The Surprising Way Wal-Mart Is Copying Costco

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This week, Wal-Mart CEO Doug McMillon addressed a common complaint toward the megaretailer when he stated the company plans to end minimum-wage pay for its workers soon. Wal-mart joining the ranks of Gap and employee-friendly Costco as retailers who have decided they can pay employees more than the minimum wage is good news for some Wal-Mart employees; but is this a good business decision for Wal-Mart?

The minimum wage question has become a rather politically charged and acrimonious debate, with one side focused on current workers, and the other more concerned with job growth. While both points have merit, it's interesting to see retailers move on this issue unilaterally.


On one hand, it confirms that businesses can raise wages in order to increase demand from the lower-income demographic. However, it also points toward the fact that the market could be the best regulatory mechanism of wages. Basically, it acknowledges both sides of the debate.

But what both sides miss is that the market has already spoken: Wal-Mart has been punished for its low wages for the greater part of the last decade.

Market capitalization has been stuck in neutral
During the last 10 years, Wal-Mart has been the leading company in the Fortune 500 -- a list determined by revenue -- in all but three years. How exactly have the company's valuations held up? Not well.

If you compare Wal-Mart's market capitalization to Costco's and the broader S&P 500's, you can see a company that's struggling in that regard. The chart below will give you proper context:

COST Market Cap Chart

COST Market Cap data by YCharts.

While it's important to note that the company's stock has returned more than the 7% figure on the basis of its generous capital return policy (dividends and share repurchases), investors don't like the direction of the company, and are reticent to assign market average valuations to the stock.

Compare that to Costco, which has seen its market valuation grow 155%. Although its market cap grew from a smaller base, investors continue to give Costco higher valuations on a price-to-earnings ratio by nearly two times Wal-Mart's total (15 times vs. 26 times). And there's a reason for this: Revenue growth at Costco has been nearly 50% higher than Wal-Mart during this period.

Store/EntityWal-MartCostcoSam's Club
Revenue: Last Fiscal Report476.3105.157.2
Revenue: Ten Years Prior256.342.634.6
Total Growth85.8%247%65.3
Annualized Growth6.3%9.4%5.1%

Figures in billions. Source: Wal-Mart's and Costco's 10Ks.

As you can see, Costco has grown more quickly than Wal-Mart during the last 10 years. Many correctly note that Costco operates a discount club model that's different from Wal-Mart's broad retailing model; but that still doesn't explain the discrepancy. As a matter of fact, when Wal-Mart's discount warehouse, Sam's Club, is compared to Costco, the numbers are even worse than Wal-Mart overall.

Source: The Motley Fool

Two birds, one stone
Let's not accuse Wal-Mart of suddenly being philanthropic; paying employees an amount higher than the minimum wage is good business. Essentially, it helps with two large issues that have plagued Wal-Mart -- depressed consumer spending, and unmotivated employees.

Regarding the first issue, as the largest private-sector employer, Wal-Mart has an outsized say in employment and salary trends in the greater economy; that's especially true within the retail space. If other employers feel the need to match Wal-Mart's "beyond minimum wage" starting figure, the company should be the beneficiary of increased consumer spending. If not, Wal-Mart has the opportunity to poach more-talented retail employees.

In a way, Wal-Mart appears to acknowledge it has hit the limit of its costs savings through labor. In recent years, both Bloomberg Businessweek and Time have reported empty shelves, and stockouts are costing the company dearly, with Target and Costco being the primary beneficiaries. In an admission that should make shareholders' blood boil, Wal-Mart executives themselves estimate $3 billion per year of revenue is lost due to empty shelves, in part due to poor staffing and overworked employees.

Employer review site Glassdoor rates the business 2.8 out of five stars, with fewer than half of the workers approving of the CEO. For perspective, Costco is rated 3.9, with an incredible 93% of workers approving of the CEO. If you're asking employees (excuse me, associates) to work harder to fill shelves, it doesn't hurt to have well-paid, motivated employees. According to Wal-Mart, the average hourly worker is paid $11.83 per hour -- that's below the retail average of $14.46, and Costco's average of $21.00.

While it doesn't appear to be a large sacrifice for the company -- Mr. McMillon stated that only 6,000 of its 1.3 million employees make the minimum wage -- the symbolism is important. As the largest private employer that employs roughly 1% of American workers, Wal-Mart has essentially set a bar higher than the current minimum wage.

Although it doesn't appear that Wal-Mart will dethrone Costco anytime soon as the most-liked big-box retailer, and the gesture could be merely symbolic, Wal-Mart's salary increase could lead to more motivated employees. And more motivated employees are better for Wal-Mart shareholders looking for higher returns and dividends, as well as customers and our economy.

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The article The Surprising Way Wal-Mart Is Copying Costco originally appeared on Fool.com.

Jamal Carnette has no position in any stocks mentioned. The Motley Fool recommends Costco Wholesale. The Motley Fool owns shares of Costco Wholesale. Try any of our newsletter services free for 30 days. We Motley Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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