Another increase is inevitable. The federal minimum wage for non-exempt employees has stood at $7.25 since July of 2009. In his 2014 State of the Union message, President Obama called for a boost to $10.10 per hour. Then, through executive order, he proceeded to impose that rate on all employees working under federal service contracts.
The rate is already higher than the federal benchmark in 23 states and the District of Columbia – as much as $9.50 in D.C., $9.32 in the state of Washington, $9.10 in Oregon and $9.00 in California. Some cities are higher yet, with Seattle’s City Council voting recently to jack up their minimum wage to $15.00, highest in the nation to date.
The trend everywhere is upward, and retailers have to adjust. But some will be able to absorb the increase better than others.
In fact, some will feel a great deal of pain. A big retailer such as Wal-Mart Stores Inc., which pays as little as $7 an hour to a sales associate, stocker or cashier, could sustain an increase in total worker expense of 30 percent or more. The change will send a “shock” through the company’s cost structure, says industry analyst Deniz Caglar, a principal with Strategy& (formerly Booz & Co., and now part of PricewaterhouseCoopers LLP).
Low-paying retailers spend between 8 and 15 percent of total store revenue on labor, says Caglar. A higher minimum wage will raise that expense by 1.5 to 3 percent points – a tough pill to swallow, given that many retailers eke out profit margins of just 3 to 4 percent.
A wage hike of that size, Caglar says, “would set up serious hurdles for their overall profitability and force them to seek dramatic responses.”
What kind, exactly? The biggest retailers have four major “levers” to pull, to minimize the impact on profits. Their first and most obvious move is to raise prices. It’s also the least likely to help.
Over the years, Walmart and other discounters have trained the consumer to focus on the lowest available price. Now they’re reaping the consequences of their aggressive marketing strategy. They can only go so far in upping prices before losing business to their rivals, Caglar says. And if Walmart, with its huge financial resources and dominant market position, chooses not to go that route at all, then others will have precious little room to maneuver.
“Walmart will take a harder look at its pricing – optimize and tweak here and there – but don’t expect a wholesale price increase,” says Caglar. “It’s a competitive market.”
Even the most aggressive discounter bases its merchandising strategy on more than just price, however. A second lever is to increase the retailer’s reliance on higher-margin private brands, while dialing down the product choices available to consumers. Here again, a store faces the risk of losing shoppers who miss seeing their favorite brands on the shelf. But does anyone really believe that there’s no opportunity to cut down on product variety? Over the past decade or so, we’ve seen an explosion of SKU variations for popular branded products, to the point where consumers can’t intelligently choose among them. No one would miss half the variations of toothpaste, laundry detergent or sandwich cookies that cram grocery shelves today.
One caveat: despite their substantial buying clout, retailers that slash traditional SKUs will have to be careful not to alienate key suppliers of branded product. Often they provide much-needed funding of the promotions that drive many shoppers to the store in the first place. “It is always a delicate balance,” says Caglar.
With the third lever, the impact falls squarely on the backs of store employees. Retailers will likely attempt to offset the impact of higher wages by cutting back on hiring, while increasing their dependence on part-time or outsourced labor. The move has the potential to save huge amounts in the form of reduced benefits (for example, forcing employees to obtain their own health insurance) and higher worker productivity. So much for creating a better working environment for full-time employees.
At the same time, retailers can reduce store hours, with an emphasis on serving shoppers at the busiest times of the day. As with the issue of SKU variety, however, they must be careful not to overdo it. Self-“service” has its obvious limitations, and locked doors have the tendency to anger valued customers, even in the off-hours.
Caglar considers those first three levers to be “low-hanging” fruit. A fourth and possibly more productive option lies in cutting costs in ways that aren’t so visible to the consumer.
Now it’s the supplier that feels the pain. Big retailers routinely ask vendors for help in reducing their cost base. Often that will amount to a demand for across-the-board price cuts. Or it can be more of a collaborative effort, with retailer and supplier jointly seeking ways to eliminate waste from their supply chains. Expect to see a lot more such “requests” from retailers.
In addition, stores can shed pricey real estate, shift to renting space, slash procurement costs for materials that don’t end up on the shelf, and cut other administrative expenses. “They have to look across the whole cost base to see what’s important to them,” says Caglar. “It’s going to come back to affordability – to staying alive.”
Not every merchandiser will be equally affected by an increase in city, state or federal minimum wages. Retailers such as Costco Wholesale Corp., Trader Joe’s and Whole Foods Market have built their business cases around more than low prices. Caglar says they already pay their employees more than $10.10 an hour on average. They stress service and a broad array of specialty products as a means of luring shoppers into their stores. And they have low employee turnover rates, which means less money spent on hiring and training.
Perhaps those merchandisers that based their business models on rock-bottom pricing, made possible by paying workers less than a living wage, needed to change their approach anyway. But the time for a philosophical discussion has passed. One way or another, they’re going to have to confront the reality of a costlier payroll.