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December 30, 2014
The Dismal Science
by Adam Smith

Several years ago, my family was going on a trip and we were going to stay at a hotel that had a pool. We were currently in Oklahoma or Kansas when one of my children remarked that he had not brought his swimming suit with him. It just happened that we passed a huge Walmart that looked like it was in the middle of nowhere. Perfect — we could get him an inexpensive suit there.

We went in the Walmart, and it was like going into a different world. The aisles were wide and not cluttered. Everything was neat and appealing to look at. The employees were nice and helpful. Basically, it was nothing like the Walmart in the city where we lived. I actually enjoyed my shopping experience at a Walmart!

Let’s remember the history of Walmart. It started in Arkansas and serviced rural America to fuel their initial growth. In these small towns, Walmart brought decent inexpensive products and decent jobs for the people that live there. Of course it also destroyed many of the local businesses.

After Walmart conquered rural America, it started to move into the cities and was again very successful. But the accusations started and have never stopped. Here is a sampling.

  1. Walmart is a greedy company that does not pay its employees nearly enough money.

  2. Walmart goes in and destroys the local economy.

  3. Walmart does not offer enough benefits to their employees.

  4. Walmart sources its products in countries where the employees are poorly paid and treated.

  5. Etc. etc. etc.

Walmart is an enormous company with $500 billion in sales. The profitability of Walmart in dollars is also enormous at $16 billion, and they generate about $23 billion in cash from their operations every year.

These numbers are large, and if you ever do business with Walmart you will learn that they are very much in charge. But let’s consider exactly how profitable they are.

Their operating profit as a percent of sales is 3.4%. In many companies, this would be considered an underperforming company. Most of the companies I have worked for are looking for 15-20% profit margin.

Walmart grew to their current huge size because they could continually open doors and the stores were profitable. Not wildly successful, but still they made a profit. Eventually they have fewer options for opening a store and growth is difficult. The 3rd quarter of 2014 was the first quarter of growth for Walmart in two years.

Consider the $23 billion in cash they earn from operations every year. They invest about $13 billion every year in remodeling their old stores and opening new ones. This is good since it creates construction jobs around the country and then permanent jobs working at the store. I would think we like this type of spending and would not want it to stop.

Then Walmart pays its shareholders about $2/share/year (2.5% return), and this adds up to about $6 billion more spent every year. That leaves about $4 billion more of cash that is available. They use much of this to buy back stock. But what if they used this $4 billion on the employees? How much more per hour could an employee make an hour?

$4 billion is a lot of money! Let’s do the math.

Walmart has 2.2 million full-time employees. If we divide the $4 billion by the 2.2 million employees, you get $1,800 dollars more per employee. Divide the $1,800 by the hours worked in year (2080) and every employee could earn $.86/hour more per hour. That’s it.

There just is not an enormous pile of cash that would allow Walmart to increase employees’ wages and increase employer’s paid benefits. The money is not there.

That is why Walmart fights the wage increases and the benefit increases. They have already put many employees on the government health exchanges. While the sales and profit numbers are big for Walmart, both could right now be at the apex and do nothing but get smaller.

Amazon is gunning for Walmart, and Walmart has to respond with low prices and that means cutting costs wherever possible. Because they employ so many people, any increase in labor cost dramatically decreases profitability or they must increase their prices and are less competitive with Amazon and consumers with very limited budgets are forced to pay more for goods they purchase at Walmart.

Walmart is just one example of a corporation that people like to vilify. However, once you really look at the numbers you begin to understand the methodology of why they pay people what they do.

The operating profit percentage on many upscale products is many, many, multiples of Walmart’s. Yet no one complains about them. Perhaps many of those who protest Walmart cannot understand why those who shop at Walmart do not just shop at Saks or Nordstrom’s like they do.

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