When replicating your previous success isn't enough

The biggest head-scratcher (that probably should not have been a head-scratcher) last week was that Totokaelo, the well-known Seattle boutique that opened a flagship almost a year ago in New York, had sold to Herschel Supply Co, the company that makes those backpacks that are everywhere and also owns Need Supply Co. Almost since the beginning of the company's New York store launch, there were whispers that Totokaelo was in financial trouble, as founder and CEO Jill Wenger secured a big bank loan to open the space, in a five story, 8,400-square-foot store on Crosby Street in SoHo. Such an about-face, and an abrupt exit from independence, is unfortunate, but it brings to the forefront important lessons about scaling a business in new, nonidentical markets.

Success in Seattle

Totokaelo 1.0 was a clear success. Launched in 2008 as an all women's store, with the accompanying ecommerce website and then Totokaelo MAN debuting in 2013, the company cleared $17 million in sales in 2015. Wenger's company had maintained a profit margin of 14 to 24 percent since its third month of business, according to the company, and 60% of its sales came from ecommerce. Totokaelo was fully independent.

To get this far without a big marketing budget, Wenger started writing editorials about the products she was selling and placed a big focus on packaging, often working with artists to design special wrapping paper. But Wenger wanted more. From the BoF piece:

But for Wenger, these two major milestones are only the beginning of her plan to achieve $90 million in annual sales in five years and a network of five brick-and-mortar stores across the globe. Tokyo or Seoul will likely be next; then Western Europe, either Paris or Amsterdam. “We want to go for it,” she says, explaining that the final decision will be based on e-commerce activity in each region.

Off she went, securing a bank loan for the New York store, and publicly stating her audacious goals.

Expanding the retail footprint

One of the first rules for scaling a business is that what worked in one place will not work in another. Companies big and small have learned this lesson the hard way, from Amazon in China (which failed), to Uber in China (which has been bumpy) to Facebook in India (which required a steep learning curve). Simply put, different markets have different conditions and demographics, and replicating something that worked in one market does not guarantee success in the next.

At a high level, this was Totokaelo's biggest problem. It took a highly successful model in the mostly-uncontested luxury market in Seattle and tried to replicate it in New York, which has one of the most competitive retail climates in the world. High rents, cutthroat competition and massive product saturation makes differentiation both challenging and expensive.

One of the more telling examples of how to adapt a success at scale to another market is Amazon's potential success in India. CEO Jeff Bezos had to hand control to an entire new set of leaders and an entirely separate company to give it the operational freedom to succeed. Ascribing the same methods that made Amazon successful in the US would simply not apply in India, and they definitely did not apply in China, which the company learned the hard way. Seattle to New York is not exactly the same as the US to India, but the similarities abound regarding what it takes to succeed locally.

The real question for Totokaelo is was the New York store, and a greater retail footprint in major international markets, the right next move? Since ecommerce was growing very nicely, was this risk worth it? My guess is that the data Wagner saw implied that a ecommerce site with a local retail store is additive, growing the entire pie. If she put a store in New York, the ecommerce sales would grow there as well, the thinking likely went.

But given 60% of the revenues are from ecommerce, it's interesting to consider what would have happened if Wagner kept growing the ecommerce business, which is less risky than opening a store. Additionally, it's worth considering if New York was the next logical move, not another Seattle-like city such as Portland, Washington D.C. or Chicago, where the same formula would more or less apply. Expansion for expansion's sake was not the problem, as much as the decision about where to expand.

Multibrand differentiation

More broadly, succeeding as a multi-brand store, especially in New York, requires something very different. One can't just try to buy products differently than the rest and put them in a traditional shopping experience. One of the biggest problems at the boutique was the product selection, which generally felt derivative and tired because a shopper could find almost every label at Totokaelo somewhere else in the neighborhood, often from a place they had a previous relationship with. Carrying lots of Acne less than five blocks from an Acne store is troubling, especially since the brand will often have a better shopping experience at its namesake store. The same issues exists with Rick Owens, Rachel Comey and MM6, all of which have stores within blocks, not to mention plenty of labels that other multi-brand boutiques carried nearby.

If you look at the boutiques that stand out, customers go to them for a specific reason. Dover Street Market and The Apartment by the Line are two very differentiated examples. At both, shoppers can always expect something new coupled with a defined and luxuriousness shopping experience that does not exist elsewhere. Pushing the experience and the product selection farther than one expected is simply table stakes for succeeding as a multi-brand retailer today. More of the same simply does not cut it anymore, especially in New York.

Expanding into private label

If Totokaelo's retail expansion was not enough, the company planned to expand into a robust private label offering to augment its existing merchandise.

From the Bof piece:

Wenger’s track record has allowed her to secure a bank loan to open the New York store and develop Totokaelo’s ready-to-wear collection, which is set to hit the sales floor on September 20. (The line is women’s-only for now, but there are plans to expand into men’s, jewelry and home.) ... That point of view now encompasses a ready-to-wear collection, which Wenger hopes will constitute 55 percent of the product mix within five years. While many multi-brand retailers have built in-house lines filled with margin drivers, Wenger says that Totokaelo’s initial 25-style effort — priced in line with advanced contemporary labels like Acne Studios — includes pieces that reflect Totokaelo’s specific flavor in a monochromatic color palette that is largely black, white and navy.

Private labels are not inherently bad—often quite the opposite—but the timing of launching such an ambitious effort alongside the launch of the New York store seemed challenging. The other issue with private labels is what role they intend to serve. Private labels sometimes exist to fill holes other merchandise is leaving, which is less worrisome to a brand selling to the retailer. But once private labels start to compete directly with the multi-brand merchandise, growing the private label, while also ensuring it doesn't cannibalize one's existing offering, is a challenge. The acquirers said the private label offering will stay around, but there were likely some complications here as well.

The current state

Taking on a New York launch while starting private label and eyeing the rest of the world proved too much to handle. The company failed to pay vendors on time, faced a flight of talented retail employees and could not afford to keep maintaining the towering space it called home. To stay afloat, Totokaelo even had to stop offering the signature packaging that Wagner called a key to its success in lieu of traditional marketing.

Wagner will no longer be CEO of Totokaelo, although the company will remain a separate entity and she will work on the product and vision. And the ambitious plan to open stores all over the world is also getting paired back. The founder of Need Supply Co, which is acquiring Totokaelo, told BoF that “If there is a space and place to continue to build the story, we certainly would consider it," a far cry from the full-speed ahead mentality Wagner conveyed a year ago.

The other question is how well the New York store was doing. Before it opened, the company was doing $17 million in revenue. This year, according to the BoF article, it's on track to do $25 million, an $8 million gain. But with 60% of the revenue coming from ecommerce (assuming this percentage held), the retail operation added $3.2 million to its bottom line. Even assuming 70% of this added revenue is from the New York store, at $2.2 million, significant costs remain. Around half of this revenue will go towards buying merchandise, leaving $1.1 million. Rent for the store was likely around $500,000 a year, if you average Soho commercial real estates in the area. That leaves $600,000, which has to pay for staff, marketing, and everything else it costs to run a store, not to mention markdowns. Although this math is very back of the envelope and contains assumptions, it's clear that turning a profit, let alone touching the 14-24% profit the company was used to, was far from a reality.

The goal of this piece is not to serve as a referendum or an "I told you so." I was as excited as anyone about the company coming to New York. But it's crucial to understand why things succeed where, and which parts of a success are entirely conditional to a location. If this deeper analysis had happened, there's a good chance Totokaelo would still be a viable, independent business headquartered in Seattle, with a retail expansion to second-cities in the US in the not-too-distant future.