Williams-Sonoma Tries a New Recipe

Pottery Barn Kids is a hit, but a lower-rent brand poses risks

Until last spring, when she was expecting twins, Ellen La Fronz hadn't bought anything from Pottery Barn for years. But when the 35-year-old Manhattanite set out to furnish the nursery, she dropped $1,200 in one day at Pottery Barn Kids for a diaper-changing table, a lamp, a chenille rug, and other items. "I went all out," says La Fronz, who figures she'll head back there when the twins outgrow their cribs. "The items for toddlers are adorable," she says.

That's just what Williams-Sonoma Inc. CEO Dale W. Hilpert wants to hear. The San Francisco-based specialty retailer--parent to the Pottery Barn chains as well as its namesake cookware stores--doesn't want to be known just for its $280 Dualit toasters and $1,000 sofas anymore. Though the two chains are doing well, they are relatively mature brands. To keep consumers in the fold, Hilpert is pushing aggressively into new retail sectors like the kids market. And on Apr. 23, Hilpert made another big bet: Williams-Sonoma (WSM ) launched West Elm, a furniture catalog a few notches down in price and quality from Pottery Barn.

It's a risky strategy, of course. Hilpert could just end up cannibalizing his core brands. But so far, it seems to be working: While many retailers are struggling, Williams-Sonoma's strategic expansion and keen eye for design, combined with consumers' renewed interest in nesting, have made it one of the strongest retailers around. Hilpert, who joined the company from footwear retailer Foot Locker Inc. a year ago, has also shaped up operations behind the scenes. The result: On Apr. 17, the company raised its 2002 earnings projection by 11%, citing better-than-expected full-price sales and margins. Analysts now expect Williams-Sonoma to post earnings of $106 million in 2002, an increase of 39.2%, on a sales gain of about 14.5%. Happy investors have sent its stock up 130% since Jan. 2001, compared with 44% for the S&P Specialty Retail Index and 6% for the S&P 400 MidCap Index.

To fuel growth, Pottery Barn Kids, which sells goods ranging from $40 butterfly-shaped lamps to $799 maple cribs, is behind much of the enthusiasm. In 2001, sales at Kids stores open at least a year rose 10.4%, compared with a gain of 2% for the entire company. This year, Williams-Sonoma plans to almost double the three-year-old Kids chain, to 52 stores, accounting for about half of its total expansion. "Given Pottery Barn's strong brand, it's well able to capture more market share with the Kids stores," says Kristine Koerber, analyst at W.R. Hambrecht & Co.

West Elm, though, is a dicier prospect. For starters, launching a new brand is expensive: Although Williams-Sonoma won't disclose catalog-circulation plans or how much it has spent to develop West Elm, retail experts say it will require a big marketing and ad budget right from the start.

A bigger problem could come if West Elm cuts into Pottery Barn's niche. Although Hilpert declined to comment, company executives in the past have said West Elm will be to Pottery Barn what Old Navy is to Gap--a sister chain selling lower-priced knockoffs. Old Navy, launched in 1993, posted huge sales gains for years--but that was partly because it stole customers from Gap. Ultimately, Old Navy contributed to the woes of the entire company as its image blurred with Gap's and combined sales slowed. A Williams-Sonoma spokeswoman says that "the look, feel, and price points of West Elm will be different" from Pottery Barn's. And, she says, to encourage their independence, the designers will work in New York.

But West Elm could dent Pottery Barn if consumers think they can buy similar products there for less. And because most shoppers will likely figure out that the two chains are related, "the risk ultimately is tarnishing Pottery Barn's image," says Cheryl Swanson, principal at New York brand consultancy Toniq LLC. Perhaps Hilpert should have asked Gap Inc.'s Millard S. Drexler how he really feels about Old Navy these days.

By Louise Lee in San Mateo, Calif.

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