I know google answer doesn't do homework, but I am basically asking
for an educated opinion. I work at IKEA Netherlands and am giving a
presentation to students from the Rotterdam School of Management. As
homework before the presentation I gave the students the following
case. Now I am in an argument with the Professor of Retail Operations
about the correct answer. Below I give both our answers.

$5 extra if I get an answer before 12 pm tuesday evening.

This a true story told by Phil Green, an early Wal-Mart store manager about
one of his promotions in the early 1960's:

"Mr. Sam (Walton) usually let me do whatever I wanted on those promotions
because he figured I wasn't going to screw it up, but I had one that
scared them up in Bentonville (Wal-Mart head office) too. This guy
from Murray of Ohio called one day and said he had 200 Murray 8
horsepower riding lawnmowers available at the end of the season, and
he could let us have them for $175,-. Did we want any?
And I said, 'Yeah, I'll take 200." And he said, 'Two hundred!?'
We'd been selling them for $447, I think. So when they came in we
unpacked every one of them and lined them all up out in front of the
store, twentyfive in a row, eight rows deep. Ran a chain through them
and put a big sign up that said:
'8 h.p. Murray Tractors, $199,-' Sold everyone of them. I guess I was
always a promoter, and being an early Wal-Mart manager was as good a
place to promote as there ever was."

This is the profit & loss statement for Phil's store at the end of that year:						
						
	With promotion					
Sales 	            $400.000	100%				
Sales tax           $8.000	2%				
Net sales	    $392.000	98%				
Cost of goods sold  $280.000	70%				
Gross profit	    $112.000	28%				
Store costs (SG&A)  $104.000	26%				
Operational result  $8.000	2%				
						
Normal Wal-Mart profit margin 30%						
						
						
Question: Was Phil Green's promotion good for the store's results?						
1 In the short term? Why?						
2 In the long term? Why?

Answer 1> Bad and bad. Short term: too risky the margin on the mowers
is so low you can't mark them down if something went wrong and the
space was taken up that could have been used for other things with
higher margins.
Lomg term: You are cannibalizing on your future sales of 447$
lawnmowers. You won't be able to sell them or others things profitably
in the future.

Answer 2: Good and Good. Short term: Costs of selling the lawnmowers
and the normal sales and margins are missing. But if you make
assumptions like: cost of selling is 5$ a mower and normally you sell
12 mowers a year at a 30% markup (the old standard Wal-Mart markup)
then about 1/4 of the years profit is from that single transaction.
Long term: Great, enthusiastic customers will keep coming back for
other deals and products.

Ansgarjohn --

What a great question because there is no single 'correct' answer. 
I'd love to be in the class when the debate gets going and you and the
professor get the class to split its opinions in two halves.

There are some relevant questions for both you and the professor, including:
?	What portion of the store costs are fixed -- and what portion are variable?
?	Were there any incremental costs for this promotion -- in dedicated
personnel or advertising?
?	What was the per-customer purchase amount for those who bought tractors?  
(Expressed another way: were there incremental sales in gas cans;
carts; fertilizer; etc.?)
?	Were those who bought tractors new customers or existing customers?
?	Did store traffic increase markedly during the promotion?
?	Did the sales cannibalize future sales -- or simply bring in new
customers from other outlets?
?	What was the confidence level that the tractors could be sold within 2 weeks?
?	What was the cost of money at the time -- and what would it cost you
to hold them for 60-90 days?
?	What was plan B if you couldn't move them all?
?	What were Murray Ohio's payment terms?
?	What were Murray Ohio's return privileges?

One can argue either side of this case.  The tractor promotion
obviously looks like this -- and I'll use English/American numeric
abbreviation:

Sales: $40,596 (102%)
Sales tax: $796 (2%)
Net sales: $39,800 (100%)
COGS: $35,000 (87.9%)
Gross profit: $4,800 (12.1%)
Store costs @26%: $7,748 
Operating loss: ($2,948)

Here are my Answer 1 and Answer 2:

BAD AND BAD: I understand full well why Bentonville was concerned:
failure to sell as few as 20 of the mowers could have wiped out
profit.  It would tie up $3,500 in cash -- and remember that you've
only made $4,800 if you sell them all!  It would require the store
manager to spend undue time selling the balance; require more store
resources; expose Wal-Mart to carrying costs which probably run $3.50
to $4 per month.

And if you already have significant market share for riding lawnmowers
in the area, all that's happening is that you're stealing from next
year's sales.  It may be a one-time opportunity due to conditions at
Murray Ohio but customers will expect that price point in the future.

Not to mention what would have happened if all Wal-Mart stores ran
similar promotions during the quarter.  Analysts would have severely
questioned a company with such poor operational control that its gross
margins went from 30% to 28.4% because of pricing discretion given
store managers.

GOOD AND GOOD: Look at the numbers -- you've increased store-level
profitability by 60% with one promotion!  And my guess is that when
you look at TOTAL impact on the store, you'll see the following:
?	significant accessory purchases with the lawnmower sales
?	significant boost in overall store traffic (a good reason to have
the greeters at the Wal-Mart: so you know how many sales you converted
among the feet that cross the threshold)
?	significant boost in unrelated sales
?	dramatic increase in local mower market share
?	significant number of first-time customers

And what's the first thing that they teach at most business schools? 
"Ignore sunk costs," like the 26% in SG&A.  This store manager didn't
even have to take up retail floor space or keep the tractors warm:
they were sold from the entryway!

And, in the long-term that the store manager was presaging (by 30
years) the lower margin, high-volume models of Sam's Club and Costco:
Fortune Magazine
"The Only Company Wal-Mart Fears" (Helyar, Nov. 10, 2003)
http://www.fortune.com/fortune/investing/articles/0,15114,538834,00.html


SOME SUGGESTIONS
-------------------------------

You and the professor can have tons of fun with this one: I might even
ask the class to profile itself beforehand on a scale of 1-10 for
where each person sits in terms of being:
1.  entrepreneurial 
2.  risk tolerance

Then, at the conclusion of the debate over this issue, I'd ask them:
"What one additional thing would you want to know before making the
decision as a store manager?"  (For me it would be: what's the
certainty of selling 200 riding mowers in less than 2 weeks?)

And, I'd be very curious to know what an IKEA store manager in the
Netherlands would do, given his company's orientation?

It's unusual to answer a question with so many questions.  But this is
one special case.

Best regards,

Omnivorous-GA

---

Clarification of Answer by omnivorous-ga on 20 Apr 2004 06:08 PDT

Ansgarjohn --

Thanks for your kind comments (and the extra sum).  The heart-shaped
pillow example is a stunning example of the impact of local
management's ability to build a customer base.  I don't think of
IKEA's warehouse stores as a place to shop for Valentine's Day.  The
"Ingmar" ads that IKEA runs here in the U.S. emphasize the stores as a
furniture source.  But a successful Valentine promotion like that one
could change attitudes entirely!

Some other comments or notes for you:
*  Wal-Mart has long used retirement-age people as 'greeters' in its
stores.  It set the tone for a change in retail attitude in the U.S.
that instructs employees, "if a customer passes within 2 meters of
you, speak to them or ask if you can help."  It has made a difference
in service attitudes here (though sometimes in laughable ways that
would take me far off the subject).

But the real operational reason those people were put there is in
their hands: they have counters or 'clickers' in their hands that
count the number of shoppers who enter the store.  Costco does the
same thing -- though in Costco's case they count shopping 'units' that
enter the store.  (If I go with my spouse, we're one purchasing unit.)
 It's an effective way of judging total traffic vs. purchases.

*  I realized when I awoke this morning that I'd actually
underestimated the damage that the promotion did to gross margins
because public companies report them on a quarterly basis.  So for
this quarter, the store's numbers would be:

PRE-PROMOTION:
Sales: $100,000
Gross profit: $28,000 (28%)
SG&A: $26,000 
Net: $2,000

PROMOTION IMPACT
Sales: $139,800
Gross profit: $32,800 (23.5%)
SG&A: $26,000
Net: $6,800

Knowing how closely securities analysts watch key numbers, this would
be an interesting quarterly report.  They'd love the "one time" profit
numbers -- but would ROAST any retail management that saw a drop in
gross margins of 4.5%.  I think the adjective they'd use would be
"unsustainable."

Good luck with the class!

Best regards,

Omnivorous-GA

Living in a country where we don't have a Wal-Mart, Tesco or Costco
YET, it is great to get your perspective and AHT's. What I really like
about Omnivorous is that he/she calculates the answers, instead of
just talking about it in an abstract way like the business students
tend to do. Above and beyond expectations. Especially liked the per
customer purchase amount question. We all had forgotten about that
one.

The IKEA standpoint: shop in shop managers (there are about 10-15 per
store) have to work with their intuition and take bold risks. This
example was given in a newsletter 2 months ago. A shopmanager who
sells 4 or 5 heartshaped pillows a week and thinks before Valentine's
day, "I could sell them fantastically at the entrance of the store if
I pile up 3 000 of them" Should go ahead and order them if he feels
that it will be commercial, intuition/experience is the key. (You
can't return anything to the distribution center.) Ingvar Kamprad, the
founder, says: "Only people who are asleep don't make mistakes."

As usual, a great answer (a thought-provoking one, too) from omnivorous-ga!

Some additional thoughts for the class to ponder, on the "good, good" side:

- even in the 1960's, Wal-Mart dominated many of the markets that they
were present in (just less so than today's situation). Therefore, the
local expert on market size and elasticity was arguably the local
Wal-Mart store manager. What we do not know from the description, is
how many of these tractors were sold in a normal year (inclusive of
normal promotions). Therefore, we cannot say what the impact of this
promotion is on future sales, only that it has the potential to reduce
future sales by up to 200 units, over an indeterminate number of
years.

- the price differential between the 'normal' price of $447 and the
special promotion price of $199 is 55.5% of the regular price. This
$248 difference means that the tractors have now become attainable by
wide swaths of the local market who previously (and in the future)
would not be able to afford an 8 hp tractor at the normal price or
even at a normal promotional price. Again, assuming that the local
Wal-Mart store manager is an expert on the local market, it is highly
likely that Phil Green had the 'gut feel' that introducing this
otherwise unattainable machine to this section of the market would
have a domino effect on sales of accessories, parts, and service (as
omnivorous mentioned), to a scale that could not have been achieved
through natural growth of the local market for the tractors.

- another point to consider, again related to the local Wal-Mart store
manager's 'expertise' on local market dynamics, is that a promotion
such as this has the potential to temporarily increase the market
footprint, by drawing in customers who hear about the promotion from
outside of the normal area that the store draws its business from. In
the 60's, and even today, Wal-Mart does not have complete coverage
over the entire US market. So, if a promotion of this magnitude draws
even a handful of interested buyers from beyond the normal footprint,
and introduces the benefits and advantages of shopping at Wal-Mart to
those buyers, then he has just increased his market size for the
long-term.

The primary "bad, bad" reasons are very much to do with negatively
setting expectations in the local market, and pulling future sales
forward. We really cannot properly back up these reasons (or analyze
them) without understanding Wal-Mart's market position for 8 HP
tractors in the local area, the trend of that position, the strength
of competitors, and the 'shelf life' of the tractors (were they like
cars, where they change designs every model year?). There are too many
influences on when individual customers will buy their first tractor,
and replace their existing tractor, to second-guess the store manager
(and their local knowledge).

aht-ga
Google Answers Researcher