The Subprime Crisis Ate My Quarter

Wal-Mart, Other Discount Retailers Cite Credit Crunch in Disappointing Results

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BATAVIA ( -- Wal-mart sure picked a bad time to refocus on the low-income consumer.

The retailer reversed its strategy to chase middle- and high-income shoppers early this year and went back to its "everyday low prices" roots. But it likely didn't count on the sub-prime mortgage mess that is hitting its primary customers squarely in their threadbare wallets.
Wal-Mart CEO Lee Scott
Wal-Mart CEO Lee Scott Credit: Thos Robinson

Lower-income consumers, with little discretionary spending power to begin with, also have had to pay higher gas and food prices. Even if they haven't defaulted, many face rising adjustable rates on home loans.

"It's no secret that many customers are running out of money toward the end of the month," Wal-Mart CEO Lee Scott said on an Aug. 14 analyst call. Wal-Mart's sales decline the last week of each month, due to the paycheck cycle, "is in fact more pronounced now than it ever has been," he said.

Economic pressures
Ali Dibadj, an analyst with Sanford C. Bernstein who covers household and personal-care marketers and worked with Wal-Mart Stores while a McKinsey & Co. consultant, believes the subprime collapse is a growing short-term factor not just for Wal-Mart but for many of its suppliers and competitors.

"You look at a Clorox, a Colgate or a Procter & Gamble -- they've survived by trading people up," he said. "That ability is certainly limited when there's a strain on the customer they're trading up, which is not the high-end elite. I don't think it's going to be an impact a year from now, but for the next six months, it's going to be really iffy."

Economic pressures on lower-income consumers -- particularly gas prices -- have been a frequent refrain for Wal-Mart Stores executives explaining their sluggish sales growth in the past year. Those pressures even became the basis for much of the first wave of ads from the retailer's new ad agency, Interpublic Group of Cos.' Martin Agency, Richmond, Va.

The theory has been easy to dismiss, as rivals such as Target, Costco, Walgreens and CVS have posted much better top-line growth in recent quarters.

Disappointing July sales
But now it's getting easier to believe, in part because Family Dollar Stores -- one of Wal-Mart's most direct competitors for lower-income consumers -- also reported disappointing July sales results last week. And Home Depot, one of Wal-Mart's bigger rivals, also cited the subprime-mortgage meltdown for its sales woes. It was down 2% last quarter, with comparable-store sales down 5.2%.

"The issues around the subprime market continue to intensify," Home Depot Chairman-CEO Frank Blake said on a conference call Aug. 14, noting that lending to riskier subprime borrowers accounted for 24% of the dollar volume in mortgages last year.
Home Depot Chairman-CEO Frank Blake
Home Depot Chairman-CEO Frank Blake Credit: John Bazemore

The collapse of that market has led to the first decline in the rate of new-household formation in more than a decade. That obviously hurts Home Depot -- where some builders buy their goods -- but also a wide array of other marketers and retailers, including Wal-Mart; housewares is one of its weakest areas.

Short-term solution
Wal-Mart used to benefit from tough times, as consumers turned thriftier and shopped there to stretch their dollars. Its sales soared through the past two recessions. But that doesn't appear to be happening now. Wal-Mart has sharpened its focus on its core and disproportionately lower-income consumers just as they've been hurting most, while shoppers at chains such as Target and Costco -- still substantially outgrowing Wal-Mart -- don't appear to be hurting enough yet to switch.

But dealing on price may be the short-term solution to what marketers hope is a short-term problem. A.G. Lafley, chairman-CEO of Wal-Mart's biggest supplier, P&G, noted on the company's Aug. 3 conference call that a stronger June helped offset a weaker April and May for the company in the U.S.

One reason may be that ACNielsen data reported by Bernstein show the percentage of products P&G sold on promotion for the four weeks ended July 14 was up 93% vs. the same period last year. Promotion intensity by P&G and some key competitors has been steadily rising since March after steadily declining for a year, according to that data.
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