The Cost Structure of the Prospective Suppliers of Wal-Mart Company - Case Study Example

 Executive Summary Wal-Mart has dominated America’s retail industry for over 40 years. It has grown from one store in the USA to become a global company. It has done so through its superior efficiency, quality, and innovativeness- through the application of information technology and its responsiveness to its customers needs. This has been the result of its ability to strategically manage its supply chain and its strong bargaining power. Despite its progress there are huge concerns as it relates to claims by workers of poor working conditions and discrimination. This problem is similar to the problems faced by employees at some of its suppliers abroad. Introduction Sam Walton established Wal-Mart, currently the largest retailer and private employer in the world, at Rogers, Arkansas, USA in 1962. Walton was a visionary who recognized the potential in serving the needs of America’s growing middle class and honed in on the opportunity to develop a general store selling a variety of popular goods at competitive prices. Wal-Mart’s current stature and success is due to Walton’s deliberate effort to position Wal-Mart as a low-cost provider of ‘every day goods’. Wal-Mart is currently a global company with 2.1 million associates (employees) working in 8400 stores, in 15 countries. He understood what consumers wanted from retailers, noting that: “the secret of successful retailing is to give your customers what they want.” Walton was successful in achieving this on a consistent basis. He has been successful at managing the supply chain in order to deliver the right goods to customers, at the right prices and on time. Walton was able to secure funds, and by the end of the 1970s the company had a large network of 276 stores. This gave Wal-Mart its bargaining power and increased its ability to negotiate for better prices from suppliers. Wal-Mart has grown rapidly over the years and has developed its supply chain management capabilities, to the extent that, the company is now able to pass on information to its suppliers through electronic data interchange (EDI). See diagram in Appendix 2. Throughout the last 20 years Wal-Mart has experienced high inventory turnover levels, which far exceeds its competitors in the United States. Through its leading edge information systems it is able to obtain real time information on sales and stock levels. This sales data is shared with major suppliers like Procter & Gamble and therefore enables better planning and co-ordination with suppliers. Stock levels are now monitored jointly by both parties in order to ensure levels are maintained according to ‘just-in-time’ practices. This has proven a key differentiator for Wal-Mart stores which seldom run out of stock on popular items. Wal-Mart is currently back at the top of Fortune’s list of the America’s most admired companies as it continues to expand across the globe. It has now expanded its product line to include food, toys and electronics and continues to seek growth opportunities organically and through acquisitions. Its geographic presence across the US is unprecedented. Hill and Jones (2007) noted that: “Wal-Mart has been able to engage in market penetration and market expansion because of the secure base it established in its rural strongholds.” Its success has been sustained through technological advances and employee retention efforts, such as employee ownership programs. Its recent global expansion has been largely facilitated by the removal of trade barriers through WTO and the NAFTA agreements. Even though there has been teething pains for example in Mexico, the move has paid off and is now a tremendous success. Wal-Mart has a highly developed and effective procurement and logistics operations, which forms the backbone of the company’s strategy. “Wal-Mart has the most efficient materials management set up in the retail industry. By tightly controlling the flow of goods from its suppliers … into the hands of customers, Wal-Mart has eliminated the need to hold large inventories of goods” (Hill and Jones, 2007: 85). Its Bentonville, Arkansas headquarters is the largest majority private employer and the largest grocery retailer in the United States. Wal-Mart’s procurement department is divided into two departments: Domestic and Global. Domestic Procurement is set up for purchasing products from the suppliers in the United States only, however, a supplier who does not meet the criteria of Wal-Mart for becoming a product domestic supplier may contact to the import department that is called “Global Procurement Office” (www.walmart.com, 2008). Analysis Wal-Mart Global Procurement group was established in 2002 to manage Wal-Mart’s direct import business and factory direct purchasing. Global Procurement is responsible for overseeing the sourcing of merchandise from thousands of supplier factories worldwide. There are 9 offices in 8 countries such as Bangladesh, Dubai, India, Indonesia, Korea, Pakistan and China. The headquarters of the Global Procurement office is in Shenzhen, China which is staffed by over 1700 employees. (www.walmartstore.com, 2010). The advent of China’s economic awakening has proven advantageous to Wal-Mart as China’s growth in the last two decades has been driven primarily by its focus on export. As US companies sought to relocate manufacturing operations to low-cost locations including neighbouring Mexico, China answered America’s call by offering to produce its vast array of consumer goods. It is no surprise then that America’s largest retailer, Wal-Mart, would readily embrace this phenomenon by establishing key partners in China who would help fulfil Wal-Mart goals of US retail dominance by producing vast quantities of goods at ‘every day low prices’ (Wal-Mart’s slogan). In fact, this relationship is often referred to as the ‘ultimate joint venture’ (Doshi, H. 2008). Wal-Mart entered the Chinese market and opened its first store in Shenzhen in 1996, later opening its Global Procurement headquarters in 2002. Currently, Wal-Mart operates a number of store formats in China including Supercentres, Sam’s Club, and Neighbourhood Markets (walmartstores.com). This relationship has helped Wal-Mart maintain low expenses and reinvest earnings into new product development, always one step ahead of competitors. According to Micheal Duke, vice chairman of Wal-Mart, “Wal-Mart’s procurement budget to buy products from China is expected to stay at approximately $9 billion in 2010 in spite of a rising exchange rate and product safety concerns.” In terms of the purchasing process, unlike any other company, Wal-Mart does not have difficulty identifying suppliers because Wal-Mart is such a lucrative business opportunity for just about any supplier. As such, existing suppliers need to maintain quality and low costs of their products while new/potential suppliers need to offer both quality and low-cost products in addition to differentiation – adding something special and unique which customers would want to buy. Wal-Mart maintains prices and volume standards for its suppliers, terminating agreements with suppliers which cannot meet requirements. In addition, Wal-Mart determines what and how much to produce as well as time and delivery requirements. This may require manufacturers to modify their organization and make new investments to produce and deliver such a large number of items in the time allowed (Wal-Mart.com, 2008). See diagram of Wal-Mart’s purchasing process chain in Appendix 1. Since buying is centralized at headquarters, this keeps purchasing cost down. Wal-Mart has avoided supplier power by not allowing any single supplier to have more than 2.4% of its purchase. Therefore, Wal-Mart is better able to control its negotiating position with its suppliers. Wal-Mart’s electronic data interchange allows it to communicate with over 3,600 vendors regarding inventory orders, forecasting, planning, replenishing and transferring electronic funds. Wal-Mart has made specific supplier choices along the way that are generated towards minimizing costs and maximizing efficiency. For example, Wal-Mart has eliminated manufacturer’s representatives at cost saving of 3-4% and calls its suppliers collect. Large key suppliers such as P&G and GE are able to share information with Wal-Mart electronically and have dedicated time to manage products for Wal-Mart. Wal-Mart utilizes a number of databases due to the vast amount of data, which needs to be managed. One of the main areas of information management is the inventory management system. Wal-Mart gained competitive advantage with its up-to-date inventory management system, being the first retailer to computerized inventory management and develop an integrated system which EDI, which placed order directly with suppliers when stocks reached a certain level. Many retailers have copied this strategy and inventory management is an important aspect of ongoing operations Vendor Managed Inventory (VMI) is a process in which a supplier generates orders for its distributor based on demand information sent by distributor. According to Carl Hall, “VMI was first applied to the grocery industry between companies Procter & Gamble (supplier) and Wal-Mart (distributor).” Wal-Mart and P&G have had a VMI program together for over ten years to manage the inventory and production of disposable diapers, with great success: turns doubled, Wal-Mart’s operating costs fell, and P & G's market share grew (because Wal-Mart gave it preferred shelf space). Key suppliers have vendor managed inventory systems, which reduces Wal-Mart’s inventory costs and allows suppliers to increase sales for their products. Wal-Mart uses Electronic Data Interchange (EDI) to exchange item information, purchase, orders invoices, shipping information and planning forecast information. EDI has proven to be the most efficient way of conducting business globally with its suppliers, by electronically sending and receiving core business documents. Wal-Mart and Sam’s Club has EDI documents to support business areas such as: Supply Chain Management, Global Indirect Sourcing, Accounting, Inventory Management and Logistics. See diagram in Appendix 2. Wal-Mart expects its suppliers to be able to participate in EDI exchanging and EDI transactions, once they become a Wal-Mart Supplier. They are given a specific Wal-Mart supplier Number. When the time arrives that Wal-Mart expects a supplier to become EDI capable, Wal-Mart provides the supplier with detailed guidelines and instructions for EDI compliance. The systematic process of electronically exchanging key information adds value and improved functionality for both Wal-Mart and Sam’s Club and its suppliers. This allows it to improve customer service, lower expenses, and increase productivity by real-time delivery of EDI documents. Wal-Mart actually invented the practice of sharing sales data via computer with its major suppliers. Wal-Mart also pioneered the concept of VMI, Vendor Managed Inventory through the use of sales information, recovered at the Point of Sale (POS). Wal-Mart’s suppliers actually analyze sales trends and recommend orders for Wal-Mart While Wal-Mart is able to satisfy customers that they will never run out of supplies because of their highly sophisticated inventory system, the company’s strong bargaining power has not quite worked in its favour. Some suppliers, in their effort to produce at lower prices to facilitate buyers such as Wal-Mart have breached both safety and other quality guidelines. Some suppliers have even stopped supplying Wal-Mart because the profit-margin on Wal-Mart’s orders is too small. When they accept orders from Wal-Mart, it means that the working conditions for employees have to be compromised in order to facilitate this. Recently, toys produced in China came under scrutiny because of safety concerns. This has resulted in a number of product recalls. According to Merle and Mui, 2007: “Wal-Mart officials … were asking toy suppliers to submit recent safety documentation or re-test their products in response to the wave of recalled merchandise from China that has cast a shadow over the upcoming holiday shopping season.” Approximately 80% of the toys sold in the USA are manufactured in China. What is clear here is that if Wal-Mart wants quality, somebody has to pay. Wal-Mart has taken steps to rectify the matter by hiring three firms to help retailers test their products: “ Bureau Veritas of Belgium, Intertek Group of London and Consumer Testing Laboratories of Bentonville” (Merle and Mui, 2007). Occurrences like these will certainly affect their profits. “Among the various techniques developed to evaluate strategy, that associated with the balanced score-card is becoming very fashionable” (Walton 1999: 46). “Kaplan and Norton (1992, 1993, 1996) argue that strategy formulation and evaluation should be undertaken from four perspectives: They are financial, customer, internal business, and innovation and learning” (cited in Walton, 1999: 46). If we assessed Wal-Mart’s procurement functions using Kaplan and Norton’s balanced scorecard we will found that there are major weaknesses in its internal business in the form of major human resource problems. According to Hill and Jones (2007: 398): “In the last ten years, …, the relationship between the company and its employees has been strained by a succession of lawsuits claiming that Wal-Mart pressures hourly workers to work overtime without compensating them, systematically discriminates against women and knowingly uses contractors who hire undocumented immigrant workers to clean its stores, paying them below minimum wage.“ China has welcomed Wal-Mart’s demand for cheap goods, but Wal-Mart push for low prices has had a negative effect on its reputation with factories. Since Wal-Mart demands goods at such low prices, worker wages are depressed, compliance with regulations safety measures are rare, and profit margins are extremely small. According to Chinese business executive Shao Zhuliang, “It’s always hard to make money from Wal-Mart orders”. And the pressure facing suppliers are getting worse. Such slim profit margins and labour abuse have led some factories to reject Wal-Mart orders because the Wal-Mart orders weren’t profitable. Even though many suppliers in China have yielded to Wal-Mart’s low price demands and are producing little profit, Wal-Mart is looking to other places, such as; India and Africa for “cheaper alternatives”. Many European companies have been willing to share responsibility of increased costs, but Wal-Mart has insisted on not increasing prices, not taking into account manufacturers’ real circumstances.(Wal-Mart’s international sourcing) Wal-Mart’s procurement operations have also been called into question by human rights critics and some authorities who have lobbied for Wal-Mart to seek better conditions for workers at its suppliers in addition to improved quality. Wal-Mart has responded by partnering with Intertek Group which in turn works with Wal-Mart suppliers in order to improve merchandise quality and train management and staff in order to improve workplace environments. Most of Intertek’s work is in China but they are also responsible for identifying new suppliers, sourcing new products, building partnership between existing suppliers and managing the global supply chain of Wal-Mart’s direct imports. As such, Intertek has become a key partner to Wal-Mart’s procurement operations. Despite it’s partnership with Intertek, Wal-Mart plans to merge its global procurement functions and reduce the use of intermediaries in its global resource processing, with the aim of achieving up to $120 billion savings over the next five years. The revamping of its procurement strategy seems in character with Wal-Mart’s legacy of leveraging its size to squeeze costs out of its supply arrangements and make the supply chain as cost efficient as possible. It is a known fact that both primary and support activities contribute to the value that is created in Wal-Mart‘s value chain. If the human resource aspect is not dealt with as a matter of urgency this may start having implications for the company’s operations globally. A chain is as strong as its weakest link and therefore if its associates – the persons employed to face the customers have problems then the customers will start having problems. This also applies to the management of its purchase process chain. If it continues to demand lower prices without given due consideration to its suppliers circumstances then that link of purchase process chain will be greatly compromised. Recommendations Wal-Mart needs to perform an internal analysis of its procurement procedures. While the company may be benefiting right now from the lower prices that it receives from suppliers, the company needs to consider the implications of this for the working conditions existing in the factories of its suppliers. Wal-Mart needs to consider the circumstances of its suppliers. When suppliers lower their prices it has implications for quality and working conditions. What seems almost certain is that Wal-Mart may have to merge its business with those of its suppliers in the future if it is to continue offering low prices. While the company continues its drive to find ways of improving efficiencies, there are also problems right at its doorsteps that need urgent attention. Wal-Mart needs have a serious look at the cost structure of each of their prospective suppliers. These problems, if ignored will be to its detriment. If Wal-Mart’s success continues to be at the expense of poor working conditions at its suppliers or at its stores it may not have a future. Consumers could take these things into consideration when deciding where to purchase their goods. Right now Wal-Mart is under pressure as some of its customers are off to other stores to do their shopping. As the world is recovering from the recession, people are making serious decisions about where they shop. They may consider issues like working conditions and other factors that may become relevant. Items in the news, such as working conditions and discrimination lawsuits are some of these factors. Refrences Doshi, H. (2008). Wal-Mart increases its hold on China. Available: http://www.financialexpress.com/news/walmart-increases-its-hold-on-china/269445/1. Last accessed 12th Dec 2010. Hill, C. W. L., Jones, G. R. (2007). Strategic Management Theory: An Integrated Approach. 7th ed. Boston: Houghton Mifflin Company. Mui, Y. Q., Merle, R. (2007). Wal-Mart Tightens Toy-Safety Program. Available: http://www.washingtonpost.com/wp-dyn/content/article/2007/08/23/AR2007082302202.html. Last accessed 12th Dec 2010. Appendix 1 Wal-Mart Purchasing process chain Appendix 2 Diagram of Electronic Data Interchange Read More