Wal-Mart has unbelievably low cost structure due to its efficient and excellent management techniques and cost minimization processes. The fixed costs are those costs that do not change with the output and remain constant whether the output or sale is very large or zero. If we look at Wal-Mart’s fixed costs, we can clearly see that the fixed costs that Wal-Mart face are the rent of buildings on which Wal-Mart operates, lightning and heating cost, support staff salaries and costs like that of security, guards and lease on computers, machinery and computer software, and the cost of advertising.
Since these costs remain fixed, the per-unit cost drops as the output increases. This is really important therefore for Wal-Mart to sell in bulk so as to minimize the effect of these costs by making very large sales. Similarly, Variable costs are those costs that vary proportionately with the output and keep on changing as the output or sales of Wal-Mart increase of decrease. These costs include the cost of supplies, handling cost of supplies, ordering costs and some labor costs such sales commission.
Since these costs vary with output, they are not the overheads and may decrease when the output or sales is very large due to economies of scales which normally occur when the goods are sold on a large scale. Average costs in the very short-run are related to the changes in fixed costs but later when output is very large the changes in average costs are associated with the changes in variable cost. As a result average costs decline faster than total cost and after reaching a minimum they start to rise with any increased production due to diseconomies of scale.
Wal-Mart also experiences the same structure. By selling very large levels of output they are reducing their fixed costs until a time comes when these costs do not affect the total average cost much. As a result most of the pricing decision of Wal-Mart is based on average variable costs due to large amount of output the company sells. The price elasticity of input is very high for Wal-Mart because there are too many suppliers available in the market. As a result of this, Wal-Mart commands the lowest level of price for these inputs and hence its input prices are very elastic.
As a result, Wal-Mart faces low variable costs from suppliers. Similarly, labor is another input that Wal-Mart uses and due to high employment level in USA, Wal-Mart has some difficulty in attracting right workers for the job opening. As a result, Wal-Mart demand for inputs in this case is very inelastic and they sometimes face high costs in order to attract skilled workers for their jobs.
Similarly, since Wal-Mart provide the lowest cost to the consumer its supply curve is inelastic and it therefore charges a price at which it is willing to sell its goods and no consumer can force it to change its prices. Short-run is period of time till Wal-Mart does not have increase its fixed factors like land to increase the sales. For Wal-Mart, this period may be up to few months or few years according to economic conditions. In recession, the period of short-run extends, whereas in booming conditions the period shortens.
Wal-Mart can therefore control its fixed costs as long as it is in short-run and at the beginning of a long-run, its average costs may raise by a large amount. Wal-Mart can operate on loss in short-run as long as it covering its average variable costs. The three year data shows that the fixed costs amount to around 10% of the firm’s total cost and 90% were variable costs. The cost structure remained the same overtime and it is evident that the firm was able to adjust its resources during recession to achieve this. References: Wal-Mart’s Annual Reports.
(2007, 2008, 2009). Published by the Company Harold Randall. (1994). Accounting. Lett’s Educational