It is no secret to the supply chain community that the world’s largest global retailer Wal-Mart has always been an important influence, positive and otherwise, to significant supply chain trends and initiatives. This week, Wal-Mart released its earnings for the fiscal quarter ending July 31, 2011, and the management commentary provides many supply chain implications, so let us dive in.

First, some background and context.

In a previous commentary penned after the retailers 2011 fiscal year-end release, Supply Chain Matters noted how Wal-Mart’s senior management was finally owning-up to missteps in its U.S. merchandising operations, opening the door to other low-price competitors.  Last year, the company was forced to suddenly reverse course on a targeted high impact shopper initiative and reshuffle U.S. management. Now, Wal-Mart’s U.S. management is focused on its core of lowest-price shoppers.

However, the latest misstep involves strategy and focus of the Wal-Mart dot com e-commerce site. Last week the retailer announced that it was transferring its previous centralized e-commerce business unit to operations chiefs in developed countries, thus de-centralizing unit management into geographical businesses.  Two very senior online executives departed the company as a result of the announcement, and strategy and online commerce momentum will surely change.

Wal-Mart’s fiscal Q2 Wall Street financial headlines note:

• Overall net sales increase of 5.5 percent for the quarter, with international sales growing by 16.2 percent. The retailer however benefitted from $2.3 billion in favorable currency exchange.
• Operating income increased 5.7 percent from last year.
• U.S. same store sales were basically flat, the ninth straight quarter of no growth.

Management commentary points to more supply chain related developments.  CEO Mike Duke was very upbeat in his summary comments, noting his encouragement of sales improvements in U.S. stores.  However, he did express concern that many of Wal-Mart’s U.S. consumers are still struggling with stretched household budgets and trading down in purchase activity. Examples mentioned were laundry detergent and canned goods.  He again re-iterated a laser-focus on Wal-Mart’s every- day low pricing program. The implication for suppliers is of course, continued shifts to lower cost brands, smaller package sizes and more heat from Wal-Mart buyers in contract negotiations. Duke also indicated the company’s global e-commerce initiatives would now focus on delivering a continuous shopping experience for web consumers including investments in multi-channel initiatives that integrate stores with online, and boasted that Wal-Mart will be the best positioned retailer to serve the needs of the next generation of emerging global middle class consumers.

CFO Jeff Davis reported a 10 basis point reduction in gross margins, primarily driven by fuel sales. Fuel was therefore a loss-leader. Core corporate overhead expenses increased 2.9 percent and consolidated inventory grew 11.1 percent, fairly high for Wal-Mart standards.  The bulk of inventory growth was attributed to Wal-Mart International. The retailer incurred approximately $30 million in store damage as a result of severe tornados and floods in the U.S. during the quarter, also unusual to Wal-Mart’s continuous risk management focus.  Then again, the U.S. South and Midwest have experienced unprecedented weather related events.

For our enterprise software technology readers, there was mention of   a $17million impact to gross margin because of an inventory re-valuation charge at Wal-Mart Mexico.  Doug McMillon, CEO of Wal-Mart International clarified that the Mexico unit went live with SAP during the quarter, and the effort “increased the level of precision for inventory valuation” to the tune of $17 million. We speculate that some inventory may have been off the books. Management reiterated its ongoing rollout of SAP throughout all operations with the majority of businesses already converted.

By our observation, U.S. Operation CEO Bill Simon provided the most interesting information. Beyond reaffirming the commitment to expand the assortment of merchandise, he pointed to a rollback promotional program on gasoline and diesel fuel prices in 18 states as the primary driver of increased store volume in the quarter.  Of further interest, grocery and health & wellness currently account for two-thirds of U.S. revenues. Food remains the key traffic driver to stores, but at the same time, consumers are trading down to lower price points and buying smaller pack sizes.

Mr. Simon noted that the priority for U.S. growth remains with supercenter growth, yet many industry observers have been pointing to the focus on smaller neighborhood or Wal-Mart Express format stores. The strategy seems unclear, since U.S. consumers are buying less.

Inventory in the U.S, rose by 4.8 percent with productivity gains offsetting increased inventory costs. Mr. Simon indicated that inventory is where it needs to be.  Wal-Mart just entered into an agreement with Nielson to share POS data for grocery, consumable and health & wellness categories.  According to the Nielson press release, the new agreement marks the return of Wal-Mart to the consumer goods industry information sharing model.  The majority of U.S. retailers already provide Nielson with POS data. Mr. Simon noted that this data will better equip merchants and suppliers to optimize assortment, pricing and promotion as well as collaborate on customer-driven programs. We anticipate that many CPG companies will applaud this decision even though it implies added cost to access the data.

In the area of logistics and transportation, special mention was made of Wal-Mart’s Logistics arm which  continues to drive more routing and load efficiencies, enabling the U.S. operations to mitigate two-thirds of rising diesel fuel costs. Suppliers should expect more activity in this area.

Let us therefore summarize the Wal-Mart Q2-2012 earnings event, this time, with a supply chain transformational lens:

• Wal-Mart’s growth trajectory is currently driven more by international rather than U.S. growth.  Thus far in the fiscal year, international accounts for roughly 27 percent of total sales and will increase further. At the current rate of change, Wal-Mart may become less of a U.S. centric retailer.  The implication may well be different operating strategies and resulting end-to-end supply chain distribution and fulfillment capabilities.
• The company’s supply chains are indeed more global and are fueling the majority of inventory growth. Increased international presence opens up more opportunities for alternative sources of global supply.  As a result of the recent acquisition of Massmart, a general merchandise retailer and basic foods wholesaler in Africa, Wal-Mart has contracted with local supplier Oceanfresh to export sustainability-sourced wild hake to U.S. stores. Look for Wal-Mart to have a much broader global supplier base.
• In the U.S. market, Wal-Mart’s challenge to re-capture its core customers with more options and incentives. Previous missteps have had an impact, and now, U.S. consumers are stressed to the point that they are seeking all available shopping alternatives to secure value.
• Wal-Mart has lost precious time in its E-commerce stumble.  Enhancing the brick and mortar presence and multi-channel commerce has been the thrust of many savvy retailers who must overcome the revenue conflicts for compensating in-store and online team performance.
• The company will again turn to its supply chain and to its suppliers to garner more cost and productivity savings.  The open question is often can you “visit the well’ before recognizing that you have a water-consumption problem.

Oh yes, in case you were curious, rival Target Corporation announced a 4.6 increase in Q2-2011 total revenues and an 11.5 percent increase in earnings. Same store sales in the U.S. increased 3.9 percent, with positive profit performance,  reflecting the strongest quarterly performance in four years.

Supply chain professionals continue to march to a fundamental management and business process premise- customers and customer needs drive all supply chain activities. Wal-Mart must continue to focus on that premise.

What is your view?  How do you interpret Wal-Mart’s current directions and their implication on retail supply chains?

Bob Ferrari

©Copyright 2011 The Ferrari Consulting and Research Group LLC

Since the inception of this blog, along with our research and consulting services, we strive to provide readers and clients with specific evidence where supply chain capabilities make an impact on business performance.  Our goal within the Supply Chain Matters blog is to provide commentaries to help our readers connect the dots as it were, to where business decisions interrelate with supply chain business process and IT applications strategy.

Yet another important example of these interrelationships was brought out last week in a series of Wall Street Journal and other financial media articles commenting on Wal-Mart’s recent reporting of fiscal Q4 and full year earnings.  While the world’s largest retailer demonstrated an overall 2.5 percent increase in sales and a 27 percent improvement in Q4 profits, the actual headlines reflected more on management’s finally coming clean with an admission of missteps in its US merchandising operations.

Wal-Mart’s U.S. operations incurred another decline in customer traffic and revenues, a consistent and troublesome pattern that has continued over multiple quarters, that has opened opportunities for Wal-Mart competitors.

In our previous Supply Chain Matters commentary related to Wal-Mart’s financial performance, posted in November 2010, we noted that this supply chain prowess icon had already incurred six straight quarters of declining growth in existing U.S. outlets. We also noted that in 2009, Wal-Mart embarked on an aggressive store merchandizing initiative to cut clutter and reduce inventory stocking.  In embarking on this store re-vamping effort, Wal-Mart’s strategy was to attract higher income shoppers who valued both price as well as selection. Tactics involved a pricing and inventory stocking strategy to promote and aggressively price certain high volume consumer staples under the “price rollbacks” program, but at the same time initiate a “high-low” pricing program that increased prices on many other stocked items that would attract higher income buyers.   What got in the way was the cumulative effects of severe and sustained levels of unemployment.

At mid-year, the company suddenly had to reverse course. It re-assigned certain U.S. management, and began adding more lower cost, higher volume merchandise to stores, including the former ‘pallet clutter’ sale aisles with weekly specials.  Apparently this change of course was not able to positively impact Q4 sales.  As was the case it Q3, Wall Street analysts again noted that Wal-Mart’s overall inventory levels were even higher in Q4, up near 11 percent from year ago levels.

Wal-Mart senior management now acknowledges that as a retailer, it has confused and alienated its traditional U.S. core customers. While publically stating that core shoppers, accounting for the bulk of U.S. sales volume are households with annual incomes of $70,000 or less, we strongly suspect that that income level is a lot lower.   Wal-Mart management has often communicated that its retail sales tend to often surge at the beginning of a month, when paychecks and government subsistence payments are issued. This implies that core customers are clearly motivated by cash flow, price sensitivity, and availability of lower cost alternatives.

In one of its articles, the WSJ noted that reduced staffing at many U.S. stores has frustrated some of Wal-Mart’s vendors who observe more occurrences of out-of-stock shelves on weekends.  In spite of all previous investments in RFID and other initiatives directed at eliminating out-of-stocks, some out-of-stocks at key times remain.

Each year, this author has had a tradition of visiting and observing a Wal-Mart store both at the peak of the frantic holiday buying season, and two to three days after the Christmas holiday when re-stocking efforts are most noticeable. This year’s visit reinforced a perception that Wal-Mart has slipped in overall inventory management, selection and replenishment.

Rival Target, on the other hand, continues to see improvement in same store sales which were up 2.4 percent in Q4. Target has been adding more core food items and selection to its retail stores. Overall 2010 sales for Target were up 3.7 percent, while inventories are up 5.8 percent. Emerging competitors targeting Wal-Mart core customers like Dollar Stores have also benefitted immensely from current Wal-Mart merchandizing and inventory stocking missteps.

For its part, Wal-Mart management is moderating expectations by forecasting flat to slightly negative revenue expectations for Q1 U.S. store sales, while also indicating that it make take months to fix U.S. sales growth.  A threefold focus on acceleration in the opening of smaller stores, termed Walmart Express,  improving inventory stocking across its U.S. network of Supercenters and larger stores, with across the board item price competitiveness has each been outlined as a major focus this year.

In our prior commentary we noted that inventory stocking strategy can evoke differing management responses. Too much inventory is a detriment to working capital and margin performance while too little of required inventory risks out-of-stocks and lost sales. In the retail industry, marketing and sales, who control the levers of merchandizing strategy always want more inventory of what consumers are buying.  Where the rubber hits the road is where senior executives, cross-functional management and supply chain response come together in consistent operational execution and key performance indicator goal fulfillment.

While management theory, technology and integrated operational performance have come a long way, it would seem that a litany of non-stop supply chain focused initiatives may have lost focus to the needs of Wal-Mart’s ultimate core customers.

Wal-Mart management is now tasked with the challenge for quickly finding the right combination of U.S. merchandising, inventory stocking and distribution strategy that can accommodate the dual needs of satisfying needs of highly economically stressed core customers, while finding alternative means to attract a different level of customer.  In the end, the grand strategy may have been spot on, but the tactical execution may have faltered.

We would be interested to read the observations of readers, particularly those that have a close observation of Wal-Mart.  Has this supply chain icon faltered in supply chain capability, or will the Wal-Mart U.S. merchandising model need to be dramatically changed?

Only time will tell.

Bob Ferrari

Supply Chain Matters has penned quite a few commentaries regarding Wal-Mart’s ongoing relentless quests to trim supply chain costs.  Past commentaries have noted that this global retailer’s increased thrusts to save even more supply chain costs are preludes to disintermediation, as Wal-Mart moves its buying influence further down its supply chain.  Earlier in the year came the announcement of global based direct purchasing procurement involving clothing, hard goods, fruits and vegetables.  In June, there was the announcement that the company would become its own freight forwarder, assuming transportation services of shipments from certain suppliers.

This mega-retailer has yet another program underway, its collaborative sourcing program, a program we predict will have even more far-reaching implications for this retailer’s key suppliers, along with its retail competitors.

A Bloomberg Businessweek story notes that Wal-Mart has been approaching its key suppliers, such as PepsiCo, to secure joint purchasing agreements for select commodities at a lower price than either company can get on its own.  In the specific PepsiCo case, the purchase opportunity is potatoes.  PepsiCo consumes large quantities of potatoes with its FritoLay snacks division.  Wal-Mart hopes to leverage this combined buying buyer to lower inbound supply costs for both its key supplier, as well as itself, in the purchase and distribution of goods at global stores.  According to Businessweek, only certain of this retailer’s private brand suppliers have signed-on.  Sugar and paper are noted examples.

Manufacturers of branded products have taken a pass thus far, and for very good reasons.  Like other global supply chain partners have learned, sharing of data and business practices implies trust among the participants, and that is an area that Wal-Mart’s reputation as a win-lose negotiator precedes itself.  Suppliers sharing annual purchase volumes of commodities open themselves to revealing product formula composition.  Suppliers who embark on joint purchasing agreements with a key customer the size of a Wal-Mart also risk the backlash of the market, as raw material suppliers or other retailers sense a stronger and far more influential buying presence in the market.  In the case of commodities, farmers and producers could risk the ability to negotiate higher prices for their goods, or in times of scarce supplies, preference could be given to those with the strongest buying influence.

Collaborative supplier programs are successfully accomplished with mutual trust and win-win goal fulfillment. With Wal-Mart’s current efforts to move down the retail supply chain, the question remains as to what is defined as win-win.

Bob Ferrari

The following is one of two different perspectives regarding today’s Wall Street Journal article indicating that Wal-Mart expects to track certain clothing through the use of RFID enabled smart tags. This commentary is in the context of the consumer perspective.

As I read the Wall Street Journal article Wal-Mart Radio Tags To Track Clothing, I began feeling that there will be nothing left private in my life.  I happen to agree with Katherine Albrecht, author of Spychips, when she says, “There are two things you really don’t want to [RFID] tag, clothing and identity documents…” I am not so quick to dismiss these concerns as “breathless conjecture”. Let’s check out what we already have in place.

Most of us carry at least one store card which tracks what and how much we purchase at our local supermarket, shoe store, drug store, clothing store or gas station.  We all want a bargain, so we easily give away our information to get the discount, special offerings, or members-only sales.  We tell ourselves that we control to whom and what we tell our chosen companies about ourselves, but truly, that is not the case.  They can discern a great deal about our personal and collective purchasing and lifestyle habits from tracking those seemingly harmless little cards or key chain dangles.  We are a supply chain executive’s and marketer’s dream customer.  For very little investment and work, they know oodles about what and how much they should order and stock and what does and doesn’t sell.

Now let’s introduce an RFID chip.  Let’s see…who doesn’t use underwear or wear jeans?  If this works and really does lower costs and reduce theft for Wal-Mart, and by the way, reduce the need for employees and all associated benefits costs, since there will be less need for sales associates, inventory checkers, and warehouse workers, then it will be used for all products and companies.  Think of it this way, if Wrangler and other suppliers have to invest in the new equipment for Wal-Mart, it’s a short leap for other retailers to initiate the sensors.

I don’t necessarily worry about “some unscrupulous marketer or criminal being able to drive by [our] homes and scan our garbage”, as I do about the web of potential and ultimately most probable linkages among all our consumer and identity cards.  It matters not whether the sensor tag is removable.   What matters is that individual items will be tagged with individual sensors.

We already have the cards and they will, sooner or later, be replaced with new ones that have RFID sensors.  I envision that, in time, the sensors will be added to the cards, probably without too much of a fuss, as we don’t pay much attention to replacement cards or their informational inserts. New types of IDs are already beginning to be used for special identity documents and drivers’ licenses.  We’re sold on this idea of personal convenience and extra safety.

We are also a society that wants safety and cost containment measures to assist our quality of life and purchasing power.  We think it’s a wonderful idea to fingerprint our children, give them picture IDs with bar codes and have them carry these identifiers with them all day.  They use them for bus boarding, in lunch lines, and corridor passes. Safety first, anyone who doesn’t belong doesn’t get a nifty badge; they get a visitor’s pass! Our special work and school badges keep us safe.  They also help insure that public and private funds are being used appropriately.  After all, we can’t afford to waste money on cheaters who shouldn’t be getting what it is they shouldn’t be getting nor doing what they shouldn’t be doing at the expense of the taxpayer or the company shareholders.

In the end, our RFID chipped cards and IDs will be linked to our RFID purchased goods chips which will be linked to RFID surveillance cameras.  Imagine what information we will share with anyone who wants to know.   Supply chain executives will be able to track inventory and replenish stores on a timely basis and marketers will be hailed as being ‘best of breed’ for being able to read the market so well that companies can control costs, improve working capital, and raise shareholder profits.

From birth to death, and possibly beyond, every aspect of our lives will be an open book.  Can you say “Big Brother is watching”?  I don’t think it can or will be short circuited (pardon the pun), but…I do shudder at the future of an open world from which we cannot hide.

Marie Ferrari

The following is one of two different perspectives regarding today’s Wall Street Journal article indicating that Wal-Mart expects to track certain clothing through the use of RFID enabled smart tags. This commentary is in the context of the supply chain perspective.

Well here we are yet again, another business headline involving Wal-Mart and a new RFID initiative that promises great value.  The real question is have we as a supply chain and broader business community learned from all the previous RFID endeavors? According to the Journal article, removable RFID smart tags are to be initially placed on underwear and Wrangler jeans at the point of manufacturing, and if successful, expanded to other products.  Wal-Mart is indicating that it will subsidize the costs of the tag sensors, but suppliers will have to invest in the tracking infrastructure.  To alleviate consumer privacy concerns, the retailer is further demanding that suppliers affix the tags to removable labels or packaging, instead of embedding them in the apparel.  But alas, that does not calm the fears of consumer privacy advocates. The article rightfully points out that RFID tracking is not new to retailing, and is successfully done in other regions, most notably certain retailers in Europe.

Having observed supply chain related RFID initiatives since the very beginning, I offer the following perspective.  First, I have always been of the belief that auto-ID tracking technology can pay tremendous dividends to supply chain business and customer fulfillment processes.  The opportunity is the ability to literally connect the physical supply chain by electronic means, providing all kinds of benefits in inventory management, tracking, replenishment and fulfillment programs.

There were many obstacles in previous initiatives. These included the high cost of the tags themselves, the expensive cost of the scanners, the ability of software applications to process real-time data, the lack of consistent identity standards, and fears from consumer privacy advocates.  Some years later, much is changed.  Individual tag prices have come down, certain software applications are RFID enabled, and the standards have improved.  Technology vendors have also ratcheted-down the hype that RFID cures all ills. The consumer issues still remain.

At this juncture, all of us should be a lot smarter and more pragmatic on the proper rollout, deployment and adoption of smart tag enabled inventory tracking across the various tiers of the supply chain.  We have learned that suppliers cannot be the sole subsidizer for the benefit of a single customer.  We have hopefully learned that consistent standards benefit all.  Auto-tracking is first and foremost a supply chain efficiency initiative, not a sales and marketing initiative to gain insights on consumer buying habits.  Finally, we should have learned that consumer concerns about privacy are genuine and real, and had better be addressed in any rollout initiative, especially involving Wal-Mart.

I applaud initiatives that improve inventory item tracking and more responsive customer fulfillment tracking processes.  Technology such as RFID smart tags can be effective enablers to such processes, if deployed correctly.  Unfortunately, the name Wal-Mart associated with such initiatives still evokes multiple concerns.

Bob Ferrari