Earlier this year, in “What Happens After A Mega Corporation Raises Its Workers' Wages [3],” we detailed the plight of Wal-Mart’s supply chain in the wake of the retailer’s decision to raise the pay floor for its lowest-paid employees. Here’s a recap:
When mega-corporations such as WalMart and McDonalds, whose specialties are commoditized products and services and who have razor thin margins, yet which try to give an appearance of doing the right thing, by raising minimum wages, they start flexing their muscles, and in the process trample all over the companies that comprise their own cost overhead: their suppliers and vendors. Take the case of WalMart: the world's biggest retailer "is increasing the pressure on suppliers to cut the cost of their products, in an effort to regain the mantle of low-price leader and turn around its sluggish U.S. sales."
What WalMart is doing is borderline illegal: it is explicitly telling its vendors "this is what you will do with your excess cash." Of course, we say borderline because WMT's action is perfectly legal in the confines of the pure law. However, in the context of an economy that is sputtering, WMT's vendors have no choice but to comply or risk losing what is certainly their largest revenue stream and risk bankruptcy.
The irony is that while WMT (or MCD or GAP or Target) boosts the living standards of its employees by the smallest of fractions, it cripples the cost and wage structure of the entire ecosystem of vendors that feed into it, and what takes place is a veritable avalanche effect where a few cent increase for the lowest paid megacorp employees results in a tidal wave of layoffs for said megacorp's vendors.
As those who frequent these pages are no doubt aware, quite a bit has happened in Wal-Mart world since we penned those words. First there were “plumbing [4]” problems which, for at least five locations, were so intractable as to necessitate store closures. Then came the mid-level management rumblings as the rest of Wal-Mart’s employees suddenly realized that an across-the-board wage hike for the lowest-paid workers meant the wage hierarchy was suddenly and irreversibly distorted. Shortly thereafter, a memo circulated at an Arkansas recruiting firm indicated [5] a raft of layoffs could be in store for the Bentonville home office. Finally, unable to make up the $1 billion cost of the wage hikes and unable to pass that cost on to customers without surrendering the “low price leader” crown, Wal-Mart began cutting hours [6].
Now, we get still more evidence that the world’s largest physical retailer is attempting to make up for the cost of hiking wages by pressuring its suppliers only this time, the supply chain is pushing back. Here’s Bloomberg with more [7]:
After years of meeting demands for ever cheaper prices, many Wal-Mart Stores Inc. suppliers are saying no to new margin-squeezing storage fees and a payment schedule that could delay for months how quickly some are paid.
The world’s largest retailer says the changes, laid out for vendors starting in June, reflect a push to simplify its relationships with suppliers, put them all on the same footing and reduce costs so it can offer customers the lowest prices. But some vendors see the new policy as an attempt by Wal-Mart to fatten its margins and offset wage hikes for store workers earlier this year.
And whereas before, Wal-Mart was “merely” asking suppliers to do everything possible to lower prices (i.e. dictating how vendors will use FCF), this time, Wal-Mart is actually adding new fees:
Vendors were already feeling added pressure from Wal-Mart to cut costs after the retailer told them earlier this year to dial back on marketing and promotions and use the savings to lower their prices, he said.
Traditionally Wal-Mart has largely avoided the extra fees some other retailers charge, so the policy change was a surprise, said Leon Nicholas, a senior vice president at Kantar Retail, which advises dozens of Wal-Mart suppliers.
“What is so shocking this round is that they are being aggressive not in asking suppliers to take costs out of the system so the supplier can lower prices, but instead adding cost into the system,” Nicholas said. “It looks as though they are trying to have it both ways and trying to pad their own margins where they are facing cost pressure.”
As for suppliers who don’t comply, well, they’ll be “punished”:
Wal-Mart could punish suppliers that don’t agree to all or some of the new terms by cutting back shelf space for a product, giving it less favorable placement in the store or dropping a supplier all together.
Just as we predicted back in April, the end result of Wal-Mart’s push to score public opinion points by making the meager wages of its lowest paid workers look a little less meager will be the elimination of jobs along the supply chain:
A smaller supplier, notified of the fees late last month and given two weeks to accept, said it won’t be able to make a profit on its Wal-Mart business under those terms unless it fires workers or cuts wages and benefits.
So there, once again, is economics 101 at work and as we noted late last month, it should have been abundantly clear from the start that if ever there were an employer that could ill-afford a $1 billion across-the-board pay raise without immediately making up the difference by either firing some employees, cutting hours, or squeezing the supply chain it’s Wal-Mart, because after all, they’re the “low price leader”, and you don’t hold on to that title by passing labor costs on to customers.
In the end, suppliers may be trying to push back, but they're unlikely to cut their noses of to spite their faces by creating a contentious relationship with the company that's responsible for their largest revenue stream which is why ultimately, it's vendors' employees who will suffer so that Wal-Mart's cashiers can make $9/hour instead of $8. We'll close with the following lament from Leon Nicholas (quoted above):
"You can push and push, but at the end of the day you know where the power lies."
