IKEA: For the many people, not just the few.

IKEA strives to “offer a wide range of well-designed, functional home furnishing products at prices so low that as many people as possible will be able to afford them.” Given that every living space I’ve had since starting college has looked like an IKEA showroom, I’d say they’re doing pretty well. The numbers would agree … with €3.3 billion net income on revenue of €28.5 billion in 2013, IKEA is the world’s largest home furnisher, holding almost 5% of the highly fragmented market in 2011 (the runner up held a measly 1.2%).

Extreme affordability, IKEA’s core value proposition, is achieved through a relentless focus on cost efficiency, which leads to lower prices and in turn higher volumes. It’s their unmatched ability in this regard that forms the basis of the company’s competitive advantage. A number of IKEA’s cost-saving measures are immediately clear to anyone who has purchased one of their products (i.e., everyone): a self-service warehouse, unassembled products sold in flat-packs, mugs designed to stack incredibly densely, and so on. But these are just part of a broader philosophy known as Övertag, “the unique IKEA way of combining the use of inexpensive good raw materials, rational production methods and all other low cost factors at our disposal throughout the whole value chain to develop home furnishing items of good design and function at prices substantially below the lowest known price.”

IKEA’s virtuous cycle.

IKEA has an incredibly efficient global supply chain. The company sources much of its raw materials close to their final country of sale and third party manufacturers often ship products directly to stores. It also benefits greatly from scale and purchasing power, for example, IKEA is one of the world’s largest consumers of lumber, purchasing “1% of all industrial wood sourced on the planet [in 2013].” While procurement, manufacturing and logistics are undoubtedly at the core of cost efficiency, they are also relatively unsurprising components of such a strategy. There are, however, two others factors that I find truly fascinating: (1) IKEA’s ownership structure and its tax implications, and (2) IKEA’s catalog and website development.

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When most people think of “IKEA” the relevant entity is the IKEA Group, which is the largest franchisee, owning and operating almost 90% of stores. IKEA Group is owned by INGKA Holding, a private Dutch company, which is owned by the Stiching INGKA Foundation, a tax-exempt non-profit controlled by IKEA’s founder, Ingvar Kamprad. To further complicate matters, the franchise agreements are administered by the “trademark and concept” owner, Inter IKEA Systems (also Dutch). Inter IKEA Systems is owned by Inter IKEA Holding (of Luxembourg), which is owned by the Interogo Foundation (of Liechtenstein), also controlled by Ingvar Kamprad. I’ve always thought that a “double Irish with a Dutch sandwich” was a complicated tax avoidance mechanism, but this takes the cake. Mr. Kamprad is reported to have said that “’tax efficiency’ was a natural part of the company’s low-cost culture”.

IKEA has also done an admirable job of maintaining a common product range across stores and regions. However, some concessions had to be made to expand successfully in new markets, first with Japan in 2005, and more recently in China and India. Similarly, the IKEA catalog and website are customized to suit the preferences in various regions (e.g., layout, featured products, color palette). Imagine the cost of preparing hundreds of these promotional “rooms”: product shipment (including non-IKEA items such as appliances), construction and photography. In 2004, IKEA began relying on 3D artists to develop computer generated imagery to replace traditional photography. By 2014, 60-75% of individual products were computer generated, along with 35% of full rooms. This not only reduces upfront cost, but substantially lowers the barrier to minor (or major) reworking of an image. And all of this was achieved with essentially no loss of quality, just look at the fully computer generated images below.

Computer-generated imagery saving time and money – can you spot all of the differences?

IKEA’s success, and its mission to provide well-designed affordable furniture, could only have been achieved through its relentless focus on cost efficiency. Mr. Kamprad can rest easy in his birch veneer POÄNG chair knowing that his legacy is a business model well aligned with it’s associated operating model.

Sources

[1] “The IKEA Business Model”, IKEA Supplier Portal, http://supplierportal.ikea.com/doingbusinesswithIKEA/Documents/The%20IKEA%20Business%20Model.pdf

[2] “The secret of IKEA’s success”, The Economist, http://www.economist.com/node/18229400

[3] “Sustainability at IKEA Group”, Harvard Business School, https://cb.hbsp.harvard.edu/cbmp/product/515033-PDF-ENG

[4] “Building 3D with IKEA”, CGSociety, http://www.cgsociety.org/index.php/CGSFeatures/CGSFeatureSpecial/building_3d_with_ikea