It was 2 in the morning when Bayard Winthrop woke up and, "clear as a bell," saw the solution to a business puzzle that had been giving him fits. He sat up and started scribbling as fast as he could on a pad he kept at his bedside, trying to get it all down before it slid away like a dream.

This was back in 2010, when Winthrop was president of a San Francisco-based company called Chrome that made bags and backpacks favored by a pretty demanding clientele: bicycle messengers. He had been brought on to expand Chrome's line into apparel and footwear and help it open some stores--essentially to turn Chrome into a more mainstream retail brand. "But as we were starting to wind up that engine and go," he says, "consumers seemed to be really changing behavior."

For one thing, e-commerce was transforming buying habits more than ever, thanks to the rise of mobile shopping. But there also seemed to be a surge of interest in artisanal quality and in products that stood for something meaningful--in everything from tomatoes to beer to leather goods.

"To me it was like a frustration call of consumers," recalls Winthrop, a Springsteen-loving former investment banker who ditched the Wall Street dream when it left him unfulfilled. "They were saying, 'We want quality, we want transparency, we want values.'" The same virtues, in other words, that mass-market retail brands weren't giving them, the ones that gave rise to online craft emporium Etsy, bespoke bicycles, and a thousand farm-to-table restaurants.

A serial CEO of both tech and consumer-product companies (he led two outdoor-adventure-gear makers and sold the online community Webchat to Disney), Winthrop knew all too well that, under the typical brick-and-mortar-retail business model, as much as 80 percent of a product's cost was tied up in real estate, distribution, and marketing. "You spend your whole career looking at 20 percent of the cost, and you just can't touch the other 80 percent," he says. Chrome was spending so much on distribution and marketing that it had no choice but to "chip away at quality, at the value system of the brand, to pay for a lot of shit customers didn't care about," he says. "It was just crazy!"

Winthrop's late-night epiphany was simple, really. What if he started a brand that flipped that whole system on its head? If he sold directly to consumers online and avoided real estate and expensive marketing wherever possible, he'd be able to invest the enormous savings in product quality and lower prices, a kind of competitive double whammy. And if the product was truly in a class of its own, word of mouth through social media and press coverage might just be enough to drive brand awareness all by itself. "I was like, Jesus Lord, I have to do something," he says.

Today Winthrop is the CEO of American Giant, which sells a line of high-quality sweatshirts and other cotton basics--Slate once called its signature hoodie "the greatest hoodie ever made"--that it produces in American factories at prices comparable to those of much flimsier sweatshirts from the likes of Abercrombie & Fitch and American Apparel. Winthrop founded the company in 2011, and now, with sales tripling annually, it's one of several, including Warby Parker, Bonobos, and Everlane, that are reinventing what it means to be a retail brand.

Winthrop recently published a book with the venture capitalist Randy Komisar of Kleiner Perkins Caufield & Byers, an old colleague and adviser, that puts in stark contrast the opportunity companies like American Giant are seizing and the forces that prevent legacy retailers from doing the same. Called I F**king Love That Company, the slim volume argues that the costs of traditional retail--including real estate, inventory, labor, distribution--are simply unsustainable against e-commerce as perfected by Amazon. At the same time, Amazon's robotic efficiency, while great for diapers and trash bags, is hardly a formula for creating love among consumers. So new online outfits like American Giant are using a decade's worth of lessons from the Amazons of the world to create their own specialized, highly personalized vertical stores centered on products and values people actually care about, in categories such as apparel, food, and furniture. "Never in the history of retail has the opportunity to build a brand been better," Winthrop and Komisar write. They call it the "post-Amazon world."

Online Goes Offline

Andy Dunn co-founded Bonobos back in 2007, "with a contrarian idea that we could reinvent the fit of men's pants that was more anatomically correct than anything on the market," he says. The keys were a contoured waistband that rose slightly in the back, to prevent the dreaded butt sag, and a slimmer thigh and shortened rise. "And as we looked at all the different body shapes," Dunn says, "we knew that we'd have to go really granular on sizes." He understood that opening a chain of stores would require huge bets on inventory and an inevitable cycle of aggressive discounting when some of it didn't sell. But like Winthrop, he also knew that if he sold directly to consumers online he could hold all that stock cost-efficiently in one place--he calls it "aggregating demand across the country."

As word of Bonobos spread across Facebook, the company became one of the earliest "post-Amazon" online consumer brands. Dunn began to widen his line to include everything you'd find at your typical Banana Republic, and pretty soon the little showroom in the lobby of Bonobos' New York headquarters began to look like, well, a store. Which is when he had a second contrarian idea: that the form and function of a store could be reengineered. He opened that lobby showroom to the public and called it a Guideshop. Customers could come touch the clothes, try them on, and then buy through the e-commerce operation Bonobos had already built; their purchases were then shipped to their homes. In the process, Dunn could avoid the burden of carrying a full inventory in the back of the shop. The store, in effect, would function as a real-world interface for the web operation--physical up front, digital in back.

American Giant’s Bayard Winthrop, seen here at the Sunvalley Shopping Center in Concord, California, built his hoodie brand online. Now that he has legions of adoring fans, he’s entertaining a move to actual storefronts.
CREDIT: Drew Kelly

By 2011, that first little Guideshop was doing about $1 million in sales annually, roughly 7 percent of the company's overall revenue. "It was obvious that people still like to touch and feel the product and receive great personal service," Dunn says. "What was so contrarian was that people were buying in droves without walking out of the store with anything."

Today there are 17 Bonobos Guideshops around the country, and they account for somewhere around 20 percent of the company's estimated $100 million in annual revenue. Sales per square foot, the yardstick by which retail performance is traditionally measured, is "the highest we know about in men's clothing," Dunn says. "It's in the four figures." He expects there to be 20 Guideshops by the end of 2015 and several times that many in the next few years.

If that plan sounds eerily familiar, it probably should. Isn't the retailer's quest for more stores and more square footage the beginning of a slippery slope into the old model? In their book, Winthrop and Komisar describe what they call a "death spiral of bad choices," in which declining foot traffic to stores requires physical retailers to sacrifice quality and service in order to maintain their profit margins (see sidebar, right).

Dunn insists the economics of his stores are entirely different, though. "It normally takes 2,500 to 3,000 square feet to do what we can do in 1,000 square feet," he says. "We can offer a full selection of our fit but not hold the inventory on location, because it's just a showroom. Once the store doesn't have to act as a distribution center, we can focus more on service." (To that end, the company encourages shoppers not just to walk in but also to schedule Guideshop appointments with an associate who leads them, one-on-one, through the entire Bonobos line.) Dunn says his Guideshop business is nearly profitable--the average order value is 50 percent higher than online--and expects his e-commerce operation to be as well in the next year, in part thanks to the visibility Bonobos has gotten from its physical stores. For all its expensive challenges, brick and mortar, in other words, may still be the best-performing interface.

Stores have always been branded environments, of course, but their primary purpose has been, by necessity, sales. The migration of natively digital retailers like Bonobos or eyeglass maker Warby Parker (or Apple, for that matter) to brick and mortar has turned that equation upside down. Since launching its meticulously designed temple to optometry in New York City's SoHo in early 2013, Warby has opened 11 more stores nationwide, plus a few satellites attached to other shops. Co-founder and co-CEO Neil Blumenthal says the stores were conceived primarily as giant marketing tools. "We wanted to plant a Warby Parker flag as a lifestyle brand," he says. "We thought that having an actual store where people could physically experience the brand would enhance and strengthen it."

If they're tools, they're really good ones, because sales are soaring in the Warby stores (a stratospheric $3,000 per square foot, on average). But again, as the company rolls out to more and more locations, the question of how disciplined it will be in the process worries some observers. "Are they extending the brand to strengthen it, or are they building for distribution?" asks Komisar, who has been watching closely since writing his book. "I don't know yet, but it's possible they're starting to believe their growth has to come at retail. If you're sitting on the board of Warby Parker and you look at those sales numbers, you say, 'Build me 100 more of those.'" Or 500, or 700, Komisar imagines an investor saying, until the sales efficiency declines enough to match the rest of the market--at which point the death spiral takes hold. "Patagonia almost went broke in the '80s doing that," he points out.

That uncertainty hasn't stopped other online-first specialty shops from plunging headlong after Bonobos and Warby: Harry's, the men's shaving and grooming products company, has a barbershop in Manhattan, and the young women's fashion retailer Nasty Gal has two boutiques in L.A. Even Amazon, the ultimate e-commerce purist, is jumping in. Jeff Bezos has rolled out Kindle kiosks in several malls and airports, and the company recently filed a patent for a new kind of store checkout system--a prelude, it is widely assumed, to its opening a trial location in the near future.

Offline Goes Online

As their online competitors experiment with offline formats, legacy retailers have begun converging on similar territory from the other side of the physical/digital divide. Grocery chains are signing up with delivery services like Instacart to allow shoppers to have their purchases delivered, Uber-style, within an hour. Lululemon, the yoga wear chain, offers free shipping from its stores, to match its online policy.

Meanwhile, a new subspecies of consultant has evolved to help companies adapt. At the Westfield San Francisco Centre mall, for example, overlooking the food court, a suite of offices contains Westfield Labs, an in-house retail-innovation group started by the Westfield parent company. An international mall developer that operates 40 properties in the U.S. and Europe, Westfield has a history of being prescient. It has sold most of its second- and third-tier suburban locations over the past decade, and today, in a gigantic version of Warby's brand-experience strategy, it focuses on unique properties in iconic destinations.

When Stores Work Like Websites

An ecosystem of services has evolved to help physical retailers streamline stores and target customers--the way online retailers do.

Same-Day Delivery
Instacart works with Whole Foods and other chains to bring one-hour delivery to the grocery business. Google and Uber are working on their own services, and mall developer Westfield invested in a competing startup.

In-Store Pickup
Order most stuff online, and then head straight to the fish counter to see what's fresh. As seen at Whole Foods (via Instacart), Target, Office Depot, and Best Buy.

Beacons and Geofencing
Beacons are Bluetooth devices that send targeted offers or messages to shoppers smartphones. Geofencing targets wider areas--a parking lot or city block--via GPS.

Sensors
Companies like RetailNext and ShopperTrak analyze data from sensors and cameras around stores to optimize flow and sales conversion. Several software solutions, from Microsoft and others, can even determine the age group and gender of shoppers in real time.

Smart Mirrors
Touchscreen dressing-room mirrors from companies such as MemoMi and the retail innovation group at eBay allow shoppers to get complementary product suggestions, change the lighting, or take snapshots and share them on social media. The stores get valuable data, of course, about what, exactly, closes a sale.

Mobile Point-of-Sale
As any Apple store customer knows, mobile devices can eliminate the checkout counter altogether. Other companies aim to eliminate similar retail bottlenecks. Westfield is even testing a program to help shoppers find an open parking space.

 

"The game used to be, obviously, to own as much real estate as you possibly can, everywhere," says Kevin McKenzie, the company's chief digital officer, who manages Westfield Labs. Now, he says, the game is to create a spectacle worth visiting, or at least attractions that require physical presence. Some of the changes along those lines are predictable--day spas, better restaurants, movies. Some are more surprising, such as a Westfield initiative called Bespoke, which is a combination co-working space and event hall that launched near the food court this spring; there, the company expects to hold pop-up shops, fashion shows, retail-tech hackathons, and other events that might draw in the kind of people who gave up going to the mall in middle school.

At the same time, McKenzie aims to erase the line between offline and online commerce. The industry buzz phrase for that new reality is omnichannel retail, and he says that just means "getting consumers the products in whatever way they want." Westfield invested last year in a startup called Deliv, so customers can have a TV delivered to their homes the same day they see it at the mall. Westfield created a program that allows diners to order ahead on their phones and skip the lines at the mall's restaurants, and it sees multiple retailers doing the same with in-store pickups for online orders.

Some initiatives have flopped, such as a partnership with Sony, Toms Shoes, and designer Rebecca Minkoff, for which Westfield installed giant touchscreens created by eBay's Retail Innovation group along one wall of the San Francisco mall. "The percentage of people who went up to the wall and actually transacted with a credit card was so low I can't even tell you," McKenzie says.

4 Cost-Cutting Choices That Can Sink Retailers

But what even Westfield's failures point to is a recognition that shopping in person is no longer an analog experience; stores need to act more like websites. "One of the things I was really excited about when I joined Westfield was this idea of bringing everything we've learned and developed online over the years into the physical world," says McKenzie. "Traditionally the objective might have been, 'Let's just sell product.' Now retailers can say, 'I want to capture customer data, I want to acquire customers, I want to think about this as if I'm buying keywords on Google.'"

A San Jose, California-based company called RetailNext is positioning itself as the Google Analytics of real-world retail. It is working to pioneer more metrics-driven physical stores that help retailers gather data from every possible source, including many devices RetailNext sells and installs: Wi-Fi sensors, Bluetooth and cellular sensors, video cameras, and software that mines age-group and gender data from camera footage. The RetailNext platform compares store-traffic and demographic information with simple things like time of day and inventory and staffing levels, leading to remarkably specific insights about store performance--where there are bottlenecks in traffic flow, what kinds of window displays work, and so on. Bridget Johns, the company's head of customer engagement, offers one simple example: "Retailers think that presenting shirts folded on a table is the best way to expose size and variety to customers," she says, "but it turns out that men hate to shop folded shirts." The company gathers video data of shoppers--how many shirts men pick up, how many they buy, how many they clumsily try to refold--and compares the performance of different presentations. "We've done this study for several retailers now, and we find the same thing," Johns says. "Hang your shirts!"

The list of ways retailers are incorporating internet-style targeting and optimization goes on. Beacons--small, low-power Bluetooth devices that can send location-specific offers or messages to shoppers' phones--are showing up in every kind of store, alerting people to flash sales in the beverage aisle or product comparisons on lawnmowers. Geofencing is a similar technology that uses GPS to ping people as they approach a store. Some apparel chains are experimenting with so-called smart mirrors from a startup called MemoMi, which allow customers to capture footage of themselves in different outfits they try on and then view them side by side in a split-screen mode and share the decision-making process on social media. Mobile point-of-purchase systems can eliminate checkout lines. Westfield has an app it's testing that guides shoppers to free parking spaces.

Many of the new technologies raise privacy concerns, of course, but the ubiquity of online shopper tracking suggests that widespread acceptance by consumers in the real world is less a matter of if than of how, especially if they get better value in the process. "What ends up feeling creepy versus welcome is going to vary by brand and market," says Johns. "That's a question for retailers to figure out. The tech can support it."

The Great Convergence

As American Giant's Winthrop sees it, many of the new tech tools that blur the line between online and offline commerce are missing the point. They're optimizing something that's fundamentally broken, providing incremental performance enhancements without addressing the real problem: an outdated distribution model that relies on too much expensive real estate, expensive inventory, expensive marketing--and too much discounting. The real killer app, to him, is making perfect products and building a brand that stands for something. "It's funny. I hear about all these contortions some of these guys are going through," he says, "and I just want to yell, 'Guys, it's about brand! It's about product! Get that right.'"

Still, Winthrop admits that one day American Giant will likely open its own stores. "The brand-extension paradigm"--the Warby Parker model--"makes logical sense to me," he says. "There is a real depth of story with American Giant, interesting connections back to American manufacturing, and I could see a store in SoHo that brings in a ton of people to experience the brand. But it's not primarily a sales mechanism--it's a branding effort."

Both Warby Parker and Bonobos, meanwhile, have started working with RetailNext, looking for ways to run their stores like they do their websites. And therein lies a possible view of the future: Imagine Bonobos-style Guideshops, Warby's satellite units, and even some version of the Westfield touchscreens or MemoMi mirrors, maybe juiced with virtual reality technology, co-existing in smaller-footprint malls or on Main Streets all over. They'd be more like mobile phones than mainframes--small, easily reprogrammed, even movable. Flagship stores in larger city centers would serve as regional fulfillment centers and provide blowout brand experiences.

It might be harder for legacy retailers to get to that future than it is for the companies already building it, but the point is that physical stores will be everywhere, just in different forms. Because if there's one thing everyone agrees on, it's that--duh--the basic act of touching products and seeing them up close still matters. As McKenzie at Westfield Labs puts it: "Imagine if the internet existed first. Think how excited people would be the first time they could visit a store."