Thursday, July 28, 2011

Walmart (WMT): Part Three - Benefits of Parsimony, the Right Premise & Indoctrination

Walmart possesses a culture that rallies around a simple "low cost + low price = more customers + higher volume" theme. The idea, initially a retail experiment by Sam Walton, represents the premise that drives Walmart's entire business. The idea is simple, the execution is tremendously complex. But the simple idea carries with it the benefit of parsimony (or, KISS...keep it simple stupid!), reducing the amount of deliberation required to make those difficult or confusing decisions that pop-up each and every day in business. 

In an environment of complex choices leading to uncertain outcomes, humans often fall victim to either "CYA Syndrome" (cover your ass by making choices you believe will offend others the least rather than those that might lead to greater benefit) or Paralysis by Analysis. The latter tends to manifest itself in one of two forms. 

First, decision-makers err on the side of more information and more analysis in a belief this will help them make the ideal choice. They hold meeting after meeting, soliciting input from an expanding ring of people, crunching more numbers, and generating a long paper trail of memos. The process takes a lot of time and, by virtue of involving more people, creates a "complicity cover" (i.e., the more people you involve in the decision, the more you can spread blame if the outcome is bad). 

Second, would-be decision-makers use analysis to suffocate the very act of making a decision. They hide behind it, biding their time (yet acting very busy) until the issue loses any sense of urgency and just quietly dissolves into the periphery.   

But when the principle of parsimony comes into play, guided by an easy-to-understand premise (or raison d'être), complex matters can be quickly reduced to their lowest common denominator and the potential decisions re-framed in terms of how they help the organization abide by the premise.  Default one becomes "do something simple instead of something difficult." And, for Walmart at least, default two becomes "make the decision that lowers costs, thereby lowering prices, thereby bringing more customers in the doors, thereby increasing volume, thereby increasing returns."

Sam Walton was not the first retailer to champion this philosophy. A recent book by Marc Levinson, The Great A&P and the Struggle for Small Business in America, provides insight into what may have been the earliest implementation of what became the Walmart way. This quote, from the book, is attributed to John A. Hartford, part of the brother duo running A&P.
"We would rather sell 200 pounds of butter at 1 cent profit than 100 pounds of butter at 2 cents profit."
The sentiment is hardly different an example in Walton's tome, Sam Walton: Made in America:
"Here's the simple lesson we learned...say I bought an item for 80 cents. I found that by pricing it at $1.00 I could sell three times more of it than by pricing it at $1.20. I might make only half the profit per item, but because I was selling three times as many,  the overall profit was much greater...In retailer language, you can lower your markup but earn more because of increased volume."
He wasn't the first to understand the power of low prices and high volume. In fact, it didn't take genius level retail IQ to latch onto that insight and turn it into the basic premise of the entire Walmart operation. Good ideas...even some of the best ideas...are worth nothing unless the person or the organization has the ability to execute on them. And this particular premise has been difficult to execute in a live-fire business setting. Why?

My first suggestion is that it's not such a simple task to get a group of people lined up behind a common purpose. But Walton was unrelenting. He screened new employees based on how well they seemed to buy into the Walmart premise. One can imagine he was ruthless in pruning out executives who attempted to stray from the idea. He became cheerleader extraordinaire for the cause, championing the Walmart premise throughout the organization. He instituted a company cheer, still in place today, that culminates with associates responding to "Who's number one?" with "The customer! Always!" Walton was, ultimately, a master at indoctrination.

Consider the following account by an early Walmart manager (from Charles Fishman's bestseller The Wal-Mart Effect):
"We would sit around a big table, and Sam would talk to us like a Dutch uncle. He would say, 'You see this pen? We're selling it for 88 cents. It's a good pen. We're paying 60 cents for it. We could write an order for this at 60 cents and sell it at 97 cents. But we don't. We want to sell a good product at the best price. And make sure we've always got it.'"
My second suggestion is that the temptation is always high for retailers to stray from low-cost + low-price.   When it was founded in 1962, Walmart was not the only company attempting to get into the discount store game. Indeed, Walmart, Target, and K-Mart all came out that same year trying to make similar jumps from their variety formats into discounting. Each was dedicated to growing through volume, using the power of bigger stores in more markets to extract better pricing from suppliers.

Writing an early post-mortem on the competition, Walton penned the following words in the early-90s. From his book:
"What happened was that they didn't really commit to discounting. They held on to their old variety store concepts too long. They were so accustomed to getting their 45 percent markup, they never let go. It was hard for them to take a blouse they'd been selling for $8.00, and sell it for $5.00, and only make 30 percent. With our low costs, our low expense structures, and our low prices, we were ending an era in the heartland. We shut the door on variety store thinking."

Bumping up margins by bumping up prices has always been a siren's song for retailers. It's easier to let prices creep up a penny here or a penny there, feeding higher gross margins, providing a comfortable cushion to pay for your overhead expenses. It's easier than cutting expenses, firing people, reducing salaries, forgoing the nice headquarters building, etc. Surely the customer won't notice just a little increase in prices, right?

Walton understood the slippery slope of that thinking, and so he worked tirelessly to imbue his Walmart culture with a sense of repugnance for higher costs and higher prices. Again, from the Fishman book:
"'Sam valued every penny,' says Ron Loveless, another of Sam's early, legendary store managers...'People say Wal-Mart is making $10 billion a year, or whatever. But that's not how the people inside the company think of it. If you spent a dollar, the question was, How many dollars of merchandise do you have to sell to make that $1? For us, it was $35. So, if you're going to do something that's going to cost Wal-Mart $1 million, you have to sell $35 million in merchandise to make that million.'"
We'll allow that idea to close this line of thought. I've meant to convey a rather simple point, but that gets tangled easily in all this writing. Perhaps it boils down to this: 1. Parsimony is better than complexity when it comes to helping people sort through their myriad daily decisions; 2. The right premise - steeped, of course, in parsimony - helps ease the decision making process while avoiding problems like paralysis by analysis; and 3. If you have the right premise, you will benefit from indoctrinating your people and making sure it becomes an enduring part of your culture.

This, I believe, defines the successful low-cost, low-price culture of Walmart. And if we're studying Walmart only to marvel at its culture, we can stop our analysis there. We are, however, evaluating the company as an investment opportunity and must segue into our next series of questions, starting with...Has its strength become its weakness?

Now, looking to the future...If the company can only build so many more supercenters before saturating its markets and cannibalizing its sales...if the company is battling reduced buying from penny-pinched customers...if same store sales are what kind of predicament does Walmart find itself if it wants to continue to grow revenue but refuses to raise prices?

Has the simple premise that has worked so remarkably for 50 years become more of an anchor, slowing the momentum of the Walmart ship, than an engine driving it?

Thursday, July 21, 2011

Walmart (WMT): Part Two - Raison D'être

Our Reason for Existing

After three hours of high-energy corporate pep rally, Walmart's CEO - Mike Duke - strides onto stage to bat clean up. The setting is the company's annual shareholders' meeting, emceed by Will Smith and featuring a cavalcade of senior executive speeches and heart-warming vignettes on the dedication of Walmart associates.

Whether from Doug McMillon of Walmart International, Brian Cornell of Sam's Club, or Eduardo Castro-Wright of, each manager preceding the CEO has used his stage time to extol the virtues of what they call the Productivity Loop: Operate for less through every day low costs (EDLC), which leads to...Buy for less from suppliers, which leads to...Sell for less to customers with every day low price (EDLP), which leads to...GROWTH! And the loop circles around the unifying theme of "Saving people money so they can live better."

It's a steady drumbeat, and it's loud. Audience members will not leave this meeting foggy on the takeaway points. Yet it's not limited to one meeting. Review any public presentation by a Walmart executive (you can find them here) and you will see that each returns to these same ideas over and over and over again.

Back at the shareholders' meeting, Mike Duke comes on stage, keeping the streak alive with yet another speech about the Productivity Loop. As he highlights the connection between EDLP and EDLC, he walks to  the podium and grabs a well-worn copy of Sam Walton: Made in America, opening it as if he's preparing to read chapter and verse from scripture itself.

Duke says (and I'll paraphrase to a degree),
"I picked this book off my shelf and read it again this week, for what must be the third or fourth time. And let me share with you what Mr. Sam has to say about EDLC...'We exist to provide value to our customers, which means that, in addition to quality and service, we have to save them money. Every time Walmart spends one dollar foolishly, it comes right out of our customers' pockets. Every time we save them a dollar, that puts us one more step ahead of the competition - which is where we will always plan to be.'"

Duke closes the book and holds it up solemnly for the auditorium to behold. They clap reverently at Mr. Sam's immortalized words just before the current CEO sums it up with this statement:
"No one controls costs better than Walmart because we do it for the right reason. It's for our customer."
There. That's Walmart's raison d'être. It's reason for existence.

The final genius of Sam Walton may have been just that...distilling a retail philosophy into just a few pithy statements, making it so much easier to build and maintain a company culture on these simple, unifying themes. So much so that his company executives continue to refer to him as Mr. Sam nearly twenty years after his death and keep dog-eared copies of his book lying around just in case they need a fresh injection of his wisdom. So much so that a company with 2.1 million employees, over 9,000 retail outlets, operating in 28 countries, and with sales approaching the half-a-TRILLION mark...continues to stick to the same simple, unifying themes.

Next...the "principle of parsimony" when combined with an accurate raison d'être makes for formidable force in retailing.

Thursday, July 14, 2011

Walmart (WMT): Part One - Simple, Unifying Themes

There is something to be said for the simple rallying cry, the unifying principle, the lowest common denominator upon which to rely when in doubt. The human mind, as we're told by cognitive psychologists, is not so good at juggling multiple ideas at the same time. It's quite bad at managing priorities when given unclear directions. And it's just plain terrible - paralyzed even - when asked to act on what it perceives to be conflicting ideas or directions.

F. Scott Fitzgerald noted the following in this 1936 article for Esquire magazine: 

"...the test of a first-rate intelligence is the ability to hold two opposed ideas in the mind at the same time, and still retain the ability to function."
Though most of us consider ourselves first-rate lovers (especially the French), drivers (especially the Swedes), and investors (this bit of overconfidence is equal opportunity), in reality these skills - as well as possessing a first-rate intelligence - tend to distribute along a bell curve, meaning most of us (irrespective of our confidence) are going to be just plain average at each. So when we create systems in which our fellow humans must make decisions, we are increasing the odds of them making the correct decisions if we reduce their options, provide them clear priorities, or at a bare minimum provide them with a simple rule to use when in doubt.

Through much of my life I've had a fascination with politics, enjoying in particular - almost as a connoisseur - the finer elements of a well-run campaign. One of the best in terms of providing simple, unifying themes was the 1992 candidacy of Bill Clinton. The behind the scenes drama is captured in a spectacular documentary, The War Room

Now imagine a national campaign. You have so many constituencies that have conflicting and overlapping agendas - voters, interest groups, supporters, opponents, media, Congress, etc. A campaign can easily derail itself trying to patchwork a message to satisfy each. Those with the most success, however, jettison the complex and nuanced messages in favor of simple, overarching themes. For that 1992 campaign, political operative James Carville reduced all the complexity to three simple rules, displaying them prominently for all to see everyday: 1. Change vs. More of the Same; 2. The Economy, Stupid; and 3. Don't Forget Healthcare.

These three things, they believed, captured the fears and hopes of the electorate, highlighting the strengths of a challenger versus an incumbent, and kept the conversation away from Clinton's recurring personal foibles.  

It worked for two reasons: One, they picked the right themes. Voters were worried about the recession, and despite George H. W. Bush having historic approval levels coming out of a quick and decisive victory in Gulf War I, people were concerned about their jobs and quick to ask "what have you done for me lately?" The Clinton campaign was able to paint a picture of the incumbent as ineffective on economic issues.

This is a critical point. Not any theme will do. You can't just pick one, beat the drum often and loudly, and expect it will work every time. The message must have resonance. It must be the right message. If Carville and crew had selected the wrong one - if it rang hollow to campaign staff and/or voters - the in-the-trenches workers would have dropped it. (Note: Line workers can be brilliant at subversion when you haven't won their buy-in.) 

Second, communications staffers and the candidate pounded the messages home with unrelenting discipline. When media questioned them about any topic, their job was to always bring the conversation back to these three points. They were able to do it because the themes were simple, easy to remember, and (importantly) the staff allowed itself to be indoctrinated, truly believing that these were the right messages to share.  

Campaigns and businesses are worlds apart in many ways, but in this regard I believe them to be quite similar. They are both complex organizations attempting to influence diverse constituencies to achieve some goal. For companies, they need customers to recognize the benefits they offer. They need investors to buy-in to their model. And perhaps most importantly, they need to influence employees - who operate in that dense fog of commercial war - to make good decisions that reflect well on the firm and support its objectives.

Granted, nearly all companies recognize the power of unifying themes. They hire skilled executives for the sole purpose of internal communications, they create catch-phrases and missions statements, and they work hard at staying on message. But more often than not, their themes fall short of defining the business, unifying its constituents, and providing direction. They lack authenticity. They lack resonance. For employees at all levels, they lack the unifying and defining ability to provide...PURPOSE.

What businesses actually do this well? 

I believe Walmart is among the best. The direction was provided by Sam Walton, entombed in his autobiography (Sam Walton, Made in America), and imprinted constantly on his managers and employees. Provide customers with the goods they want at the best prices possible, and they will buy from you before they buy from the competitors. Everything stems from this premise.

In the next few posts we will examine the Walmart credos, accepting as a given that the message is simple and well-delivered, and thinking about whether it remains 1. an accurate premise; 2. in support of a viable business model; and 3. that it helps justify an investment in the business at current prices.