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The Science of Hitting
The Science of Hitting
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Sam Walton's Rules for Business Success

January 07, 2014 | About:

Thinking about how Wal-Mart (WMT) got from where it started to where it is today is a truly amazing story. From a single store opened just 50 years ago, the company has grew into a retail behemoth, taking down significantly larger competitors along the way. The company’s annual sales will likely pass a half trillion dollars next fiscal year – surpassing the annual GDP for all but 20 or so countries worldwide. Operating income in the current year is likely to eclipse $28 billion – more than 5x what Target (TGT) is likely to report in the same period.

Wal-Mart’s story includes many individuals, but none more so than Sam Walton; from his first Ben Franklin variety store in 1945 (more on this in a few minutes), Sam has proven his knack as a one of a kind merchandiser and businessman. In the conclusion of his autobiography, “Made in America,” Mr. Walton lays out his 10 rules for business success. Of the people that could put together a worthwhile list on this topic, Walton is undoubtedly among them. As such, I simply couldn’t pass up the opportunity to share this list; unfortunately for you, I couldn’t pass up the opportunity to include my commentary on a couple of points either. Hopefully you enjoy both:

“Sam’s Rules for Building a Business”

1. “Commit to your business. Believe in it more than anybody else. I think I overcame every single one of my personal shortcomings by the sheer passion I brought to my work. I don’t know if you’re born with this kind of passion, or if you can learn it. But I do know you need it. If you love your work, you'll be out there every day trying to do it the best you possibly can, and pretty soon everybody around will catch the passion from you – like a fever.”

I think Steve Jobs put it perfectly when he said the following during a commencement speech at Stanford in 2005: “If today were the last day of my life, would I want to do what I am about to do today? And whenever the answer has been "No" for too many days in a row, I know I need to change something.” I’ll put it this way: If your commitment to your passion ends every weekday at 5 p.m., you’re going to have a tough time competing with the Sams and Steves of the world.

2. Share your profits with all your associates, and treat them as partners. In turn, they will treat you as a partner, and together you will all perform beyond your wildest expectations. Remain a corporation and retain control if you like, but behave as a servant leader in a partnership. Encourage your associates to hold a stake in the company. Offer discounted stock, and grant them stock for their retirement. It’s the single best thing we ever did.

In the book (written in 1992), Walton mentioned that more than 80% of Wal-Mart associates owned common stock (either through profit sharing or on their own); employees who have held on over the ensuing two decades have earned a return of nearly 9% per annum before dividends (ahead of the S&P 500 and the DJIA), with their investment up nearly 500% over that time period according to Google Finance. I can think of few things that make more sense than having your employees have a financial interest in the success of your company, particularly in areas that they can influence; the company also offered direct rewards to store managers for exceeding profit targets, as well as shrink incentive plans that shared reductions in shrinkage with the associates. (It worked: By
Walton’s estimates at the time of his autobiography, Wal-Mart’s shrinkage percentage was about half the industry average.)

3. Motivate your partners. Money and ownership alone aren't enough. Constantly, day by day, think of new and more interesting ways to motivate and challenge your partners. Set high goals, encourage competition, and then keep score. Make bets with outrageous payoffs. If things get stale, cross-pollinate; have managers switch jobs with one another to stay challenged. Keep everybody guessing as to what your next trick is going to be. Don't become too predictable.

4. Communicate everything you possibly can to your partners. The more they know, the more they'll understand. The more they understand, the more they'll care. Once they care, there's no stopping them. If you don’t trust your associates to know what’s going on, they’ll know you don’t really consider them partners. Information is power, and the gains you get from empowering your associates more than offsets the risk of informing your competitors.

I would bet that this is a very, very difficult thing to do when you have 2.2 million employees, many of whom undoubtedly feel that they are nothing more than a cog in the machine. Communicating across a network of more than 11,000 stores is much easier said than done.

5. Appreciate everything your associates do for the business. A paycheck and a stock option will buy one kind of loyalty. But all of us like to be told how much somebody appreciates what we do for them. We like to hear it often, and especially when we have done something we’re really proud of. Nothing else can quite substitute for a few well-chosen, well-timed, sincere words of praise. They're absolutely free – and worth a fortune.

6. Celebrate your success. Find some humor in your failures. Don't take yourself so seriously. Loosen up, and everybody around you will loosen up. Have fun. Show enthusiasm – always. All of this is more important, and more fun, than you think, and it really fools competition. “Why should we take those cornballs at Wal-Mart seriously?”

A more appropriate word might be mistake rather than failure, but consider one of Sam’s early lessons: A few years after taking over a variety store in Newport, Ark., in 1945, Sam was hitting the cover off the ball – sales had more than tripled in five years despite a tough local competitor, and profits from the store were around $35,000 a year (comparable to more than $400,000 today). His location was not only the No. 1 Ben Franklin store in Arkansas, but in the whole six-state region that it was part of. The success, however, attracted some attention from the landlord – and Walton had neglected to put a clause in the lease that gave him the option to renew after the initial five year term. The landlord refused to renew the lease at any price, knowing that Walton had nowhere else in town to move; after five years of hard work, Walton was forced to sell the franchise and start all over again.

Here are Walton’s own words about that period: “It was the low point of my business life. I couldn’t believe it was happening to me. It really was a nightmare… [But] I’ve never been one to dwell on reserves, and I didn’t do so then… I didn’t dwell on the disappointment. The challenge at hand was simple enough to figure out: I had to pick myself up and get on with it, do it all over again, only even better this time.”

7. Listen to everyone in your company. And figure out ways to get them talking. The folks on the front lines – the ones who actually talk to the customers – are the only ones who really know what’s going on out there. You’d better find out what they know. To push responsibility down in your organization, and to force good ideas to bubble up within it, you must listen to what your associates are trying to tell you.

Lee Scott recalls in the book how Walton used to make his way to the front lines: “For a long, long time, Sam would show up regularly in the drivers’ break room at 4 am with a bunch of doughnuts and just sit there for a couple of hours talking with them. He grilled them [with questions]… It makes sense. The drivers see more stores every week than anybody else in the company… What Sam likes about them is that they’re not like a lot of managers. They don’t care who you are. They’ll tell you what they really think.”

Compare that to managers who abhor bad news, and avoid it at all costs. It’s no wonder that people like Sam Walton are successful – they learn from mistakes, can spot major trends as they are starting to take over (like discounting) because they use the eyes and ears of the organization to their advantage, and are willing to change rather than be steamrolled, no matter how successful a former approach may have been.

8. Exceed your customers’ expectations. If you do, they’ll come back over and over. Give them what they want — and a little more. Let them know you appreciate them. Make good on all your mistakes, and don't make excuses — apologize. Stand behind everything you do. The two most important words I ever wrote were on that first Wal-Mart sign: “Satisfaction Guaranteed”. They’re still up there, and then have made all the difference.

9. Control your expenses better than your competition. This is where you can always find the competitive advantage. For twenty-five years running – long before Wal-Mart was known as the nation’s largest retailer – we ranked number one in our industry for the lowest ratio of expenses to sales. You can make a lot of different mistakes and still recover if you run an efficient operation. Or you can be brilliant and still go out of business if you're too inefficient.

Wal-Mart didn’t start the race as the elephant in the room. In 1972, 10 years after Wal-Mart was founded and the first Kmart (SHLD) was opened, Kmart was doing $3 billion in annual sales across 500 stores, compared to $80 million for Wal-Mart across 50 stores. Despite Kmart’s size advantage over Wal-Mart, it could not operate as efficiently as its competitor: From comparable operating margins between the two competitors in the 1970s (5% to 7% range), Wal-Mart reported operating margins that were better than Kmart in every single year over the ensuing two decades. In the mid-1980s (from 1985 to 1987), Kmart was reporting purchasing costs as a percentage of sales at 65.6% – four percentage points below WMT (the COGS advantage as a whole is lower than this due to Wal-Mart’s ability to reduce logistics and shrinkage as a percentage of sales). However, its SG&A expense, at 24.7% of sales, was more than six percentage points higher than WMT – resulting in operating margins for Kmart that were roughly a third lower than Wal-Mart’s as a percentage of sales (per Bruce Greenwald’s “Competition Demystified”). On payroll, advertising and miscellaneous SG&A costs – things like corporate overhead – Walton was pulverizing his competitors.

That is simply astounding – especially after considering that Wal-Mart was still only one-tenth of Kmart’s size in 1980; it should’ve been (and was) at a procurement (COGS) disadvantage, yet more than made up for that shortcoming with lower SG&A expenses than its competitors (with local economies of scale playing a critical role). Twenty-two years later, when Kmart was filing for Chapter 11, Wal-Mart was reporting $6.5 billion in profits on more than $200 billion in sales. In the most recent fiscal year, WMT reported $17 billion in profits on $469 billion in sales.

10. Swim upstream. Go the other way. Ignore the conventional wisdom. If everybody else is doing it one way, there's a good chance you can find your niche by going in exactly the opposite direction. But be prepared for a lot of folks to wave you down and tell you you’re headed the wrong way. I guess in all my years, what I heard more often than anything else was: a town of less than 50,000 population cannot support a discount store for very long.

I’m all about ignoring the conventional wisdom.

About the author:

The Science of Hitting
I'm a value investor with a long-term focus. As it relates to portfolio construction, my goal is to make a small number of meaningful decisions a year. In the words of Charlie Munger, my preferred approach to investing is "patience followed by pretty aggressive conduct". I run a concentrated portfolio, with a handful of equities accounting for the majority of its value. In the eyes of a businessman, I believe this is sufficient diversification.

Rating: 4.8/5 (26 votes)



Arjun Chan
Arjun Chan - 3 years ago    Report SPAM

Good one Science!, One of the things I remember about expenses from the book is once when Sam was travelling out of town and he did not have any cash in his pocket and he borrowed $20 bill from a colleague. He was very frugal and tried to save the last penny that he could to pass it to the customer. Also the way he studied competitors by visiting their stores when on family vacations.

The Science of Hitting
The Science of Hitting - 3 years ago    Report SPAM

Thank you for the kind words Itzarjuna! As you note (and as the numbers show), Sam tried to save every last penny he could - and was pretty darn successful in doing so. Thanks for the comment!

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