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Wal-Mart Charts New Course

Wal-Mart's shakeup in U.S. leadership marks move back to basics.

One of Wal-Mart’s smaller-format Neighborhood Market stores.

It’s hard to nudge an 800-pound gorilla in a different direction, but Wal-Mart U.S. appears to be doing just that.

With same-store sales declining for the last four consecutive quarters and traffic decreasing, Wal-Mart needs to develop — and execute — new retail concepts if it is to grow beyond the rural and exurban markets that it has almost saturated in the U.S.

To be sure, chasing trendy fashion isn’t in the cards for a chain whose apparel business is a chronic underachiever. When vice chairman Eduardo Castro-Wright relinquished his job as chief executive officer of Wal-Mart U.S. on June 29, he set in motion a management shake-up that will bring fundamental and cultural changes to the $400 billion retailer. Bill Simon, who succeeds Castro-Wright, seems to share the belief of Wal-Mart Stores Inc. ceo Mike Duke that the world’s largest retailer should return its focus to core competencies — moving enormous quantities of goods around the world as cheaply and efficiently as possible, rather than the more creative and style-driven marketing and merchandising.

“The new ceo [Duke] is directing the company more toward logistics and operations and not marketing,” said Bill Dreher, a retail analyst at Deutsche Bank.

Castro-Wright, who retains the vice chairman title, became president and ceo of global.com and global sourcing, allowing him to relocate to California, where his wife is recuperating from a heart transplant. He has been described as an innovative thinker and was the architect of the store remodeling initiative Project Impact and its transformational merchandising and marketing programs.

Simon, the U.S. division’s former chief operating officer, is a strategist with experience in global business development and facilities management. He was responsible for running the 3,700 domestic stores and overseeing 1.3 million associates, and helped develop and launch the $4 prescription program.

“Wal-Mart is heading into a consumables focus,” said Deborah Weinswig, broadlines analyst at Citi. “They need to get their store visits up. They’re getting the grocery visit, but they’re not getting the apparel visit. They need a better balance between [food and grocery] and apparel and home because that’s where you’re going to get your margins. There’s amazing competition from supermarket and dollar stores. The competition is insane and Wal-Mart can’t compete on food prices.”

Weinswig believes Wal-Mart has significant opportunity in apparel — indeed, it has nowhere to go but up. However, Wal-Mart’s apparel objectives remain unclear, especially given the news that apparel general manager Dottie Mattison will now share her duties with Lisa Rhodes, who was recently hired as senior vice president and reported to Mattison.

Castro-Wright recently said there is still room for growth in the domestic business. By entering urban markets, which are underpenetrated with smaller stores, Castro-Wright predicted that Wal-Mart could add $80 billion to $100 billion in U.S. sales. The smaller store formats generally focus on food and grocery, reducing space for apparel, home and large bulky items.

But Sandy Skrovan, senior vice president of the Kantar Retail consultancy, said Wal-Mart “needs to get the shopper who’s buying groceries to pick up some higher-margin merchandise,” such as apparel. More than half the space in Wal-Mart’s 75,000-square-foot to 100,000-square-foot “high-productivity” units, including one opening in Torrance, Calif., is devoted to food and groceries. Signage directs shoppers to kiosks where products the store doesn’t carry — such as sporting goods — can be ordered from the Web site, which offers site-to-store service.

In addition, a new 20,000-square-foot Neighborhood Market by Wal-Mart concept is being tested in the company’s hometown of Bentonville, Ark. Wal-Mart’s U.K.-based ASDA recently bought the Netto chain, which it plans to convert to smaller-format supermarkets by next year. The Netto stores could be a model for urban units in the U.S.

“Wal-Mart’s grocery business has been under siege by virtually every other retailer,” Skrovan said. “Our ShopperScape [survey] found that conventional supermarkets like Kroger picked up shopper share by quite a bit in the past year. They’ve been investing a lot in very aggressive pricing. Bargain grocery chains Aldi and Save-a-Lot offer extreme value with no frills and prices that are as good or better than Wal-Mart’s. The dollar stores have been getting more and more into food, and shoppers have been responding.”

Target’s P-Fresh expanded grocery selection, although in just 350 of Target’s stores, seems to be accepted by consumers. “While shoppers are in Target looking at apparel and home products, they pick up a carton of milk and a dozen eggs,” Skrovan said. “It’s another point of pain for Wal-Mart to consider Target.”

Some of Wal-Mart’s problems in food and grocery are self-inflicted. For example, overzealous sku rationalization, where the company eliminated about 300 brands to make room on its shelves, partly for private label, didn’t have the intended effect. Consumers complained about the missing brands and rather than buy the other things on their shopping lists, went elsewhere. John Fleming, executive vice president and chief merchandising officer of Wal-Mart U.S., who took the rap for the sku debacle, resigned after Simon’s appointment.

“I’m sure John [Fleming] felt he was the guy who should have been the logical successor to Eduardo [Castro-Wright],” said a source close to the company. “John probably made the decision to leave because he thought he should be the heir apparent.”

The challenges facing Fleming, who could not be reached for comment, had been getting more difficult. Some of the wealthier consumers Wal-Mart gained during the height of the recession have returned to their favorite shopping venues. The company doesn’t seem all that interested in wooing upscale shoppers with designer names, and Duke doesn’t appear to have much patience for trying yet again to fix the perennially broken apparel business.

“Mike Duke has spoken about how Wal-Mart has no credibility in apparel and how it doesn’t drive customer traffic,” Deutsche Bank’s Dreher said.

Duke’s straightforward approach differs from that of his predecessor, H. Lee Scott Jr., who ventured into trendy territory with introductions such as Metro 7, which was radically scaled back, and the now-discontinued George ME.

Fleming was responsible for Wal-Mart opening a design office in Manhattan, staging fashion shows and running ads in Vogue — moves that were out of character. Scott may have shared some of Fleming’s enthusiasm for bringing style to Wal-Mart, but once the recession hit, the retailer’s cash-strapped customers could only afford to buy necessities.

“Wal-Mart benefited from the recession when consumers were only buying what they could eat and drink,” Dreher said.

Now a bit of financial pressure is easing for some shoppers who traded down, and they are taking their discretionary money elsewhere because “Wal-Mart doesn’t have the brands,” Dreher said.

“Lee Scott brought Fleming in from Target and was focused on trying to improve Wal-Mart’s discretionary merchandise mix,” Dreher said. “Duke is not a merchant, he’s a former engineer. He’s looking at the numbers and distribution side and seeing that apparel doesn’t drive traffic and has been flat through the recession. Duke is fulfilling his vision, but he never gave the memo to John Fleming that they don’t really count on that skill set anymore. If Duke was more of a merchant, maybe Fleming would have had a better chance.”

As Wal-Mart searches for Fleming’s replacement, his duties will be split between Jack Sinclair and John Westling, who oversee Wal-Mart grocery and procurement, respectively.

Wal-Mart in February tried to merge merchandising and operations in an unusual move for retail management. Critics said that chain of command was strange from a cultural perspective, especially with Andy Barron, senior vice president of store merchandising execution, reporting to both Fleming and Simon.

While continuing to iron out its management slate, Wal-Mart remains hampered by local opposition in key U.S. markets. The retailer scored a major victory last month in Chicago, where the city council approved plans for a 150,000-square-foot unit in the Pullman neighborhood on the South Side. Emboldened by its victory, Wal-Mart is said to be eyeing a site on 83rd and Stewart at the Chatham Market area, a short distance from the Pullman Supercenter. The council could vote on the plan as soon July 28. Wal-Mart is also believed to be looking at locations on 47th and State, 63rd and State and 63rd and Halsted. The retailer opened its first Chicago store, on the West Side, in 2006, and believes it can launch 20 more.

“Domestically, we operate a pretty wide range of formats, but on the international side, there’s more than 50 different formats,” said Steve Restivo, a Wal-Mart spokesman. “When you look at commercial vacancy rates, there’s all different sizes and formats. We would consider moving into an existing store. That is specific to Chicago. We’re looking across all five [New York City] boroughs for an ‘as of right’ site” that doesn’t require governmental approval.

Finding developers willing to work with Wal-Mart may be difficult in New York, where the retailer has no stores and has run into strong opposition from elected officials, labor unions and local community boards. In 2005, Vornado dropped Wal-Mart from consideration for a center it was building in Rego Park, Queens. Wal-Mart may now be looking to open a store at the Gateway II shopping center near Jamaica Bay in Brooklyn. Gateway II’s developer, Related Cos., could not be reached for comment.

In Dallas, however, Wal-Mart is flexing its muscles. “We’ve heard that they’re poking around again,” said Wyatt Russo, senior vice president of brokerage at The Retail Connection in Dallas. “They’re testing out more concepts.”

Wal-Mart operates a neighborhood Market unit on North Central Expressway and a Supercenter on North Cockrell Hill Road.

The retailer is also said to be considering a site in Washington, on New York Avenue NE, near Bladensburg Road. The location is privately owned and would probably not need zoning changes or approvals.