Wall Street Journal
August 31, 2001
Lower Tariffs, Retail Muscle Translate
Into Big Sales for Wal-Mart in Mexico
By DAVID LUHNOW
Staff Reporter of THE WALL STREET JOURNAL
MEXICO CITY -- Shopkeeper Carlos Huerta recently walked into a Sam's Club warehouse store here and bought $6,000 of Act II brand microwave popcorn. Then he trundled across the street to resell it at his stall in Latin America's biggest wholesale market.
Mr. Huerta used to buy the U.S.-made popcorn direct from the manufacturer's distributor here. But with the U.S.-Mexican border growing increasingly porous, Wal-Mart Stores Inc. now can deliver Act II to its Mexican Sam's Club outlets for only a few cents more than to its U.S. stores, undercutting the product's Mexican distributor.
"I've lost a lot of business," says Mr. Huerta, who sells mostly to small corner grocers. "Now, a lot of people just go directly to Sam's."
Squeezing out middlemen such as Mr. Huerta is just one of the ways in which Wal-Mart is changing the way Mexico does business. By seizing upon the new opportunities offered by free trade and exploiting its massive buying power and distribution network, Wal-Mart, Middle America's most popular merchant, is replicating its U.S. success south of the Rio Grande. Today, barely a decade after it entered Mexico in anticipation of the North American Free Trade Agreement, Wal-Mart dominates this country's retail sector.
Wal-Mart's local unit, Wal-Mart de Mexico SA, has annual sales of nearly $9 billion and rings up about a third of its parent's $1.1 billion in annual overseas operating profits. It also serves as a proving ground for talent and a crucible for ideas to help Wal-Mart translate "the Wal-Mart way" to other foreign nations, such as Germany, where the retailer has stumbled.
Today, Wal-Mart operates 520 stores in Mexico, ranging from Sam's Clubs to Wal-Mart Supercenters to cafes where tired shoppers can pause to grab a quick taco or burger. But Wal-Mart's success here owes to more than just opening cavernous discount stores. It also stems from Nafta, which has turned the U.S., Mexico and Canada into a single trading zone.
After Nafta took effect in 1994, tariffs tumbled, unleashing pent-up Mexican demand for U.S.-made goods. The trade treaty helped eliminate some of the transportation headaches and government red tape that had kept Wal-Mart from fully realizing its competitive advantages here. And it sent European and Asian manufacturers racing to build new plants in the Nafta zone, giving Wal-Mart cheaper access to more foreign brands.
Consider Sony Corp.'s Wega line of flat-screen television sets. In 1998, Ricardo Perera, Sam's Club's electronics buyer in Mexico City, imported a handful of Wegas from Japan. Wal-Mart offered the 29-inch Wegas for sale at about $1,600. The high price reflected a 23% import duty and the cost of shipping the sets across the Pacific. That year, Mexican Sam's Clubs sold just five of the TVs.
The following year, Sony built a giant Wega factory in the border town of Mexicali in order to take advantage of Nafta. Locating the plant in Mexico allowed Sony to ship the plant's TVs anywhere in the Nafta zone duty free. Though Sony's primary target was the U.S. market, Mr. Perera spotted an opportunity.
Passing Along Savings
The Mexican-made sets saved Sam's Club a bundle in shipping costs, and it passed those savings on to consumers. Today, Sam's Club sells the 29-inch Wega sets in Mexico for about $600, roughly what they fetch in the U.S. The Wega line now accounts for about a third of Sam's Mexican electronics sales. Other Nafta-inspired plants have made it possible for Wal-Mart Mexico to offer similar savings on products ranging from underwear to digital cameras.
Things didn't always go so smoothly for Wal-Mart here. Back in the early 1990s, even bringing in Act II popcorn used to be a complicated affair. On top of steep import duties, retailers had to use costly middlemen to obtain hard-to-get import permits. Goods often took a month to clear customs, and Mexican officials sometimes demanded bribes. The paperwork alone was "torture," says Jose Angel Gallegos, a Wal-Mart distribution executive.
Now, thanks to Nafta, Wal-Mart can buy Act II directly from U.S.-based ConAgra Foods Inc., which manufactures the product and even slaps on a Spanish-language label at Wal-Mart's behest. Wal-Mart delivers the popcorn to a distribution center it built in Laredo, Texas, months before the Nafta treaty. There, a truck hired by Wal-Mart Mexico picks it up, and the next day the popcorn is on the shelf at a Mexican Sam's Club. Its rivals, meanwhile, continue to buy their popcorn from local distributors at higher prices.
Wal-Mart's legendary founder, the late Sam Walton, apparently saw all this coming. In 1990, Mr. Walton met Jeronimo Arango, one of three brothers who pioneered the discount-store format in Mexico. Mr. Arango's company, Cifra SA, had grown to become Mexico's leading retailer. He and Mr. Walton hit it off, agreeing that the free-trade deal then taking shape between the U.S. and Mexico made the time ripe for them to join forces.
There seemed little doubt that Mexicans were hungry for U.S. goods. In the late 1980s, as Mexico emerged from decades of protectionism, Cifra's Superama grocery-store chain did a brisk business selling U.S.-made powerboats and motorcycles from its parking lots.
So, in early 1991, Wal-Mart stepped outside the U.S. for the first time, launching Mexican Sam's Clubs in 50-50 partnership with Cifra. Within months, the first Sam's in Mexico City -- a bare-bones outlet that sold bulk items at prices just above wholesale -- was smashing Wal-Mart sales records. The joint venture grew to include every new store opened by either company. Though tariffs still made imported goods pricey, Mexicans marveled as "Made in the U.S.A." merchandise began to crop up on local store shelves.
Discounting Clay Pigeons
Not surprisingly, since Mexico was Wal-Mart's first foray abroad, the retailer made some blunders. Its first Mexican stores carried many items Mexicans rarely used: ice skates, riding lawn mowers, fishing tackle -- even clay pigeons for skeet shooting. Hapless local managers would radically discount the pigeons to get rid of them, only to have automated inventory systems linked to Wal-Mart's corporate headquarters in Bentonville, Ark., order a fresh batch. Wal-Mart also failed to share its technological know-how and global buying power with new partner Cifra, which it at times treated like an unwanted appendage.
Wal-Mart learned quickly from such missteps, says former Cifra executive Gilberto Perezalonso. It ultimately replaced slow-moving items such as leaf blowers with such local best sellers as maid's uniforms and self-service bakery goods.
But, in late 1994, just as Wal-Mart was getting it right, Mexico devalued its currency, sending the economy into a prolonged tailspin. The company froze its expansion plans in Mexico, where its stores suddenly looked way too big to wrest a profit from the country's cash-strapped consumers. Other U.S. retailers, such as Kmart Corp. and Sears, Roebuck & Co., pulled out of Mexico entirely. But Cifra remained profitable. That fact encouraged Wal-Mart to acquire control of Cifra in 1997 by buying an additional 12% stake in the retailer for $1.2 billion.
The merged company has had its share of culture clashes. Cifra executives, accustomed to a formal business culture, were put off by Wal-Mart's informal pow-wows in Bentonville, where they were handed baseball hats and whistles for use on motivational field trips. They politely declined invitations from top Wal-Mart brass to come to rural Arkansas to go hunting, a pastime many Mexicans find distasteful.
But such awkward moments grew fewer after June 1999, when new Wal-Mart International Chief Executive John Menzer gave local operations more autonomy. Mexican employees who initially groaned at reciting Wal-Mart's obligatory morning cheer ("Give me a W...") let it rip after Mr. Menzer approved a local alternative ("Chee-kee-tee-boom-a-la-beem-boom-bah, Wal-Mart, Wal-Mart, rah-rah-rah").
Initially, Wal-Mart faced some logisitical nightmares in Mexico, but it ultimately found an ally in local trucking company Transportes EASO SA. The country's ramshackle roads made delivery schedules dicey. But Nafta encouraged Mexico to invest in improving its transportation infrastructure. And it inspired EASO to ally with MS Carriers Corp. of Memphis, Tenn., which agreed to share a fleet of modern trucks with EASO as well as satellite systems designed to help plan delivery times. That helped EASO cut costs by 25%, savings it passed on to Wal-Mart, which now employs 200 EASO trucks.
Wal-Mart also took advantage of Mexico's cheap labor to hold down costs. It replaced the robots used in U.S. distribution centers with Mexicans earning $5 a day. As a result, Wal-Mart's Mexico City distribution center is the company's most efficient one anywhere in the world, its officials say.
By 1999, Wal-Mart Mexico had lowered its costs enough to toy with the idea of passing those savings on to shoppers in a more systematic way. That August, it closed a single Supercenter in central Mexico for a day to mark down prices there by as much as 14% on 6,000 items. The experiment was such a success that every Supercenter in the country cut prices by a similar amount a month or so later. Other Mexican Wal-Mart stores followed suit by March 2000.
Wal-Mart's enormous buying power has kept it a leap ahead of Mexican competitors who are likewise seeking to cash in on shrinking tariffs. Because Wal-Mart consolidates its orders for all the goods it sells outside the U.S., it can wring deeper discounts from suppliers than can its smaller local competitors. "I buy 20,000 plastic toys, and Wal-Mart buys 20 million. Who do you think gets them cheaper?" asks Francisco Martinez, chief financial officer of Comercial Mexicana SA, Wal-Mart's biggest Mexican rival.
Wal-Mart Mexico has repeatedly exploited Nafta and other economic forces to trigger price wars. For example, rather than pocket the windfall that resulted when tariffs on Lasko brand floor fans steadily fell from 20% in 1993 to 2% today, Sam's Club executive Jose Luis Laparte ordered price cuts equal to the tariff reductions. And when currency fluctuations earlier this year made Sportsman's Choice, Wal-Mart's private dog-food brand, cheaper in peso terms, Mr. Laparte slashed the product's price.
Such aggressive tactics, unorthodox by local standards, have set off near panic among Mexico's mostly family-run retail chains, whose cost structures make it impossible for them to compete on Wal-Mart's terms. "In the long run, the rest of us will have to merge with local or foreign partners to keep up," says Comercial Mexicana's Mr. Martínez.
Investors seem to agree. Wal-Mart Mexico has a local stock-market value of more than $11 billion, nearly triple that of its top three rivals combined.
Behind much of Wal-Mart's recent success are Mexico's increasingly cost-conscious consumers. The greater economic security that Nafta has brought the country has helped tame Mexico's once-fierce inflation. The resulting price stability has made it easier for Mexicans to recognize a bargain when they see one.
To persuade wary Mexicans that its prices are hard to beat, Wal-Mart does a lot of shopping of its own and posts signs on its shelves comparing its prices with competitors'. Wal-Mart's role as price hawk seems to be playing well here. In the first half of the year, sales at Wal-Mart's Mexican stores that had been open a year or more rose 5.6% while most competitors' sales fell slightly.
'Like Shopping in the U.S.'
Another big drawing point for local consumers: "It's like shopping in the U.S. -- until you get back out to the parking lot," says Mexican army Sgt. Jose Sanchez as he pushes a cart around a Wal-Mart Supercenter in Mexico City.
To a growing number of Mexicans, Wal-Mart stores, with their clean, brightly lit interiors, orderly, well-stocked aisles and consistent pricing policies, are a relief from the chaotic atmosphere that prevails in many Mexican stores. Instead of hiring mariachi bands to trumpet each sale or using miniskirt-clad saleswomen to attract customers, as do some of its rivals here, Wal-Mart lets its prices speak for themselves.
Nor do most Mexicans seem to resent the company's gringo roots. "Why should I care where they're from?" asks Luis de Anda, a 31-year-old plumber who visits Sam's once a month to stock up on staples such as diapers and toilet paper for himself and his entire apartment building. "With the money I save, I take my family to the movies," he says.
Wal-Mart hopes to win hearts and minds elsewhere as its U.S. growth slows. The company's Mr. Menzer says the success of Wal-Mart Mexico's Bodegas stores -- a low-price, no-frills and limited-choice chain of neighborhood-based warehouse outlets designed for the lowest-income customers -- has inspired Wal-Mart to open a Brazilian clone called Todo Dia. It may also test that format in the U.S. Wal-Mart executives from China are also scouring the Mexican operations for ideas.