail footprint quickly ˆ— to get established retail stores and a distribution system?

Not really, because the Bauer stores tend to be smaller stores, like 5,000 sq. ft., and a lot of them are in malls, so they couldn't accommodate our needs. The reason we looked at Bauer, really, was because it was a no-lose situation for us. Here is a key competitor going belly-up, and we had an opportunity to investigate all the details of that competitor. So we wanted to look at the patient, basically, and find out what their strategies were and their financials and so forth.

We quickly determined it was a financial mess. It wasn't just their retail stores, it also was their direct channel. Their Web business was actually okay, but their catalog sales were dropping fast and their retail sales were dropping quickly ˆ— they closed a lot of stores. And then we had concerns about the quality of the Bauer brand that was being diluted because of the Chapter 11 process, and so for those reasons we decided to take a step back and not pursue it.

That doesn't mean to say that we're not keeping an eye out for opportunities. Even though our retail growth is going to fuel us for the next five years or 10 years or so, at some point in time there may be an acquisition for us down the road or another startup like we had with Freeport Studio years ago, where it makes sense to go after a market niche.

I was wondering if the retail expansion involved more than just broadening the geographic reach. It sounds like you're also considering changes in the product mix and targeting niches that you're not in now.

Yeah. We haven't landed on any one niche or product market that we're not in yet, but we're exploring it. One thing that we want to address in the next few years would be that we're very dependent on Christmas for our sales. Most retailers are, but Bean more so than typical retailers. I think it's because the Bean brand is associated more with cold weather ˆ— you know, Maine, cold weather. That's risky for a business to have such a high percentage of its sales and profits come from two months of the year. So what can we do to diversify our business ˆ— either from a product standpoint or brand standpoint ˆ— that would generate more off-peak sales? We're exploring possibilities.

The company launched its Freeport Studio line in the late 90s, but shut down the brand a few years later. Did you learn anything from that failure that will change how you pursue new brand development in the future?

Actually, in certain ways Freeport Studio was a success for the company, in that it was the first and only launch of a new business for us. Over a short period of time it had a significant amount of sales and had broken even and started heading into the black. So, having that sort of entrepreneurship in the company was very positive.

The thing that we learned was, Freeport Studio was what's called an "endorsed brand," where you have the brand Freeport Studio by L.L. Bean. So, understanding the pros and cons of having that association with L.L. Bean is something we really took away from that experience. For example, Bean doesn't necessarily stand for casual or dressy women's clothing, so there's sort of a disconnect there.

I think what we'd do if we did it again is try to separate Bean from the new brand entirely. And that way, you have a lot more freedom to grow that business and not be tied to the Bean brand attributes. So if you want to do women's clothing or jewelry or something like that, you won't have someone say, "Bean doesn't sell jewelry."

But expanding your retail presence or even creating new brands means entering some very competitive markets. It's not like Bean can simply look at the retail space and find an untouched niche.

What makes it even harder for us, when we're used to this [Freeport] store doing so well, is that it's not, "Build it and they will come." It's, "Build it and you've got to make things happen." And you're right ˆ— you're walking into the lion's den.

I wanted to talk about competition. Recent news reports have made a big deal about outdoor supply company Cabela's coming to Maine ˆ— taking on L.L. Bean in its own back yard. To me, the move seems symbolic more than anything else, since the two companies have been competing in the catalog channel for years. But how much are you paying attention to Cabela's moves or other competitors' moves in the Northeast.

We're watching Cabela's as much as we always have. We do a pretty good job of watching all our competitors, whether it's Cabela's or Land's End or Bauer or anyone else. It's part of being externally focused and understanding your competition.

Cabela's potentially coming to Maine is fine from our position. Maine's a great state, there are a lot of outdoor activities here, it's a great market. We're a competitive group of people, so we say bring it on.

What we don't like is someone having an unfair competitive advantage. We'll compete with anybody on an even playing field. What Cabela's is asking for are concessions on taxes for their direct channel, and we don't agree with that. When we open a store in another state, we establish a physical presence in that state as defined by the Supreme Court, so we collect sales tax on all orders, including catalog orders, from that state. [Cabela's] wants to open a store in Scarborough, but they don't want Maine to tax their catalog or Internet sales [from Maine]. Well, why? If they have a physical presence in this state, the state should tax their catalog and Internet sales here. We don't mind Cabela's coming, but when it comes to special tax concessions, it's not good for Maine and it's not good for competition.

Are there several companies you watch carefully, ones you feel like are competing head to head with Bean?

Oh yeah. We have a long list of competitors that we watch, and it's because we're in so many different businesses. We get public information that's available, we use Internet research, we do customer surveys and try to determine what their competitive advantage is compared to Bean and how can we exploit their weaknesses. And it could be anything ˆ— it could be services that they offer or don't offer, it could be product quality or assortment, it could be pricing strategy, it could be location. It's really interesting. We have several groups of people in the company that do nothing but monitor our competitors.

You have to do things differently when there are 14,000 catalog companies out there, and I don't know how many stores out there. As a country, we're over-stored and over-cataloged, and there's the law of supply and demand. So prices are falling and consumers have more options to shop, and you have to have something unique to get them to come to your store or catalog or you're going to die.