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Why Cost Cutting Can Sometimes Become Too Costly?

Whenever a company announces a cost-cutting drive, the markets respond with enthusiasm, driving up the share price. There are at least four assumptions underpinning this enthusiasm:

In most cases where I have been personally involved in cost-cutting exercises (and these number in hundreds by now), these assumptions hold true. Indeed, the projects are created only when the evidence of excessive fat is readily available. Diagnostics are carried out intelligently and implemented diligently. Long term unintended consequences are minimized by taking these into consideration during the strategy formulation.

However, there are ample examples in press of one of the four assumptions above not holding up. This news-story from a recent edition of Bloomberg Business Week tells us the case of Walmart. As per the article:

Wal-Mart Stores (WMT) has been cutting staff since the recession—and pallets of merchandise are piling up in its stockrooms as shelves go unfilled. In the past five years the world’s largest retailer added 455 U.S. Walmart stores, a 13 percent increase, according to company filings in late January. In the same period its total U.S. workforce, which includes employees at its Sam’s Club warehouse stores, dropped by about 20,000, or 1.4 percent.
A thinly spread workforce has other consequences: longer checkout lines, less help throughout the store, and disorganization. Last month, Walmart placed last among department and discount stores in the American Customer Satisfaction Index, the sixth year in a row the company has either tied or taken the last spot.

The article goes on to compare the current woes at Walmart with the HomeDepot experience a few years ago.

That’s what happened at Home Depot (HD) in the early 2000s, when it tried to trim expenses and boost profits by cutting staff and relying more on part-time workers. Eventually customer service and satisfaction deteriorated, and sales growth at established stores fell.

Perhaps this is symptomatic of the dilemma faced by all brick-and-mortar retailers. As the customers move to online channels, and increasingly use traditional retailers as mere show-rooms to get a touch and feel experience of products that they later buy online after comparison shopping using smart apps, all retailers are experiencing challenges that require ‘fresh thinking’ and ‘newer business models’.

However, as per the article, not all retailers are exhibiting the same symptoms of mis-guided cost cutting. The article quotes the case of a shopper who finds the shelves in competitors’ store amply stocked and serviced, as follows:

Margaret Hancock long considered her local Walmart superstore her one-stop shopping destination. But during recent visits, the retired accountant from Newark, Del., says she failed to find more than a dozen items, including certain types of face cream, cold medicine, mouthwash, bandages, and hangers. Walmart’s loss was a gain for Kohl’s (KSS), Safeway (SWY), Target (TGT), and Walgreens (WAG)—the chains Hancock visited for the unavailable items. “If it’s not on the shelf, I can’t buy it,” she explains. “You hate to see a company self-destruct, but there are other places to go.”

This article, and the example quote above, has hit a nerve among Walmart customers – setting the cybersphere abuzz with comments, mostly quoting similar experiences, or worse. Walmart’s drive to cut-costs has not gone un-noticed by its customers. No doubt, online retailers such as Amazon are fast gaining market share due to their lower overheads and drive to gain market share at the expense of margins. It will be very interesting to see the outcome of this particular battle.

More interesting question is, however, What should be Walmart’s strategic response to the current challenge?

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