Friday, May 23, 2014

“What the hell is ‘percentage’ anyhow ?” – Ingvar Kamprad (IKea)

IKEA founder Ingvar Kamprad dismisses retail planning starting with an average gross margin percentage goal. The excerpt below is from his book Leading by Design.

I say to the economists, “What the hell is ‘percentage’ anyhow ?” – INGVAR KAMPRAD

In 1995 the IKEA furniture store started selling hotdogs at five kronor ($ 0,50) each, as opposed to the usual price of ten to fifteen kronor. This investment was at once successful, and today it contributes to the growing restaurant and food sector by turning over 1,6 billion kronor in 1997, and alone answering for exports from Sweden amounting to 700 million kronor. That makes IKEA Sweden’s leading food exporter.

But behind this success is a special story. The “ten hot dogs strategy” says a great deal about the way the company regards price, competition, and the needs and desires of the customer.

One of IKEA’s basic principles is that of “the substantial price difference.” This is engraved in the first commandment in A Furniture Dealer’s Testament.

The reasoning is very simple. Since IKEA turns to the many people who as a rule have small resources, the company must be not just cheap, nor just cheaper-but very much cheaper. In short, the stores must sell things that, in the eyes of the public, are astonishingly cheap to buy.

So the goods must be such that ordinary people can easily and quickly identify the lowness of the price. That was how Ingvar Kamprad-for it was he-gave birth to the idea of selling hot dogs for five kronor.

He thought that IKEA needed a new kind of item at what he calls a breathtaking price. It was to be sold in the little bistro, which in a compete store is always just where customers emerge from the exit checkouts.

Everyone, including myself, who likes sausages knows what a hot dog costs at a stand. At present it is between ten and fifteen kronor. I suggested to the directors that we sell them at five kronor. They looked at me with dismay and surprise. Perhaps they thought the idea foolish, or perhaps I didn’t explain it very clearly. Talking about selling hot dogs in a multibillion furniture store was not really on the agenda.

To realize the idea, the originator had to participate himself. The target he set was that two people at the counter would be able to sell three hundred hot dogs an hour. A number of trials were carried out, and the best working position as well as the most functional fittings were tested.

It took time, but it soon became a reality. It was an almost immediate success – today hot dogs are sold all over the world on the five kronor principle. Each country has its exact price level (preferably so that only a single coin is necessary), so in Switzerland a hot dog costs one Swiss franc, in Germany one and a half Deutsche mark, in the United States fifty cents, in Austria ten schillings, and so on.

The next objection arose from my staff, who are always concerned with what they call the gross profit margin percentage. We’re selling hot dogs for almost the same amount it costs to make them. Shouldn't we raise the price and take six or seven kronor in profit?

In that case, the project ought to be abandoned, I replied, as the whole idea is based on the substantial price difference, the easily understood price. The hot dog went on costing five kronor regardless of the raw materials. We don’t lose on the deal, nor do we make much profit, but a least we make a little on each hot dog.

In the end, that is what matters.

It is common knowledge within the company that IKEA usually has a breathtakingly priced product in (each part of) its range- a “hot dog”. That has now acquired its own in-house meaning, and Ingvar Kamprad has added yet another eagerly guarded task to his many others.

A little while ago, we advertised a mug costing ten kronor. Come to IKEA and buy the mug, it said. I was upset – the price was much to high. It should have cost five kronor at the most, although it did look pretty nice and was of good quality. It was the price that was wrong.

So it came about that I wrote my philosophy about the ten (twenty nowadays) hot dogs. We have ten different products that live up to “hot dog” pricing.

Take the mug from the above example, called “Bang.”

In Switzerland it costs exactly one franc at IKEA. I haven’t found one on the ordinary market for less than three francs, and even in that case our mug was much better quality. Before, we sold at the most seven hundred thousand mugs per year, and now the “hot dog mug” sells twelve and a half million.

But Ingvar Kamprad is still in search of new hot dogs.

One day I found a wonderful English beer glass for eighteen kronor at our Swedish co-op competitor - I always go and look at what my competitors are doing. It was the kind of English glass with a level measure on it, forty centiliters, heavy and really good to hold. I thought it would be a really good “hot dog.”
I went straight to our most superb buyer and said: “Björn, can you get that glass out at one krona? You can order two million.” He replied: “Nix-I can’t, but maybe in an edition of five million.” The whole thing had the support of the product head, whom, as usual, I had bypassed. The last time I met Björn, he had a supplier who would do the glass at 1,08 kronor.
It’ll work out. So in a short time we’ve put twenty or so “hot dogs” up for sale - the whole organization is up and going.
The reader is right to ask himself or herself why, as the retired head of the firm, I go on with this sort of thing. There are three answers: one is that I find it difficult not to; it also says in my contract that I have a veto in matters of the range; and people in the company often say, “If you’re on to something, let me know.”
So I let them know.
I’m going on with my search for new “hot dogs” – lots of associates are involved. I recently saw a multi-plug we sell for under twenty kronor, while the competitors take about fifty. My belief is that this “hot dog” will sell millions.

Our pricing policy is fundamental.

The stumbling block is when we price ourselves out of the market. Our economists constantly go on that we must keep our “total gross profit margin” to a certain percentage. I say to the economists, “What the hell is ‘percentage’ anyhow?”


Percentage is something mysterious. The only thing that interests us at IKEA is what is left in our pocket when the season is over.

If we had taken ten kronor for that mug, and not five, then we would, of course, have “earned” more on each mug – perhaps one and a half kronor – and had a better “gross profit margin percentage.” But we would have sold only a half million of the instead of almost twelve million, on which we now earn on krona each.

These learning experiences are easy to suppress or ignore. But after having been the subject of endless bickering for over a decade, in this respect we are beginning to wake up with a vengeance.
That pleases me enormously.
"

In March 2000 Kamprad wrote at the end of the IKEA Concept Description:

"There are however dangers lurking in the dark. Small deviations from the well-trodden path can prove to be disastrous. I can depict at least seven major threats to the continued success of the IKEA concept in the future. I would like to share these with you so that you recognize them when one or several appear in your working place, organisation or neighbouring organisation.
False steps may be insignificant in the beginning, but prove to be fatal later on.


Be aware of these trip-wires:
1. Mark-ups in pricing, resulting in an out-of-the-market situation, due to wrong pricing strategies, too high costs, and/or unsound margin-raising instead of counting money."


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