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A company's DNA is steadfast. Changes may occur that permeate strategy, store design, and earnings, but the inner-workings of a company depend upon a history of decisions that pave the way for the future. Over the past year, Wal-Mart (WMT) has received allegations of bribery in Mexico, experienced heightened threats over nationwide strikes, and on May 28th was forced to pay $82 million for dumping hazardous waste. These are only three of countless examples that shine the spotlight on the type of culture that Wal-Mart has: either one that is too big to control or one where short-term profits outweigh the long-term effects of current decisions.

Wal-Mart's culture has undoubtedly morphed into a company that does not "walk the walk" in terms of doing the right thing by its communities, associates, and indirectly customers. Wal-Mart's size cannot be blamed for its growing reputation as a faceless organization because retailers such as Kroger (KR) and Target (TGT) have been able to avoid such ruptures with the law. The issue does not only express itself in the cost that ruptures with the law result in, but more so the cost in reputation that leads customers to ask, "Is this the type of organization I want to support?" Although price still does and may always dominate customers' decisions, the nature of a company is integral to its long-term success and ability to cultivate lasting relationships with its customers. If Wal-Mart is unable to change its image around the world, the retailer faces a difficult future.

The issue is, Wal-Mart's DNA has become that of cutting corners and this attribute will take years to rid. For investors, this raises the pivotal question, "Is an investment in Wal-Mart an investment in a company that does not respect the Earth, its associates, or the law?"

(click to enlarge)(NYT Report)

Does it Really Matter from an Investment Perspective?

In order to fully answer this crucial question, the basis of a company's worth must first be defined. A company's worth is determined by its tangible and intangible assets along with its future earning potential. In the case of Wal-Mart, its stores have intrinsic value, but the greatest value resides in its business model and ability to profitably sell the items that flow in and out of its stores. This profitability is driven through two key means:

  1. Reducing costs and subsequently diminishing the impact of cost increases on the bottom line.

  2. Driving revenue through building new stores, increasing trips per-week/basket size, and building customer loyalty.

The scandals that Wal-Mart has faced over the past several years have direct impacts on both the company's costs and ability to drive revenue and therefore profitably grow. For example, the Mexican bribery case has reportedly cost Wal-Mart over $200 million and there is potential for this to only be the beginning of such cases and incurred costs. Although $200 million is not chump change, the impact from a cost perspective is existent but not substantive.

However, the aspect of these allegations and ruptures with the law that is substantive, is that of how customers view Wal-Mart. In December of 2012, Forbes Contributor Barbara Thau published an article entitled 'Why Wal-Mart's Bribery Scandal Won't Matter to U.S. Shoppers'. Within the article she outlined the fact that shoppers have short attention spans and that in the discount sector, customer expectations are relatively low. Although these types of scandals may not permeate customers' minds currently, as younger generations begin to represent a greater portion of Wal-Mart's revenue, the tide may change. Today is the age of transparency: GMO and gluten-free labeling, environmental regulation, and countless other social issues that matter in the minds of consumers. Wal-Mart's customers will take note if scandal continues to fill the headlines and shed light on Wal-Mart's internal culture. Investors must take note.

What Investors Should Look For

At Wal-Mart's annual stockholders meeting last Friday, the company faced intense questioning on issues ranging from product safety and sourcing to the myriad scandals that have taken place over the past year. The New York Times reported that "Wal-Mart follow[ed] a narrow script" at the meeting and quickly diverted attention away from criticism and onto Wal-Mart's vision of itself. The issue becomes that Wal-Mart's vision of itself is not congruent with that of how the company is being perceived by the public. Although those in the audience of Wal-Mart's annual meeting may be perceived as "radicals," they represent the views of many young families in American and around the world. Wal-Mart must actively work to rid its perceived nature as being a faceless organization or the company is in danger of losing traction due to revolting customers. Investors should look for:

  • How Wal-Mart is executing its strategy of accountability.

  • What tactics Wal-Mart is taking to "walk the walk" of doing the right thing by its associates, communities, and environments.

  • The ways Wal-Mart is conveying to the public that it has listened to activists around the world and is making the necessary changes to correct its past ruptures with the law and its own people.

Without these actions on behalf of Wal-Mart, the retailer faces a future of bad PR and ultimately a customer base that will take note of Wal-Mart's poor behavior.

Conclusion

The issues that Wal-Mart is facing do not stem from a few bad apples within the organization, but rather from a culture where cutting corners has been acceptable and where potential for growth outweighs all other considerations. This is not the way to do business. Wal-Mart has received a slew of wakeup calls, but the retailer must act quickly and swiftly to save its brand from future damage. Customers will take note of Wal-Mart's poor decisions and overtime; the effects will be felt through decreased customer loyalty and thus decreased customer spend.

Large retailers such as Kroger and Target have each received criticism in the past due to singular poor decisions, but these decisions were the exception and not the rule. The same cannot be said for Wal-Mart. Kroger and Target alike have achieved favorable images in the eyes of the public due to their environmental work and relatively consistent commitment to their workers. For investors, Wal-Mart's ruptures with the law and mounting global frustration should stand as a warning sign. Investors should demand transparency and a paradigm shift from Wal-Mart's past history of quieting and diminishing scandal.

Source: Wal-Mart: Is Reputation A Leading Indicator?