The biggest mistake that most retailers make is their attempt to be "everything to everyone." Instead, many successful retailers differentiate themselves from their peers by focusing on a specific niche. Specialty retailers like Destination XL (NASDAQ:DXLG), Destination Maternity (NASDAQ:DEST), and Children's Place Retail Stores (NASDAQ:PLCE) work hard to ensure that they win repeat customers and make it difficult for customers to switch to their competitors.
Destination Maternity is the biggest maternity-apparel retailer globally. As of November 2013, it boasts a retail footprint of close to 3,000 locations, including more than 100 international locations operated through franchisees. Demand for maternity apparel will be stable, with U.S. birth rates expected to grow at a steady pace of 0.8% per annum going forward. In addition, maternity-apparel products are 'must-have' products for moms and are less affected by fashion or seasonal issues.
While a specialty retailer serves a niche market, it doesn't have to limit itself to a single brand or a single price point. It covers the entire maternity market with distinct brands spanning all price points, tailored to the varying needs and spending powers of its customers. Destination Maternity's A Pea in the Pod brand targets premium customers with exclusive designer label products, while it sells its Motherhood Maternity apparel brand at value prices.
Destination Maternity basically builds a firewall against new entrants, making it nearly impossible for competitors to find inroads into the maternity-apparel market and steal market share by undercutting it on price. One classic example is Honda, which moved up the value chain from motorcycles with small cylinder capacity to eventually challenge Harley-Davidson in the larger motorcycle category. Destination Maternity didn't make the same mistake as Harley-Davidson, in ignoring competitors at the lower end of the market space. As a result, it maintains its leading position in the U.S. maternity-apparel market with an estimated 35%-45% market share.
Babies and kids
As the largest children's specialty-apparel retailer in the U.S., Children's Place competes in two major segments: infants and toddlers aged four years old and below, and kids aged between four to 14 years, which accounted for 30% and 50% of its fiscal 2013 revenue, respectively.
Since 2011, Children's Place has introduced its higher margin "made for outlet" products in its outlet-store formats, which accounted for about 12% of its 1,000-plus stores in the country. Compared with its full-price stores located in malls, Children's Place's outlet stores targeted price-conscious customers. As a result, it had to be clever with its merchandising strategy. Made-for-outlet products are more basic in their design and come in fewer colors and sizes. Made-for-outlet products now make up 80% of the SKUs (stock keeping units) in its outlet stores.
However, merchandising and SKU management is as much about customer knowledge as it is about operational efficiency. One example is Wal-Mart, which had to add back 300 SKUs to its stores in 2010 after its SKU rationalization exercise called "Project Impact" backfired. Wal-Mart saw its customers desert it for its competitors which carried their favorite products. Unlike Wal-Mart which served a wide demographic of customers, Children's Place had the benefit of superior customer insight because of its specialization in children's apparel when it designed its made-for-outlet products with its target customers in mind.
The big and tall
A niche market isn't solely determined by demographic; physical characteristics can also define a new group of customers. Destination XL is the country's largest specialty retailer serving the men's big and tall market. The big and tall market, defined as male adults with a waist size of 40 inches and more, is about 40 million strong in the U.S. Destination XL currently only has a customer base of about 1.5 million active customers, suggesting that there is room for further penetration of this market.
It is not simply about meeting the needs of this under-served group of consumers as a one-stop shop with a wide range of brands, styles, and colors, as this can be imitated by competitors to a certain extent. Instead, Destination XL delivers a unique shopping experience dedicated to the needs of its big and tall customers. Wider aisles and larger changing rooms make Destination XL's customers feel more comfortable shopping at its stores. In addition, Destination XL also has on-site tailors to make sure that its customers have the perfect fit.
To increase customers' costs of searching for a satisfactory alternative to Destination XL, it has in place a loyalty program called XL Rewards to nurture customer loyalty. XL Rewards allows customers to accumulate points on purchases, which can be redeemed for discounts on future purchases. The results of XL Rewards are impressive, as about 90% of its active customers are members of XL Rewards. Furthermore, its top-tier customers spend more than $1,000 annually in Destination XL's stores.
While the specialty retailers listed above differ with respect to their strategies, they have one single thing in common: they focus their efforts on satisfying the needs of their highly concentrated customer base. Of the three, Destination XL is my favorite, as I see the biggest potential for growth in the under-served big and tall market.
Mark Lin has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.