...... . . It’s certainly true that manufacturers have a lot less pull in the marketplace than they used to. But they haven’t lost it to Wal-Mart and Target. They’ve lost it to you and me. The real transformation of the past thirty years is the rise not of the American retailer but of the American consumer. That’s why Wal-Mart is so tough to negotiate with, and so relentless in its quest for lower prices and lower costs. American consumers now consider it their due to have access to a wide variety of cheap, reliable goods. Their allegiances are fickle; brand loyalty is in fast decline. Wal-Mart is often spoken of as the most powerful company in the world, but it earns less than four cents on every dollar of sales, and its profit margins have stayed roughly the same year after year—which means that when it cuts costs with suppliers it passes along those savings to the customers, instead of padding its own bottom line. Wal-Mart can’t charge more; if it does, its customers will go elsewhere. The same is true of Target and Costco. In a sense, Wal-Mart is the elected representative of tens of millions of hard-bargaining shoppers, and, like any representative, it serves only at their pleasure.

.....Several developments in the past three decades have combined to increase consumer clout. The Federal Reserve’s war on inflation got people accustomed to stable prices. Laws changed—until the seventies, it was actually illegal in many states to sell goods for less than the manufacturer’s suggested price. A sharp rise in the quality of most products narrowed the difference between big brands and upstarts, and an influx of foreign products dramatically increased competition. Finally, the explosion in information available to shoppers—from Consumer Reports, in the beginning, to the Internet today—made it much harder for manufacturers to get away with selling junk.

.....Wal-Mart and other superstores contributed to the trend. They undercut their competitors, and forced the rest of the world to adapt. But now Wal-Mart is stuck; it has no choice but to keep selling things cheap. That’s what it does. Which means Procter & Gamble—even super-sized—is stuck, too. . . .

This understanding of Wal-Mart is importantly insightful. Their relationship to the customer is based almost entirely on price, hence its slogan, “everyday low prices.” Contrast Wal-Mart’s situation to that of Starbucks, for example, whose relationship with its customers is based on a variety of factors totally unrelated to the price of the product.

In fact, Starbucks doesn’t even serve the best tasting coffee, at least according to ratings like Consumer Reports., Consumer Reports ranks Eight O’Clock coffee higher than Starbucks. (As our friend Michael Coles will tell you, Consumer Reports ranks Caribou Coffee number one.)

Starbucks’ relationship with its customers is based on Ray Charles. It is based on cache, an experience, and a number of other nouns unrelated to price. This difference explains the difference in profit margins; based on the two companies’ latest quarterly results, Starbucks earns almost triple amount of income relative to sales that Wal-Mart does.

The spot of maximum danger, however, is the middle point between “price” and “experience.” The department store industry, for example, has been firmly entrenched in this position for several years, explaining their inexorable decline.

Consider also the sock business. If you’re not offering an “experience” like Mixzup, a start-up run by a Dover, NH mom, you’d better be the low cost purveyor of a plain vanilla product like crew socks,. The price of one is $10-$12 a pair, and the price of the other is $1 a pair. Being in the mushy middle of these two alternatives is probably the recipe for extinction.

This model is not just applicable to retail goods. In financial services, the retail brokerage business run by a Merrill Lynch, Smith Barney, or Wachovia is at risk in that dangerous middle ground, in our view. The “price” side, represented by companies such as Schwab, E*Trade, Ameritrade, biting from one end, and the “relationship” side, represented by a variety of private, boutique wealth management companies, chomping from the other, place traditional retail brokers at grave risk over the long run, in my view.

The buying public seems to have two separate and distinct silos—price and experience/relationship—for every almost every vendor they choose, based on their individual tastes and preferences. If a business isn’t firmly planted in one of those two positions, such an enterprise is likely to be a zombie.