With just a passing glance, it would be easy to dismiss the news: Walmart (WMT 0.05%) is expanding its private-label apparel brand Free Assembly to include kids' clothes. Walmart is already a clothing retailer, including children's apparel. Last week's announcement isn't exactly a game-changer.

However, when the news is viewed as part of a series of similar maneuvers, a theme becomes clear. Walmart is increasingly taking control of its own supply of inventory, up to and including making (well, procuring) its own goods and bypassing national brands as a result.

It's absolutely the right move, for a couple of reasons.

Woman shopping for television sets in a big-box store.

Image source: Getty Images.

1. Private label brands have become the norm

It would be easy not to notice you can't buy Free Assembly clothing anywhere else but Walmart. Ditto for Time and Tru, Wonder Nation, George, and others. Then there's Walmart's non-apparel house brands like consumer technology products from Onn, groceries sold with a Great Value label, Winemakers Selection wine, toys from Kid Connection, and Hyper Tough tools, just to name a few. All told, the company's working on a few dozen house brands right now.

Are you surprised that the world's biggest retailer has been able to place so many of its own products onto store shelves right next to more traditional national brands? That's kind of the point. There was a time when store brands clearly stood out as store brands, by virtue of their low-quality packaging and (often) subpar quality. No longer, though. Most private-label products are now given as much thought and investment as their national counterparts.

The catch: It takes significant resources to cultivate a private-brand portfolio like Walmart's.

That's not to suggest others aren't doing it. Bed Bath & Beyond (BBBY) just unveiled a new private-label home decor brand called Studio 3B, marking its seventh launch of a new house brand this year. Target (TGT -0.36%) manages a few dozen owned brands including Cat & Jack and All in Motion, 10 of which are each driving more than $1 billion in sales per year, and four of which are each producing more than $2 billion worth of annual revenue.

Although Walmart has certainly stepped up its efforts on this front, its private-label programs arguably don't look nearly as well developed as those of Target and Bed Bath & Beyond. The launch of Free Assembly Kids, however, is another step of many that have been moving the store chain in that direction. Now this effort may be nearing critical mass, generating unexpected sales growth and even greater margin growth.

2. Private label brands help push margins higher

Yes, profit margins on private labels are higher than they are for third-party brands. While the degree of profitability improvement can vary from one category to another, the aggregate figures suggest house brands generate around twice as much margin for a retailer as national brands do. In the low-margin world of retailing, that's huge.

And two of the world's best private labelers aren't shy about confirming these goods are better moneymakers. Target's chief growth officer, Christina Hennington, said at an investor conference earlier this year: "Our owned-brand portfolio, which spans all categories, is vital to the success of our business. It represents about one-third of our total sales and even more of our gross margin."

Bed Bath & Beyond CEO Mark Tritton, largely credited with building Target's private-label program before resigning his role as chief merchandising officer in October 2019, has extensively rebuilt Bed Bath & Beyond with more, higher-margin private labels in mind. He's now expecting gross margins to swell from 35% to 38%. With enough of the right exclusive, unique, quality products, the goal is within reach.

But better margins aren't the only upside of a bigger and better house-brand operation. A hand-picked mix of merchandise can also fill inventory gaps.

Take Target again as an illustration of this potential of private label offerings. One-third of its revenue is driven by house brands. As CEO Brian Cornell put it in May during the company's first-quarter earnings call, "From our unique mix of categories to our unmatched fulfillment options ... our business is delivering what consumers want and need." And he seems to be right. During the quarter in question, Cornell estimates $1 billion worth of the $4.5 billion year-over-year increase in revenue came from sheer market-share gains and weren't just the result of a post-pandemic rebound.

Bed Bath & Beyond isn't where Target is just yet when it comes to house brands. It expects to get there in the foreseeable future, though, driving margin growth as a result. Private labels only account for around 10% of the home goods chain's revenue now, but plans laid out in March indicate that Tritton intends to get that proportion up to 30% within three years. Much of that will have to be organic growth.

It's now part of the Walmart growth thesis

Although Walmart isn't nearly as forthcoming with numbers about its private-label program, it's not exactly a stretch to suggest its house-brand revenue is nowhere near Target-like levels. It's also unlikely to keep pace with Bed Bath & Beyond's projected private-label sales growth. Walmart still has to carry a little of everything, and it needs national brands to make it happen.

Don't underestimate the potential of Walmart's private labels, though, as small as they may be right now. The world's biggest retailer has only recently turned up the heat on this effort, with the Free Assembly brand itself only launched in September of last year. The debut of Free Assembly Kids is just the latest development in a string of private label evolutions that have taken shape in recent months, most of which have been shrugged off.

Ignoring this is a big mistake. This is now a key part of Walmart's future -- a future that's brighter as a result, if Bed Bath & Beyond's and Target's successes are any indication.