• Illustration: The Smarter Retailing Initiative
• Illustration: Organizing for Retail

The retail industry is changing rapidly as retailers turn to technology to improve efficiency and competitiveness. Microsoft has some presence in the industry: many point-of-sale devices use Microsoft OSs, and Microsoft purchased Sales Management Systems, a retail software firm, in 2002. Microsoft is now trying to build on that presence by positioning key products as tools for store management, business intelligence, and supply-chain management in retail environments.

However, Microsoft faces entrenched competitors and lacks a broad range of retail-specific products. It is leaving the development of such products, as well as their integration with existing products in retail environments, to partners. These partners' loyalty could be tested if Microsoft attempts to raise its profile in retail by creating products that compete with their offerings.

Why Microsoft Pursues the Retail Market

The retail market has several characteristics that warrant unusual attention from Microsoft. Most important is its size in terms of customers, spending, and license units. Microsoft and partners already have a strong presence at the point of sale and the potential to expand into more strategic functions such as inventory control. However, retail's tight margins and built-in technology conservatism will challenge such expansion.

Big Numbers and an Early Foothold

More businesses are devoted to retailing than any other business segment. The United States has some 80,000 convenience stores alone, and Wal-Mart is the world’s largest private employer. IT spending by U.S. retailers is approximately US$23 billion a year, of which about US$1 billion ends up in Microsoft’s coffers.

Given the relatively slow economy in major markets, such as the United States, much technology spending in the retail market is expected to be driven by replacement of outdated systems and efforts to gain efficiencies or competitive advantages, rather than by growth in the number of stores. Although this may generate less new business than a rapidly growing sector, it is not bad for Microsoft: the company has a unique position in retail, which could enable it to capture a significant portion of new retail technology spending.

The core of Microsoft's retail position is the point-of-sale (POS) device, which made substantial inroads into the traditional cash register market during the 1980s. Worldwide, retailers use about 10 million POS devices. Unlike mechanical or electronic cash registers, these devices run specialized software atop a special purpose OS, which makes them more flexible and allows them to be integrated with back-end systems that collect data from multiple POS terminals. They also accept a variety of peripherals, such as printers and credit card processing devices.

Microsoft OSs, ranging from MS-DOS to Windows XP Embedded, are widely used on POS devices. Retail POS analyst IHL estimates that approximately 70% of all POS systems run some version of Windows, giving Microsoft a dominant position.

Retail IT Drivers

The best chance for further expansion for Microsoft and partners comes from moving beyond the POS to the back room.

POS devices are generally networked to back-end systems which, at minimum, keep a log of transactions. In more advanced systems, POS terminals are the entry point to complex systems for business intelligence, communications, data warehousing, financial reporting, inventory management, shipping and transportation, and supply-chain management, among other functions. Those connections are critical to many real-time and efficiency advances.

IT systems that Microsoft is now targeting include the following:

Inventory control. A retailer who ties up commercial space with products that don’t sell will inevitably fail. Inventory and supply-chain systems can spot slow-moving products within days, halt shipment or further ordering of such products, reduce their prices to get them off the floor, and initiate additional ordering or expedited shipping for products that are selling well. New technologies, such as radio-frequency identification (RFID) tags, which can transmit product identification to a nearby receiver, eliminate the need for visual inspection or alignment with a bar-code reader. They are touted to reduce shoplifting, speed checkout, improve inventory and checkout accuracy, automate many warehousing and shipping functions, and provide fine-grained data about the products consumers buy.

Customer relationship management (CRM). The more a retail business knows about its customers' needs, the more likely a profitable sale can be concluded. CRM systems can track customer purchase history, either in the aggregate or as individuals, so that promotions can be targeted at those most likely to take advantage of them. POS devices networked to CRM systems can relate customer history to current purchases to "upsell" at the till or prompt customers to make additional purchases. ("Do you have enough barbecue briquettes for all that steak?")

Multichannel selling. A physical store is only one way to reach customers. A customer might receive a direct mail promotion, access a Web site to check the promotion out, order a product on the Web site, and pick it up at a physical store. The retailer must combine CRM, business intelligence, inventory management, supply-chain management, Web integration, and customer service systems to track the customer across all three selling channels—mail, Web, and store—to understand how well the promotion works and to have the right product waiting at the right store.

Deregulation and diversification. Because of their personal, physical qualities, retail stores are the ultimate selling environment, and many organizations with little or no retail presence are looking for retail partners to take advantage of that strength. Customers can pick up disks for ISPs (for which the retailer might charge the ISP a handling fee), pay bills, and even apply for loans at U.S. grocery stores and big-box stores, for example. On the other side of the coin are organizations that have not seen themselves as retailers, such as banks, but that need a more retail-like approach to attract customers to new offerings, such as insurance and investment services, made possible by deregulation. Organizations that want to cross-sell in this way need more sophisticated POS and back-end systems.

Deployment of interoperable standards. Common standards for identifying, ordering, and servicing retail transactions are critical in the many-to-many relationships between retailers and vendors. Electronic Data Interchange (EDI), a well-established but complex system for transmitting electronic business documents, is widely used by larger vendors and retailers, but XML-based systems promise a simpler standard that will be accessible to a wider number of retailers and vendors. By making retail integration projects easier and more reliable, standards reduce costs and create more opportunities for partners.

New technologies. In some cases, new technologies offer advantages that are not available on older systems. Self-checkout and unattended checkout systems can reduce store costs, but demand a new class of POS and back-end systems. Electronic shelf labeling systems allow retailers to rapidly adjust prices throughout a store or even throughout a chain. Graphical interfaces on POS terminals are more intuitive than character-based systems and cut training time and errors. Wireless terminals reduce infrastructure costs and provide greater flexibility in store design. Changes in employment patterns—with greater reliance on part-time staff, longer hours, and complex benefit packages—require more advanced systems, such as self-serve Web sites at which employees can make choices that are automatically reflected in payroll and employee scheduling systems, thereby reducing administrative costs while increasing employee satisfaction. Although Microsoft does not sell such systems directly, the company wants to position its back-end systems as answers to these new demands.

Retail IT Challenges

Although the retail industry is waking to the promises of technology, it is a conservative, competitive industry that does not tackle new IT projects lightly. The challenges that software vendors face when selling to retailers include the following:

Diversity. Retailers are remarkably diverse, from big-box stores with advanced IT systems and centralized ordering to employee/owner operations that use mechanical tills and order products by fax. Meeting this range of requirements is difficult for a high-volume vendor like Microsoft, which means it must manage a large and equally diverse stable of partners.

Tight competition and conservative outlook. Average retail profit margins are usually less than 10%, and stores rely on rapid turnover of their inventory to stay in business. As a result, retail organizations are conservative when it comes to IT investments, because a mistake, such as ordering the wrong inventory, can sink the business. Another sign of conservatism: POS systems are replaced on an average of about seven years, two to three years longer than the business PC replacement cycle.

Employee management. A diverse, constantly changing, low-skilled work force means that systems must be simple enough to be used by employees whose command of a country’s main language or of arithmetic is poor, without a large investment in training.

Security and reliability. The costs of downtime for retailers are immediately quantifiable. For instance, e-mail viruses that took down business and consumer desktops in 2003 also shut down some retailers' ability to accept debit cards. In addition to their fiscal conservatism, retailers are quickly spooked by the well-known dangers of general-purpose OSs. The benefits of greater flexibility and lower costs must be measured against the risk of bugs or exposure to external threats that can force a business to close its doors or revert to expensive, time-consuming, and customer-frustrating alternatives.

How Microsoft Approaches the Market

Key elements in Microsoft’s retail strategy include building on its existing strengths, using partners extensively, marketing aggressively through a variety of channels, and better integrating its existing product lines to win a wide variety of retail engagements that will be based on the Microsoft platform.

Existing strengths. Although POS terminals are a competitive, low-margin business, having Windows-based terminals at the front of the store smoothes Microsoft’s path in selling back-end systems. The company’s Visual Studio .NET development tools can be used to build advanced POS applications for terminals running Windows XP Embedded, which supports all common networking protocols, including wireless, and a vast range of peripherals. The Retail Management System line, gained in the 2002 Sales Management Systems acquisition, gave Microsoft strong retail technology beyond POS for small and mid-sized retailers. Finally, the company’s array of software for data storage (SQL Server and Windows Storage Server), application integration (BizTalk Server), and Web services (Visual Studio .NET, ASP.NET, and Internet Information Services), among others, can be used to build complex back-end systems.

Using partners. Few retail installations involve shrink-wrap software; systems integrators are involved in major installations, while smaller firms play a prominent role in meeting the needs of small retailers and in developing specialized software for the vast array of retail specialties and back-end requirements. Microsoft relies heavily on partners to move its products into retail markets. Those partners include global integrators (Accenture, BearingPoint, Cap Gemini, Infosys), ISVs (BlueCube, CRS Retail Systems, JDA Software Group, ProClarity Corporation, Retalix, Sysrepublic, Trax Software, Wipro Technologies), and hardware vendors (IBM, Hewlett-Packard, Fujitsu, Symbol Technologies, NCR).

Microsoft’s retail sales team maintains a comprehensive solution map that links common retail requirements with integrators, third-party software, resellers, and other partners who can be quickly called in to promote Microsoft when an opportunity or lead materializes.

Industry alliances and standards groups lower barriers to new technologies, help Microsoft ensure that Windows supports key standards, and provide retail partners opportunities to comment on technical issues and influence their development. Microsoft works with the Association for Retail Technology Standards (ARTS); an allied group driving XML standards, IXRetail; and the Uniform Code Council to create common product identification standards and transaction standards that are critical for adoption of automated supply-chain systems, RFID technology, and more powerful and flexible POS terminals.

Promotion. Microsoft has ramped up trade advertising in the retail industry to better establish its brand and generate interest in its partners, and has developed a special section of Microsoft.com devoted to retailing. At the annual convention of the National Retail Federation, the company recently announced its Smarter Retailing Initiative, which is built around capabilities provided by the Retail Management System product line, but promotes Microsoft’s front-end POS capabilities and back-end systems as well. (For an illustration, see "The Smarter Retailing Initiative".)

Organizationally, Microsoft’s retail team is located in the Worldwide Sales, Marketing and Services Group, headed by Group Vice President Kevin Johnson. Although Microsoft often separates North American marketing and strategy efforts from those in other geographies, retail vertical planning in both North America and the rest of the world is coordinated by a retail and hospitality solutions unit that reports to Peter Boit, who is in charge of vertical solutions for several commercial market segments. (For a diagram of this organization see "Organizing for Retail".)

Products for Retail

Microsoft’s primary focus in retail, however, is simply to sell more of its existing product lines, customized by partners to meet retail requirements. In addition to its OSs, which can be stripped down and "hardened" to reduce their footprint and increase security, Microsoft is eager to see other members of its broad product line employed in the retail vertical.

Key products include the following:

The Retail Management System (RMS) consists of three modules. A card transaction system for independent merchants provides credit card services through Citi Merchant Services. The Store Operations module tracks inventory, supports multiple sales methods (including layaways, services, and back orders), links inventory to store locations, tracks customers’ buying histories, and can aid in upselling, handling special discounts, measuring staff efficiency, and generating reports. The System Headquarters module manages inventory across multiple locations, manages suppliers, sets systemwide prices and discounts, and communicates with each retail site.

Great Plains offers financial, human resources, inventory, and other modules that can be used as the basic management and reporting platform for small to mid-size retail operations, giving qualified resellers a solution that is fairly easy to set up and install for some retail outlets.

Microsoft Customer Relationship Management (CRM), a relatively new Business Solutions product, can be run on Small Business Server 2003 with SQL Server, providing an all-Microsoft solution for better customer information and service.

BizTalk Server can orchestrate complex business processes, such as updating inventory, ordering replacement products in real time when fed transaction information from checkout stations, or scheduling shipments for greatest efficiency.

SQL Server provides the database core for various Business Solutions applications. Its analysis and reporting capabilities, sometimes combined with Office applications such as InfoPath or Data Analyzer, can generate useful business intelligence and reports for responding rapidly to changing retail conditions. Pricing data can be replicated from a central location to local branches, and sales data can be replicated in the other direction.

Systems Management Server can manage networked POS terminals, updating applications and ensuring that vulnerabilities are patched automatically.

Competitive Offerings

Most of Microsoft’s major competitors are well-represented in the retail vertical, making this a significant test of the company’s readiness to compete from both a product and strategy perspective.

MS-DOS and earlier Windows versions. As is often the case, Microsoft is competing partly against itself in the retail industry. Many POS terminals were built on variants of MS-DOS, which was quite suitable for small-footprint, real-time systems. The market for such terminals is declining, however, since they are difficult to adapt to new POS peripherals and to integrate with other store management systems.

IBM’s 4690 OS for POS systems, launched in the mid-1980s, made IBM the company to beat in POS terminals. The company continues to update the OS: vendors and ISVs can write applications in Java for the latest terminals, for example. IBM is also a player at the back end, particularly among large customers, and its WebSphere product line can be used in virtually every retail application.

CRM and business intelligence competitors such as Siebel and Cognos, many of them Microsoft ISV partners, already have products and presence in the retail industry and will be loath to give way to Microsoft-branded products. They must rely on their superior experience and their cross-platform capabilities to keep ahead of the company.

Linux has its evangelists in the retail industry, but its progress has been slower than in some other sectors. Linux had only about 5% of the POS market in 2003, although that share is expected to grow. Because the OS is a very small portion of POS costs, Linux’s free availability offers little advantage over Windows. Microsoft’s competitive responses, such as making the source code for Windows CE available and developing an embedded version of Windows XP, have further dampened Linux’s rise in retail: source code availability is similar for both Windows and Linux, and vendors can create a small OS footprint with Windows as easily as they can with Linux. Microsoft’s development tools are also superior to those available for Linux. Finally, POS systems are a minor part of a modern retail system, and Linux vendors have yet to develop well-integrated back-end systems that can be dropped into retail environments with relatively little additional customization. Microsoft, with products such as RMS, is already there.

Microsoft’s Future in Retail

Like many businesses, retail companies are averse to ripping out existing infrastructures that work well enough. However, existing systems don’t easily adapt to new protocols or technological requirements, which means that many retail customers will need to extend current systems into new areas. Microsoft sees its greatest opportunities in those new areas, rather than in core retail operations where competitors are already well established. Standards such as XML lend themselves to "loosely coupled" systems that can link relatively new systems with legacy applications and back ends.

Because of its limited set of retail-specific applications and its lack of experience in selling to the retail market, Microsoft is relying on partners—particularly ISVs and integrators who work with retail customers—to build applications with Microsoft tools on Microsoft platforms. Popular development tools, such as Visual Studio .NET, will help Microsoft increase its appeal to these partners, especially since these tools have been optimized for Web services and XML—technologies that are likely to play a significant role in the development of retail technology.

At the same time, Microsoft's reliance on partners limits how fast and how far the company can move: unless partners are ready to implement Microsoft’s platform and applications, Microsoft products will have little traction in the broad retail market. Beyond small and mid-size retailers, for whom RMS is a viable solution, Microsoft has little in the way of integrated retail solutions.

Even if Microsoft succeeds in this integration effort and reduces the cost of implementing its products in a retail setting, it faces a different problem: competing with partners who have already created niche software, based on Microsoft products, for specific retail niches. If partners find Microsoft’s supply-chain or CRM solutions competing against theirs, for example, their interest in promoting Microsoft solutions in retail could wane.

However, the company’s current development philosophy, expressed in a long-range plan for the Microsoft Business Solutions products, is not to focus on creating total solutions for every business niche; rather, the company will focus on components and building blocks that can form the basis for ISV solutions. (These plans are currently known as Project Green and the .NET Business Framework.) While some ISVs might currently create such components as part of their business, many others will welcome turning over coding of common, low-level functions to Microsoft, leaving them more time and resources to build vertical-specific applications on those components.

Finally, Microsoft’s eagerness to move technology boundaries quickly and its uncertain product roadmaps fit uneasily with a conservative industry that plans its technology purchases in seven- to ten-year time frames. Yet, these time frames may be moved forward as the Internet prompts more people to shop or compare prices online, and as retailers who successfully and rapidly adopt new technology, such as Carrefour, Metro Group AG, and Wal-Mart, establish standards for efficiency and flexibility that competitors must meet. Retail customers who are casting about for answers will need to investigate Microsoft’s portfolio of products for retail and the many related partner offerings.

Resources

The .NET Business Framework is described in "Business Platform to Draw ISVs to .Net" on page 12 and ".NET Marketing Focusing on Developers, ISVs, Enterprises" on page 19 of the Jan. 2003 Update.

Microsoft’s Retail Management System is described at www.microsoft.com/BusinessSolutions/Retail%20Management/default.mspx.

The Association for Retail Technology Standards Web page is www.nrf-arts.org/.

IXRetail announcements and background can be found at xml.coverpages.org/ixRetail.html.

The acquisition of Sales Management Systems was covered in "Retail Point-of-Sale Software Company Acquired" on page 8 of the July 2002 Update.