Wall Street Over-Analyzes
Jim Prevor’s Perishable Pundit, October 4, 2007
The Wall Street Journal ran a piece entitled Wal-Mart Era Wanes Amid Big Shifts in Retail. The piece is subtitled, Rivals find Strategies To Defeat Low Prices; World Has Changed. The thesis of the article: "The Wal-Mart era, the retailer’s time of overwhelming business and social influence in America, is drawing to a close."
The article is interesting because it goes beyond noting that Wal-Mart has some challenges to claiming that fundamental changes are reducing the influence of Wal-Mart both at retail and on the broader society:
“All retailers have a formula. They grow as far and as fast as they can with that formula,” says Love Goel, a former Fingerhut Cos. executive and now chairman and CEO of Growth Ventures Group, a Minnetonka, Minn.-based private-equity firm that invests in retail businesses. Wal-Mart has outgrown its supercenter recipe, but efforts to win growth from more affluent consumers have fallen flat, he says. “They have hit the wall.”
Wal-Mart declined to make an executive available for an interview and declined to respond to written questions, citing an upcoming meeting with Wall Street analysts.
Business history is littered with companies that grew to enormous size and used their girth to re-arrange the world to fit their strengths. Think International Business Machines Corp. in the mainframe business, General Motors Corp. in autos, or Microsoft Corp. in personal computers. For a time, their success bred an ecosystem that sustained their status. In the 1970s, independent software companies piggybacked on IBM’s mainframes, resulting in greater demand for mainframe computers.
Such orchestration can produce solid growth for decades. But it can also produce corporate blinders. Over time, IBM’s grip on the corporate data center left it unable to anticipate the decentralizing effects of personal computing. GM’s knack at brand creation and frequent model changes left it vulnerable to the incremental quality approach of Japanese auto makers. Microsoft was so busy cramming features into its Windows operating software that it lagged others in the shift to the Internet. Each remains among the top in its industry; yet each has relinquished the role of industry definer — IBM to Intel Corp., GM to Toyota Motor Corp., Microsoft to Google Inc.
Wal-Mart’s great insight was perfecting the so-called “value loop” in retailing. At its most basic, the system works like this: Lower prices generate healthy sales gains and profits. Some of those profits went into further price cuts, generating more sales. The lower the price, the more consumers flocked to Wal-Mart.
But the value loop is beginning to unravel. For 10 years through 2005, Wal-Mart’s sales gains at stores open at least a year averaged 5.2%. So far this year, its comparable-store sales, a measure of market share, is up just 1.3%. The pricing gap between Wal-Mart and rivals has narrowed, and more customers are now choosing convenience over wading through a supercenter.
The piece attempts to identify precisely what has changed that is causing Wal-Mart so much trouble. First the article points to a “more fragmented world” as the problem:
In some ways, Wal-Mart’s loss of clout is a reflection of a more fragmented world. Retailing is a mirror to how we live and work. Big-box stores thrived by selling highly recognizable national brands, which themselves were fed by two phenomena: the growth of mass media and freeways, which encouraged large stores in remote areas. Stores and brands together achieved scale efficiencies that allowed them to overwhelm local chain stores and regional brands.
Then the article points to the Internet as the problem as, supposedly, this makes Wal-Mart’s assortment less impressive:
But the Internet is transforming the retail definition of scale. The once-stunning compilation of 142,000 items found in a Wal-Mart supercenter doesn’t seem so vast alongside the millions of products available on the Internet. At the same time, the cost of creating and sustaining a national brand is rising because of media fragmentation. Niche brands, created by Internet word of mouth, are winning shelf space and sapping profits required to fund big brands’ advertising.
Another possibility is that retailers are opening their own stores:
Manufacturers such as Apple Inc. and Phillips-Van Heusen Corp., lacking the retail distribution or presentation they crave, are opening their own stores. One result is that retail giants hold less sway over their customers — and over their suppliers.
Wiley competitors are another problem:
Grocery-store chains such as Kroger are resurging on sales of prepared or semicooked meals, which people can grab on their way home. Cincinnati-based Kroger projects sales at stores open at least a year will climb between 4% and 5% this year, on top of a 5.3% increase last year.
Thomas Kim, a financial analyst for a St. Louis scrap-metal firm, describes his family as frugal shoppers who check prices on the Internet. But he and his wife most often shop in local retailers. “It’s the convenience factor,” says Mr. Kim. His family avoids supercenters, describing them as too large and too crowded.
When Wal-Mart pushed heavily into consumer electronics earlier this decade, many industry observers expected it to flatten electronics chains. But five years ago, Best Buy Co. began aggressively marketing installation and other services alongside flat-panel TVs and PCs. Last year, Best Buy’s total sales rose 16. Wal-Mart, which has struggled to sell big-ticket HDTVs, has only recently begun selling installation services at a few stores using an outside supplier. It doesn’t break out consumer-electronics sales, but analysts estimate sales last year rose 7.6% to $22.6 billion.
Melissa Morris says Best Buy won her loyalty by gladly accepting a notebook PC return and having trained sales clerks. “I go to a store that specializes or has associates there that know about it,” she says. The Erie, Pa., sales executive refuses to go to Wal-Mart, citing its crowded aisles and hurried atmosphere.
Best Buy and specialty retailer PetSmart Inc., which touts pet grooming and kennel stays, put hard-to-copy services at the forefront of their pitch, says Howard N. Jackson, president of retail advisers HSA Consulting Inc., Knoxville, Tenn. “They realize the best way to win a fight is to make sure you don’t get in one,” he says.
Wal-Mart has long sold prescription drugs, setting up its pharmacy business in 1978. But national drug chains CVS Caremark Corp. and Walgreen Co. reacted by redefining their role and selling basic health services, such as school physicals, diagnostic tests, and flu treatment, alongside drugstore wares. CVS and Walgreen each acquired in-store clinic operations, redefining the pharmacy business as basic health-care centers.
Same-store sales at CVS and Walgreen are running about double that of Wal-Mart this year. Wal-Mart has begun offering leases to clinic operators.
As Wal-Mart becomes less important, this article claims that manufacturers are working more with other retailers:
As Wal-Mart’s influence erodes, so does its allure to manufacturers. Burt P. Flickinger III, managing director of retail consulting firm Strategy Resource Group, says Wal-Mart now takes a back seat to regional grocery and national drug chains when it comes to striking deals.
He says some manufacturers now sell their wares faster at other retailers. “Four of the top 10 consumer-products companies say they can move merchandise faster with Walgreen and CVS,” says Mr. Flickinger, who came up with the estimate from his talks with consumer-products firms. Such retailers have been rewarded with lower costs and better sales gains.
The change is apparent at PepsiCo. Wal-Mart is PepsiCo’s largest customer world-wide, accounting for $3.16 billion in sales of drinks and snack foods. But earlier this year, PepsiCo opted to launch Fuelosophy, a new energy drink, at Whole Foods, a high-end supermarket chain.
“We thought that was the best place to introduce and test it,” says PepsiCo spokesman David DeCecco. Whole Foods customers’ “health and wellness” profile better match that of likely Fuelosophy buyers than Wal-Mart’s, he says. He declined to name which other retailers were considered for the rollout.
In fact suppliers, according to this article, don’t even listen to Wal-Mart anymore:
Wal-Mart’s loss of influence can also be seen in logistics. In 1984, Wal-Mart’s decision to embrace bar-code scanners in its distribution centers and stores helped quash the use of a less-efficient technology then used at Sears, Roebuck & Co. and other retailers.
In 2003, the retailer brashly jumped onto the next big logistics technology, called radio-frequency identification, and mandated big suppliers begin slapping RFID tags on products shipped to its warehouses. Wal-Mart installed tag readers at warehouses and stores, hoping to further automate warehouses and lower inventory costs.
Wal-Mart quietly dropped the mandate earlier this year and refocused its development after suppliers complained of the high costs and lack of a return on their investment in the new technology. While the company says it’s pushing ahead, Wal-Mart says it realigned efforts to focus on areas where the technology offered the most promise, such as assuring vendors’ promotional displays are properly deployed in its stores.
Wal-Mart wasn’t able to demand big suppliers continue investing in a technology that was raising their operating costs, says Ken Rohleder, president of Rohleder Group, a Louisville, Ky., supply-chain consulting firm. “There was a time when they could have dictated anything,” he says.
Though the thesis is intriguing, the article is very weak. For example, although there are studies indicating that this year, for the first time in many, Wal-Mart’s total retail market share will fall slightly as Wal-Mart’s percentage sales growth in the U.S. will be less than the percentage growth of total retail sales, the article doesn’t mention theses studies and offers only very weak anecdotal evidence that Wal-Mart’s share of business is actually declining. In reality Wal-Mart’s market share — on products it sells — is continuing to climb. What small declines there may have been in the share of sales of some big multi-national consumer packaged goods companies that go to Wal-Mart globally is probably explained by Wal-Mart’s decision to sell its operations in Germany and South Korea.
Its analysis of causes is even weaker. No evidence is given that the old trends favoring national brands have suddenly abated. Yes, there is more interest in artisan food, but we are talking about tiny portions of the nation’s expenditures.
Manufacturers have opened stores for a long time and, typically, the ones that do so are higher end and so their independent stores would likely hurt Wal-Mart’s competitors more than Wal-Mart.
The Internet’s vast array of products hardly seems relevant except in very specific areas such as music and books. It is hard to imagine that the Internet has much to do with Wal-Mart’s problems.
Competitors that can’t compete on price do try to compete on other criteria. It would be surprising if they don’t get better at this over time, if for no other reason than that those who are not successful tend to go out of business. Still this is less effectively competing with Wal-Mart than it is effectively avoiding competing with Wal-Mart.
Pepsi’s decision to launch an energy drink at Whole Foods tells us nothing about Wal-Mart’s influence on manufacturers. It speaks to the fact that Wal-Mart doesn’t cover all demographics equally.
And as far as RFID goes — if Wal-Mart requires RFID, every vendor will do RFID. But why should Wal-Mart force vendors to do things that are not currently economical?
We would suggest that Wal-Mart’s problems have three primary causes:
- Inconsistency in retail execution. As Wal-Mart has grown, it has reached into worker pools with different attitudes and experiences. Consistency is always a problem at retail but to a much greater extent at Wal-Mart than at Safeway or Kroger. Some of Wal-Mart’s stores are wonderful; some are dirty. Some are stunning in assortment; some are always out of stock. Some seem to hum along; others have interminable waits at the cashiers. Some employees are kind; some are nasty and mean.
If it wants to succeed, the single thing Wal-Mart should do is focus on consistency of retail execution. The reason the sustainability and Vogue ads and all that stuff are a distraction is because too many Wal-Mart stores do not excel at the basics — and so these other factors, such as corporate image, don’t even have a chance to kick in and woo consumers.
- Wal-Mart is starting to get squeezed in the middle. Stores such as Aldi and Supervalu’s SaveMart are making Wal-Mart a second choice for those who live paycheck to paycheck.
- Wal-Mart has not learned how to effectively translate its suppliers and customers into an effective political force, so it is not able to open supercenters in many markets where they would be very profitable.
Wal-Mart clearly has issues, and this article diagnoses some correctly. But the causes are simpler than the piece points out. You can read the whole article here.