Walmart China

IntroductionSummer was making its picture-perfect debut in New South Wales that day in October 2011, but Mr Greg Foran hardly noticed. Newly hired away from his role as head of Australia’s leading supermarket chain, Woolworth’s Supermarket Division, he was set to work as a senior vice president at Wal-Mart International, the fastest growing division of the world’s largest retailer, Wal-Mart Corporation. However, what exactly he would be doing was still open to discussion. It was not until the sudden and somewhat mysterious departure of Mr Ed Chan, the president of Wal-Mart China, that Foran’s new role suddenly emerged.

That Australian summer, far from the approaching winter back in Bentonville, Arkansas, Wal-Mart’s corporate headquarters in the United States, Foran tried to learn more about why Chan had resigned after only four years at Wal-Mart China’s helm. China promised Wal-Mart a market potential like none seen since the company’s own monumental growth and retail dominance in the United States decades earlier. Was it the pork-labelling probe that temporarily shut all 13 of Wal-Mart’s stores in the southwestern Chinese city of Chongqing (not to mention the detaining of over two dozen employees) nine days earlier that forced Chan’s departure?

Or was it the resignations, only five months earlier, of Chan’s chief financial officer and his chief operating officer? Although all the executives cited “personal reasons”, the financial media suggested that it was Wal-Mart International’s plans to introduce its Every Day Low Price (“EDLP”) pricing strategy in China that prompted the resignations. But how could such a successful model for cost reduction be viewed as negative in the Middle Kingdom?

Foran found out the answers to many of his questions when, five months later, in early February 2012, Mr Scott Price, then president and CEO of Wal-Mart Asia and the interim CEO for Wal-Mart China, announced Foran’s promotion to president and CEO of Wal-Mart China. Foran was moving to Futian District, Shenzhen, a nine-hour plane ride, some 4,500 miles, from Sydney. At the press conference announcing Foran’s new role, Price proudly presented Foran as a man with a “distinguished career in retail” and “uniquely qualified to lead our growing business in China”.

Only three months later, with Foran only in the job a Linda Garrett prepared this case under the supervision of Professor Ali Farhoomand for class discussion. This case is not intended to show effective or ineffective handling of decision or business processes. © 2012 by The Asia Case Research Centre, The University of Hong Kong. No part of this publication may be reproduced or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise (including the internet)—without the permission of The University of Hong Kong. Ref. 12/516C Purchased by Fidencio Espinosa B ([email protected]) on January 26, 2013


Wal-Mart in China (2012)

little over a month, Price told the investment community that Wal-Mart China must work harder to become the dominant player in China.1 But it was when Price announced the following that Foran finally knew where his future would lead: “I’m very pleased he (Greg Foran) is bringing his talents to help us continue WalMart’s expansion (in China) and enhance our efforts to help Chinese customers save money so that they can live better.”

2 Price’s challenge to Foran, made publicly for the world to witness, was to expand in China, increase Wal-Mart China’s online presence, and work to contain its costs. Price’s comments probably left even more questions in Foran’s mind. However, with his second summer of the year approaching, it appeared that Foran was indeed in for an endless summer.

BackgroundWal-Mart’s Growth in China In 1996, China’s national economy was growing at a rapid pace. The gross domestic product reached over US$1,064.4 billion, an increase of 9.7% over the previous year. It was also the first year of China’s implementation of its Ninth Five-Year Plan for National Economic and Social Development. There was a marked improvement in China’s economy. To further increase and attract foreign investment, the Chinese government increased its numbers of experimental, special economic-zoned cities in which foreigners could operate a business. There were, however, restrictions set forward by the government.

One restriction in 1996 was that all foreign businesses would have to be in a joint venture or other type of cooperative agreement with at least one Chinese partner, with that Chinese partner getting a stake greater than 51%. In August 1995, Wal-Mart, the great American retail chain and Middle America success story, arrived in China, establishing a joint venture with Shenzhen International Fiduciary Investment Co, Ltd, China. In the following year, 1996, Wal-Mart opened its first supercentre and a Sam’s Club, its members-only big-box store, in the special economic zone of Shenzhen, in the southernmost Guangdong Province.

However, it took the Chinese government’s removal of further trade restrictions for foreign retailers in 2004 for Wal-Mart to kick-start its expansion plans. Three years later, in 2007, Wal-Mart acquired a 35% stake in Trust-Mart, a Taiwanese-owned chain of retail supercentres operating in the Middle Kingdom. By 5 August 2010, Wal-Mart’s presence in China grew to 189 units in 101 Chinese cities, with the creation of over 50,000 local jobs. By early 2012, Wal-Mart nearly doubled its presence with 370 stores in 140 cities.

Burkitt, L. (15 April 2012) “Wal-Mart to Work Harder on Growth in China”, Wall Street Journal, (accessed 18 April 2012). 2 Wal-Mart China (7 February 2012) “Wal-Mart News—Greg Foran Named President and CEO of Wal-Mart China”, (accessed 18 April 2012).

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Wal-Mart in China (2012)

EXHIBIT 1: NUMBER OF WAL-MART STORES OPENED IN MAINLAND CHINA BY OUTLET TYPE Total Retail Units Supercentre Sam’s Club Neighbourhood Market Compact Hypermarket Trust-Mart Hypermarket 374 334 6 2 3 29


Source: Wal-Mart (2005), Wal-Mart stores’ website: (accessed 13 July 2012).

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Wal-Mart in China (2012)

Source: Atlantic Monthly (11 November 2011)

What’s at Stake: The Chinese Market By the late 2010s, doing business in China was no longer optional for any Western corporation that hoped to survive into the next century. As the US and European economies slumped in late 2011 and into 2012, the world’s number-two economy became an even more important growth market. In the first quarter of 2012, China’s retail sales climbed 15% to US$783.03 billion, according to the country’s National Bureau of Statistics. 3 Furthermore, China’s grocery retail market was predicted to continue growing at a rate of 11% from 2012 to an estimated US$1.5 trillion in 2015.

Over the same period, according to the Institute of Grocery Distribution, a food-industry research firm, US growth would peak at less than half that rate, at only 4.2%. Growth in the Middle Class In the late 1990s and early 2000s, scores of Chinese workers left their villages to work and prosper in China’s first- and second-tier cities. With their growing prosperity came an increase in domestic consumption by the Chinese in their pursuit of a better life. In 2009, credit card balances rose more than 17% from the year prior.

That same year, it was estimated that roughly 75% of all urban households in China had traded up in at least one product category of spending.4 Several opportunities emerged for international retailers as China’s middle class gained power. Even beyond what was reported, many analysts believed that most Chinese had more money than reported. Chinese households hid “grey income” that was never reported. Specifically, in

Burkitt, L. (15 April 2012) “Wal-Mart to Work Harder on Growth in China”, Wall Street Journal, (accessed 18 April 2012). 4 Seeking Alpha (30 March 2012) “5 Ways to Invest Into the Chinese Consumer”, (accessed 18 April 2012).

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Wal-Mart in China (2012)

late 2011, Forbes reported that many state companies in China gave big bonuses that were not accounted for as official salaries. Also, middle-class status brought a more selective Chinese consumer. No longer satisfied with cheap imitations, the Chinese became status conscious. Paying premium prices for products and services that might enhance their “status” was quite common. Interestingly, if the product or service did little or nothing to boost their status, then the Chinese consumers were very price conscious, eg, a man who bought and proudly wore a genuine Rolex watch might haggle over his taxi fare or, when traveling, skip the taxi and take public transportation.

Finally, the rise of the middle class brought more prosperity to China’s second-tier cities, which numbered in the hundreds.

By 2011, with populations that numbered in the low millions, the second-tier cities, such as Chengdu, Xi’an, Guilin and others, also sported highend European and American retail stores such as Cartier and Louis Vuitton like their larger neighbours Beijing and Shanghai. In the United States, such brands would be found in only a handful of first-tier cities, such as New York, Chicago or Los Angeles. In China, the demand for luxury goods was clearly far greater and far more widespread. EXHIBIT 3: PER CAPITA INCOME GROWTH OF CHINESE CONSUMERS (FROM 2000 TO 2010)

GNI PER CAPITA, PPP (US$) 50000 45000 40000 35000 30000 25000 20000 15000 10000 5000 0


2001 2560

2002 2830

2003 3180

2004 3590

2005 4090

2006 4750

2007 5580

2008 6230

2009 6870

2010 7640

China 2340 US

35690 36460 37070 38400 40680 43170 45680 46800 47320 45440 47310

Source: WDI and GDF (2010)

The world’s number-two economy was an important growth market throughout the early 2010s for Wal-Mart. With a population of 1.3 billion people, China was slated to emerge as the largest consumer market in the world, surpassing the United States, by 2020. By then, experts suggested, the Chinese population would be firmly planted into a true middle-class status. In contrast, during this same period in the early 2010s, the European sovereign debt crisis brought fiscal ruin to key European states.

Although designed to rescue its failing members, the European Union’s 750 billion euro bailout package, titled the European Financial Stability Facility, did little to ease international retailers’ woes, especially in the short term. In the United States, Wal-Mart faced consumers who were tightening their belts and not spending amid that country’s slow growth and stubborn unemployment. 5

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Wal-Mart in China (2012)

In contrast, China’s retail sales climbed 15% to US$783.03 billion in the first quarter of 2012, according to the country’s National Bureau of Statistics. China’s grocery retail market was predicted to grow 11% in 2012 to roughly US$1.5 trillion in 2015, compared with a 4.2% growth in the United States over the same period. This stark contrast in growth projections only reinforced why China was so critical for Wal-Mart’s future. But was the Chinese market so easy to conquer for a multinational player like Wal-Mart?

The country announced in 2012 that it planned to reduce exports and increase its own consumer spending. Such changes were expected to bring renewed competition from domestic Chinese retailers, China Resources and the Shanghai Brilliance Groups, as well as other multinationals—and there were plenty of them. According to Euromonitor, in the early 2010s, China had at least 32 hypermarket operators, or food and beverage outlets with more than 2,500 square meters. At the same time, the United States had only 10 operators, with WalMart being the largest and controlling 80% of the market.

Wal-Mart Strategy in China—2012In 2012, as Wal-Mart approached its second decade in China, it continued to struggle to reaffirm its strategic presence. But how exactly was Wal-Mart planning on using Foran to emerge from its less than stellar performance in China? According to Wal-Mart International’s CEO, Mr Doug McMillon, Wal-Mart China would set forward a winning strategy to combine “local relevance and global leverage” to woo the evergrowing market of Chinese middle-class consumers. Expansion through Multiple Channels In the company’s 2012 annual report, CEO Michael Duke reported that its Wal-Mart International Division was the company’s “primary growth engine.”

With US$125 billion in sales at the time, the international business division, if valued outside of the larger Wal-Mart Corporation, would have been ranked as the third largest retailer in the world. As Wal-Mart looked at its China business in particular, it chose to improve returns through increased profitability in the Middle Kingdom. Its focus, according to the CEO, would be on middleincome customers in high-growth markets. The middle-income customers, according to the hypermarket data, were moving out of the large urban centres like Beijing, Shanghai and Shenzhen and into smaller urban settings.

By expanding into these growing secondary and even tertiary cities, Wal-Mart would target these ever-more prosperous consumers. With low profit margins of between 2% and 3% in China, according to estimates from Shanghai-based consulting firm China Market Research, Wal-Mart had to build up its scale to win long-term.5

Burkitt, L. (15 April 2012) “Wal-Mart to Work Harder on Growth in China”, Wall Street Journal, (accessed 18 April 2012).

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Wal-Mart in China (2012)


Source: Access Asia, CCFA, Trade Sources and Company Information

When Wal-Mart began expanding outside North America in the 1990s, its largest international rival was the French retail chain Carrefour SA. The world’s second-largest and Europe’s largest retailer, Carrefour opened its first big-box superstore in France in 1963. Carrefour, meaning “crossroads” in French, entered Beijing, China, in 1995, only a year before Wal-Mart. Never one to enter a new market on a small scale, Carrefour was determined to open large stores at a steady pace throughout the Middle Kingdom.

At the time of Carrefour’s entry, however, foreign retailers were only allowed to operate in a select few mainland cities in China. All foreign ownership was also limited to no more than 49% of the shares in any Chinese joint venture or cooperative enterprise. Working under such tight controls, Carrefour formed a joint venture with Zhongchuang Commercial Company.

Mr Jean-Luc Chereau, the head of Carrefour China in 2006, believed that it was the company’s entry into Taiwan in 1989 that brought it its advantage when entering China six years later. Simply put, Chereau believed that Carrefour learned how to adapt and work within China by first learning in Taiwan. 6 Chereau believed that, although the economic systems were different between Taiwan and mainland China, both countries shared similar lifestyle and business cultures. Such beliefs and preparation paid off. By the end of 2006, Carrefour was ranked sixth in the Chinese retail market in terms of sales with 95 sales.

7 Carrefour’s success seemed to continue, with only a few setbacks along the way. In early 2012, the company announced it would accelerate its new store openings in China. 8 Averaging 20 to 25 new openings per year in the late 2010s, Carrefour was set to open 30 new stores in 2012. At the same time it announced its decision to accelerate its growth in China, Carrefour issued its fifth profit warning when its third-quarter 2011 sales in Western Europe and Asia revealed a downturn. In 2010, profits were so poor that Carrefour closed or sold some of its stores in Malaysia, Thailand, Singapore, South Korea, Russia and China’s western city Xi’an. In addition to profit warnings, Carrefour shared Wal-Mart’s own revolving-door personnel changes in the early 2000s when its CEO, Mr Lars Olofsson, a former Nestle executive,

Roberts, A. and Matlack, C. (20 October 2011) “Once Wal-Mart’s Equal, Carrefour Falls Behind”, Bloomberg Businessweek Magazine, (accessed 19 March 2012). 7 For details, see Carrefour’s website: 8 Li, W. (31 May 2012) “Carrefour to Hire Chinese MBAs”, China Beverage News, (accessed May 2012).

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Wal-Mart in China (2012)

became the company’s third CEO in seven years in 2009. Four other top executives were replaced in just 12 months between 2011 and 2012. By this time, Chereau was long gone.

Why China?China was considered, by many Wal-Mart watchers, as the best place to export the US merchandising powerhouse that Sam Walton founded in 1962. With its wide-open retail landscape and its growing middle class, the company entered a marketplace, at least on the outside, similar to the United States. In 2006, many retail experts suggested that China would be as big and as successful a market for Wal-Mart as the United States.

Expansion through Acquisition Trust-Mart Acquisition Wal-Mart’s first acquisition in China took place in 2007 when it acquired a 35% stake in Trust-Mart Group, a Taiwanese-owned, low-end retail supermarket chain, for US$264 million. The integration of Trust-Mart’s 30,000 employees and 100+ store outlets took five years, with Wal-Mart’s rebranding efforts spanning across 20 provinces.

The acquisition kick-started Wal-Mart’s expansion plans, promoted as a way to boost WalMart’s competitive position in China. In particular, the China Daily reported that it was “Trust-Mart’s national sales, distribution and purchasing networks” that would be key to strengthening Wal-Mart’s Middle Kingdom presence.9 The deal, at least on paper, catapulted Wal-Mart past its main international rival, French retail giant Carrefour, which it outbid for the chain. With the single acquisition, Wal-Mart more than doubled its presence in the country. But was this one acquisition enough?

At the time, China Resources and the Shanghai Brilliance Group, Wal-Mart’s chief domestic competitors, combined, had more than US$3 billion in sales and more than 8,000 stores in China. Five years after the Trust-Mart acquisition, there were no other moves to purchase another company in China. In 2012, Ms Cathy Smith, Wal-Mart International’s CFO, claimed, at a 2012 Investor Conference, not to be a fan of acquisitions as a means of securing new sales growth.

Financially speaking, acquisitions were an inefficient use of a company’s capital.10 According to Mr Ben McClure, Director of Bay of Thermi Ltd, a financial consultancy company involved in early-stage ventures, historical trends revealed that two-thirds of big mergers never provided the benefits ascribed to them. If Wal-Mart focused too intently on cutting costs after the Trust-Mart acquisition (in support of its EDLP strategy), its revenues and profits would suffer.

According to the global consultancy company McKinsey & Company’s quarterly newsletter article entitled “Where Mergers Go Wrong”, when companies merged, most of the shareholder value created went not to the buyer, but to the seller.11 Often the buyer overestimated the synergies a merger would yield. Rather, when too much focus was put on the integration, with the desire to also cut costs, buyers often neglected their day-to-day business and often, their customers. No customers, no revenue. No revenue, no value to shareholders.12 9

Li, W. (25 August 2011) “Walmart China Has Big Plans in Small Cities”, China Daily, (accessed 13 July 2012). 10 Christofferson, S. A., McNish, R. S. and Sias, D. L. (May 2004) “Where Mergers Go Wrong”, McKinsey Quarterly, (accessed 24 May 2012). 11 Ibid. 12 Bekier, M. M., Bogardus, A. J. and Oldham, T. (November 2001) “Why Mergers Fail”, McKinsey Quarterly, (accessed 24 May 2012).

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Wal-Mart in China (2012)

Even facing these real, post-merger dilemmas, Smith was not shy about sharing Wal-Mart’s desire to grow. “There are whole provinces in China that we haven’t even begun to think about, so we would think about those kinds of things (expansion) there,” she said.13 Expansion through New Store Formats SmartChoice When examining its expansion strategy throughout China, Wal-Mart could not ignore its competition with other large retailers, both foreign and domestic, or its competition for land.

Wal-Mart China was sorely constrained to find locations that were large enough on which to open its giant warehouse outlets. At many of the Wal-Marts and Sam’s Clubs throughout the first-tier cities, such as Shenzhen and Beijing, customers travelled up and down “travelators”, sometimes in a queue to “board” with their carts to multiple floors to find their merchandise.

14 Given these obvious land constraints, it made sense for Wal-Mart to think small. Leveraging the success of its Latin American colleagues, Wal-Mart International designed and launched new brick-and-mortar store types in China. Following in the footsteps of the profoundly successful convenience store format in Mexico and Argentina (Bodega Aurrera Express, Todo Dia and Changomas Express), Wal-Mart China opened two new types of discount convenience stores in urban areas of China.

The first type of these smaller-format stores, branded SmartChoice or Hui Xuan in Chinese, opened in December 2008 in Shenzhen, Guangdong Province. China’s SmartChoice was relatively small at only 280 square meters, yet convenient, selling only 2,000 products. Food accounted for approximately 75% of its merchandise.

15 A total of three SmartChoice stores were opened, all in the southern province. According to the company spokesperson, Vivi Mou, Wal-Mart set up the SmartChoice stores to observe “market acceptance and customer preferences” for the convenient stores before deciding on future development plans.16 An unnamed company source was quoted by Chinese media saying Wal-Mart planned to open 100 of the convenience stores across China this year and 1,000 in five years. Trust Mart In October 2010, Wal-Mart officially opened its second small-format store.

This larger version of SmartChoice, called Trust Mart (a name retained from the Taiwanese-owned supermarket stores Wal-Mart acquired in 2007), was first opened in Zhangshu Province. At 3,000–5,000 square meters, Trust Mart was considerably larger than SmartChoice, but still only a fraction of the size of a traditional Wal-Mart supercentre.

The Trust Mart format, WalMart International’s CEO McMillon claimed, would soon arrive in China’s other second- and third-tier cities. 17 There was no doubt that, although hypermarkets and supercentres still generated most of Wal-Mart’s overseas income, the compact hypermarket format would continue to grow internationally. The format, according to McMillon, would keep costs down, while it reached those Chinese customers not geographically close to a supercentre. Indeed,

Jopson, B. (8 March 2012) “Walmart Ready for More M&A in China”, Financial Times, (accessed 28 May 2012). 14 Case author visit to store sites in April 2012. 15 Berg, N. (2 December 2010) “To China, Love Mexico”, Natalie Berg on Grocery, (accessed 18 April 2012). 16 Wei, M. and Kwok, D. (6 May 2009)

“Wal-Mart Enters China’s Convenience Store Market”, Reuters, (accessed 19 March 2012). 17 Mast, C. (6 December 2010) “Walmart Goes Small in China”, New Hope 360, (accessed 18 April 2012).

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Wal-Mart in China (2012)

when asked, McMillon claimed the compact format had a “very attractive return” that would be even more important in Wal-Mart’s future.18 Interestingly, only two years later, in March 2012, Wal-Mart China closed all three of its SmartChoice stores in Shenzhen, the first type of its compact stores. When announcing the compact stores’ closures, Wal-Mart China claimed that they were only test sites, denying that the McMillon-lauded convenience store format was a failure. 19 In fact, at the time of the closure, Wal-Mart claimed it was still committed to the small-store concept, setting its sights on growing with the larger compact hypermarket format (similar in size to the Trust Marts) with stores sized at approximately half of a typical Wal-Mart supercentre.

According to an unconfirmed company source speaking to Chinese media in 2010, Wal-Mart originally had planned to have 1,000 SmartChoice stores opened in China by 2014.20 What happened to the SmartChoice concept in China? Were the obvious cultural differences between Mexico and China to blame for the failure? Perhaps a better explanation for why SmartChoice closed could be found by examining the highly competitive convenience store market in China at the time.

The majority (80%) of convenience stores were owned by the Chinese with only 20% held by a foreign owner. Major competitors, the wholly owned 7-11 stores and the Chinese-owned Kedics, were a force to be reckoned with. Kedics, a Chinese brand, was the largest convenience chain in the country with 2,356 stores at the end of 2011.21 Did Wal-Mart stand a chance against that kind of presence? Did the company that honed its skills operating megabox stores have the skills to “downsize” its offerings and still compete?

Conclusion: Brick-and-Mortar Expansion In the early 2010s, expansion throughout China and the rest of the world was a key strategy for Wal-Mart. Although stinging from its failure to launch its SmartChoice convenience storestyle, Wal-Mart still planned to expand by adding more hypermarkets and more membersonly Sam’s Club outlets. The company reported in October 2010 that new stores internationally were expected to add 21 million square feet of space that fiscal year and between 23 and 24 million square feet in 2011. “Our capital investment for next year will drive new store growth with particular emphasis in the emerging markets of China, Brazil and Mexico,” said McMillon.

“Through a combination of comparable store sales, new store square footage and continued earnings performance, we will continue to shape our international portfolio to drive both growth and improving returns. We will also continue to evaluate acquisitions to enter priority markets and to build scale in existing markets.”22


Berg, N. (2 December 2010) “To China, Love Mexico”, Natalie Berg on Grocery, (accessed 18 April 2012). 19 Research in China (1 March 2012) “Wal-mart China Shuts Small-Box Smart Choice Stores”, (accessed 18 April 2012). 20 Ibid. 21 Want China Times (21 March 2011) “Convenience Stores Vie for Chinese Market”, (accessed May 2012). 22 Mast, C. (6 December 2010) “Walmart Goes Small in China”, New Hope 360, (accessed 18 April 2012).

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Wal-Mart in China (2012)

Expansion through Online Growth Realising rather quickly that competition between both foreign and domestic operators inside its many markets was intensifying between the physical stores, Wal-Mart focused more en