Canadian Pension Model: Kill the Middleman

“Can you give us an outline of what the meltdown meetings were and why they differentiated a vertical company from a wholesale company? To be a truly design-led company, I knew we had to do things much differently than they were done in wholesale. The vertical retail model works on a nine-month calendar, which let us be a year or even two years ahead of our wholesalers since we didn’t have to make samples and show them to middlemen or fashion magazines. This led to developing something we called ‘the quarterly meltdown meeting,’ which became the single most important meeting at lululemon because it set the direction for every other department. In descending order, our line plan was built based on a series of rankings from the sales of the last quarter. Each new ranking was built onto the ones listed before it: • Inside each category (i.e. pants), we ranked styles in percentages sold from best to worst. • We readjusted rankings by what could have sold if we had perfect inventory, delivered at the perfect time. • We readjusted again based on what could have sold if we had perfect styles (i.e. the right number of styles in the perfect length, width, or fit). • Then we’d readjust the rankings again, using new or old styles to use up any excess liability fabrics or trims. All excess fabric must be used up in the next season’s line plan. • From there, we’d readjust to show how a future-focused design team would rearrange the ranking based on their knowledge from working in the stores, leading design meetings, forecasting books, and competitor’s designs. What styles go or remain in the line plan is determined by the head of design and not the buyer. This is a control system. Before the era of lululemon, a buyer was incentivized to order what worked the previous season (buyers are naturally risk-adverse and beholden to finance who wants what is best for accurate financial reporting but not what is best long-term demand). A design-led team might eliminate a good-selling item because the style negatively affects long-term brand value • Finally, we’d readjust to show, “What the production manager would change given fabric, factory bottlenecks, import duties, or opportunities.” What if there is only enough fabric for four styles but the line plan asks for fifteen? What factories are easy to work with? What mills can guarantee fabric delivery? We looked for bottlenecks…”

“The following are a sample of the operating principles (I have over three hundred) that were critical in guiding our rocket ship trajectory. My next book will outline the entire set. Operating Principles Samples OP: Every piece of lululemon clothing must be able to be put through a hot water wash and a hot dryer and continue to look new for five years. WHY? Athletes are busy, and they may want to wear the same clothing the next day. A hot wash and dry is quick and kills all bacteria. As part of our quality guarantee, we promise clothing will not shrink more than 2 percent after being washed hot water and dried in a hot dryer. HISTORY: Before lululemon, people would buy garments one to two sizes too big, so after a wash, the garments would fit. We decided to make clothing that would continue to look exactly the way it did on the day it was purchased five years later. OP: Our store pant and short boxes must carry approximately 60 percent black or black-equivalent pieces at all times. WHY? Our Guests purchase solid black about 80 percent of the time, but we only show 60 percent black in the store boxes, so the Guests see 40 percent of the stock in an item in multiple colours. Most Guests want the perceived freedom to choose a colour, and then buy black. We show enough colour for the customer to have a choice and to make the store vibrant. To keep the black level at 60 percent, the pant wall person needs to be responsible for scanning the pant wall ten times per day and keeping inventory levels perfect. HISTORY: We found that if we didn’t stock 60 percent black, and we didn’t restock throughout the day, we lost sales because we would run out of stock by two o’clock in the afternoon. The entire concept of the boxes is to know exactly what inventory is on the floor in relation to the back room. We may sell 90 percent black, but the Guest wants choice before choosing black. We merchandise to the psyche of the Guests. OP: All invoices are paid in seven days. WHY? With retail stores, the worst thing that can happen to us is not to get delivery of product on time. The first company to pay the factories gets the first delivery, the best seamstresses and tailors, and access to the best technology, all of which is critical to quality-control and innovation. HISTORY: With Westbeach, I never had enough money to pay on time. As a result, I often got delivery last, the least experienced seamstresses and tailors and was the last to be offered innovation. OP: Every dollar a garment is discounted takes $10 off the company’s value. WHY? Guests subconsciously attach more value to full-priced garments and correlate full price to a strong brand. HISTORY: Customers are trained by merchandisers (who are incentivized by short-term bonuses) to wait for sales and these customers psychologically discount the value of the brand. OP: We value our customers’ time as though they are making $100/hour. WHY? We assume our Guests make $100 an hour, and if they are delayed fifteen…”

“But some customers have already grown tired of giving away such a large share of the profits. The Canadian pension authorities have, in recent years, built their own organization to do the same thing as the private equity firms. They simply remove the middleman. Sometimes they do buyouts on their own; sometimes, they co-invest with a private equity firm when purchasing a company. In this way, the pension company gains access to the private equity firm’s expertise without incurring much of the cost. Of course, it is easier for North American giants to dispense with middlemen than it is for the Swedish AP funds.”

““It’s very much about avoiding the worst and second-worst quartile funds, avoiding deadweights,” says Bengt Hellström, head of alternative investments at the Third Swedish National Pension Fund, formerly a partner at EQT.”