Executive Insights

Volume XIX, Issue 16

Rising Labor Costs — and What Retailers Can Do About
Them
The grocery and broader retail industry is at aturning point. In recent years, retailers andgrocers have seen rapid evolution, thanks totrends such as consolidation, changing customer
preferences and competition from disruptive
innovators, chief among them Amazon. Meanwhile,
margins — always notoriously thin — have comeunder stress from rising labor costs.

The hourly wage landscape
How much stress? Take a look at the selling, general andadministrative (SGA) costs for 10 of the largest U.S. grocers. Notethat labor is the biggest component of total SGA costs andestimated at 14% of sales on average (see Figure 1). And labor’s
share is growing. The retail industry has many hourly workers —roughly 11 million in 2015, according to the U.S. Bureau of Labor
Statistics (BLS). Hourly earnings for nonsupervisory food andbeverage store employees have gone up about 1% every year
since 2010, with much of that growth coming from the 322,000
workers who earn minimum wage or less.

Figure 1
Selling, general and administrative expenses as a % of net sales (2015)
Percent
40
Labor is the biggest component of
SGA costs and estimated at 14%
of sales on average.

35
30

29

25

25

20

23
20

15

20

20

20
16

10

13

5

12

0
Whole
Foods
Operatingmargin: 5.6%

Safeway
1.5%

Village
Walmart*Supermarket
2.7%

5.0%

InglesMarkets

Publix3.7%

8.2%

Sprouts
Farmers
Market***3.6%

Kroger
3.3%

Smart Supervalu**
and Final
2.4%

2.6%

Note: *Fiscal year Jan. 31, 2015-2016; **Fiscal year Feb. 27, 2015-2016; ***Direct store expenses (all others are OG&A or SG&A)
Source: Company 10-Ks

Wage growth hasn’t comefrom the federal level.
Starting in 2005, the federal
minimum wage rose 41% until
it reached $7.25 an hour in2009. But there it has stayed,
as if frozen in time. Despite
calls from the Democratic Party
to raise it to $15, nothingis likely to happen with thefederal minimum wage under
the current administration.
Republicans in Congress havetended to oppose a hike, saying
it would harm small businesses
and eliminate jobs. Meanwhile,

Rising Labor Costs — and What Retailers Can Do About Them was written by Chris Randall and Rob Wilson,
Managing Directors in L.E.K. Consulting’s Consumer Products and Retail practice.
For more information, contact retail@lek.com.

Executive Insights
Figure 2
State-level minimum wage (2016, 2020)

President Trump has said that while he’d like to see
an increase, he’d prefer to leave it to the states.
States and localities have forged ahead on theirown. More than half of the states have raised theminimum wage since January 2014. Today, theminimum wage sits above the national level in 29
states plus the District of Columbia (see Figure 2).
And this trend shows few signs of abating. At the
beginning of 2017, minimum-wage workers received
a raise in 19 states. What’s more, 18 states and theDistrict of Columbia have indexed their minimum
wage for inflation, meaning it automatically adjusts
each year for price increases. A dozen states,
covering roughly 30% of the U.S. population, haveannounced particularly aggressive plans to growtheir minimum wage over the next few years —from 5% in Vermont to 12% in Maine (see Figure 3).
Overtime pay is also in play. Another wage
increase — to the tune of roughly $1.2 billion a year
— could come via federal regulation, although theoutcome is uncertain. In May 2016, the U.S. Labor
Department issued the Final Rule of the Fair Laborand Standards Act, extending overtime protections
to more than four million full-time workers.

Current minimum wage, November 2016
Planned minimum wage, 2020
$9.5
WA
$13.5
$9.75
OR
$12
$10
CA
$13

$7.25
ID
N/A
$8.25
NV
*
$7.25
UT
N/A
$8.05
AZ
$12

$9.75
AK
*

$8.5
HI
$10.1

$8.05
MT
*
$7.25
WY
N/A
$8.3
CO
$12
$7.5
NM
$7.5

$7.25
ND
N/A
$8.55
SD
*
$9
NE
$9
$7.25
KS
N/A
$7.25
OK
N/A
$7.25
TX
N/A

$9.5
MN
*
$7.25
IA
N/A
$7.65
MO
*
$8
AR
$8.5
$7.25
LA
N/A

$8.25
IL
$8.25
$7.25
IN
N/A
$7.25
KY
N/A
$7.25
TN
N/A
$7.25
MS
N/A

$7.25
WI
N/A
$8.1
OH
*
$8.75
WV
$8.75
$7.25
NC
N/A
$7.25
AL
N/A

$8.5
MI
*
$7.25
PA
N/A
$7.25
VA
N/A
$7.25
SC
N/A
$7.25
GA
N/A

$9
NY
$12.5
$8.4
NJ
*
$8.75
MD
$10.1
$11.5
DC
$15

$9.6
VT
$10.5
$9.6
RI
$9.6
$9.6
CT
*
$8.25
DE
$8.25

$7.5
ME
$12
$7.25
NH
N/A
$10
MA
*

$8.05
FL
*

Currently above minimum wage, significant growth planned
Currently above minimum wage, indexed future growth
Currently above minimum wage, no increase planned
Currently at minimum wage, no increase planned

Under the rule, overtime pay would become
Note: *Indexed with inflation
Source: Economic Policy Instituteavailable to employees earning up to $47,476 ayear. The current threshold is $23,660 a year. The
to union negotiations at a number of other grocers, including
rule was scheduled to go into effect last December,
Safeway, Ralphs, Kroger, Giant, Stop & Shop, Schnucks andbut shortly beforehand, a Texas federal judge halted it with
Albertsons (see Figure 3 on page 3).
an emergency injunction. Although the Department of Labor
filed a motion to expedite the briefing on a recent appeal,
When Walmart announced its wage increase in late 2015,
implementation for now is delayed.
observers predicted that competitors of the nation’s No. 1 retailer
would have to follow suit or face problems holding on to their
Should the law move forward, retailers will be forced to adapt
best employees. At the same time, the wage hike could add
current work schedules or invest in technology to reduce theanother $4 billion to large retailers’ labor costs. This profitsnumber of total labor hours and avoid higher labor costs.
versus-talent dilemma seemed to play out in Walmart’s January
According to the National Grocers Association, this could have2017 elimination of nearly 1,000 corporate jobs.
“dramatic consequences for independent grocers” facing
significant competition. The Food Marketing Institute weighedin with concerns over the “scheduling and financial impact” ofchanges in the final rule.

Major retailers aren’t waiting for regulators
In February 2016, Walmart and its subsidiary Sam’s Club raised
wages to $10 an hour. Target soon did the same, while Costco
boosted its minimum wage to $13. Regionally, wages rose due

Page 2 L.E.K. Consulting / Executive Insights, Volume XIX, Issue 16

How grocers and retailers can respond
In light of these trends, what can retailers do to address risinglabor costs? The simplest solution is to wait and see, and then try
to pass on price increases to the consumer. However, we believe
industry turning points like this one present a unique opportunity
to create new competitive advantages. To do this, we recommendthat grocer and retailer executives explore opportunities along fivedimensions:

INSIGHTS@WORK®

Executive Insights
Figure 3
Retailers’ minimum-wage increases
February 2016

March 2016

April 2016

1

3

6

$9 to $10

$11.5 to $13$9 to $10

Other examples

Retailer

U.S. rank*
Change inminimum wage:

Note: *Based on 2015 revenue, Walmart owns Sam’s Club and extended pay raises across businesses.
Sources: Business Insider, Reuters, Huffington Post, Boston Globe, Cincinnati Business Courier, St. Louis Business Journal, Supermarket News, The Baltimore Sun, USA Today

1. Optimize customer-facing labor while maintaining service
2. Drive efficiency in non-customer-facing activities
3. Find opportunities to outsource labor-intensive activities
4. Drive higher margin sales through assortment/
merchandising
5. Use cutting-edge pricing and promotion techniques
To understand where the opportunities could be, let’s take acloser look at each potential strategy.

Optimize customer-facing labor while maintaining
service
To pull off this strategy, grocers must decide where they can
reduce (or otherwise optimize) customer-facing labor without
unduly affecting the customer experience. In many cases,
technology can be the solution, especially when considering ROI
against higher labor costs. However, opportunities also exist to
rethink standard practices and eliminate offerings that consumers
don’t especially value.
• Reduced hours, more customer self-service. Aldi
minimizes labor costs by limiting store hours to normal
business hours, eliminating traditional service counters(such as butchers) and requiring customers to bag their own
groceries. The Germany-based grocer also requires a 25-cent
shopping cart deposit, which reduces the need for employees
to chase after and return carts.
• In-store customer tracking. In 2016, Kroger installed acustomer-tracking system that tells managers how manycustomers are in the store and how many checkout lanes toopen. With this move, the supermarket chain expects to save$250 million in annual labor costs via lighter staffing and more

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efficient scheduling. The new system is also expected to slash
average customer wait times from four minutes to 30 seconds.
• Combined service counters. Whole Foods consolidated themeat and seafood sections in some of its stores to eliminate
extra staff and reduce overall hours.
• Self-checkout via mobile app. Walmart is testing a newversion of its “Scan and Go” app, which lets customers skip
the checkout line. Instead, customers scan their grocery items
as they shop, complete their purchases online and simply
show their receipts on the way out.

Drive efficiency in non-customer-facing activities• Here, the key question is which non-customer-facing activities
can be streamlined to help offset rising in-store labor costs.
As it turns out, grocers are finding opportunities in two
business areas: technology and sourcing.
• Temperature monitoring systems. Kroger recently invested
in a system that regulates and reports all refrigerator
temperatures within a store. The system cost $50 million
but is expected to save $250 million a year in labor because
people will no longer have to manually track temperatures.
• Electronic labeling systems. E.Leclerc is a grocery store in
France, where labor costs are already much higher than in
the U.S. The chain uses electronic labeling systems that canchange prices across stores all at once. This eliminates not
only the cost of labor to hand-change paper labels, but also
the cost of mislabeling items.
• Advanced scheduling applications. United Supermarkets’
phone applications let employees change their schedules
remotely, arrange last-minute shift changes and clock in as
they enter the store. All of this reduces managerial workload
and raises overall productivity.

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Executive Insights
Find opportunities to outsource labor-intensive activities
Grocery and other retailers have a broad selection of service
providers that can take on labor-intensive store functions forthem. So for this strategy, the key question is which activities
make the most sense to outsource. Certain ones offer particular
benefits from a cost and efficiency perspective.
• Resets. Some outsourcers can tackle full-store
rearrangement, typically overnight or during a store closure.
• On-site marketing. There are vendors that provide in-store
sampling and experiential marketing to drive sales.
• Product management. Retail consultants can help grocers
optimize shelf conditions and ensure high-volume products
are stocked and visible.
• Data collection and reporting. Business intelligencespecialists offer daily reporting and analysis of big data to
support fact-based decision-making.
• Value-added foods. More retailers are turning tocommercial kitchens for value-added options such as freshly
prepared foods, bakery goods, deli items and fresh-cut
produce.

Drive higher margin sales through assortment/
merchandising
To boost profits, some grocery stores turn to private-label brands
or other high-margin products. The key question is how to
optimize the product assortment and store merchandising so thatthey encourage sales of those more profitable products. Large
retailers have their own spin on this issue.
• Strategic sourcing. Unlike most grocers, Aldi carries justone private-label SKU for many of its products. This pareddown approach saves store and warehouse space, minimizes
shipping costs, takes less work to stock products, andconcentrates Aldi’s buying power. The smaller range of SKUs
also translates into lower prices and nimbler responses tobusiness conditions (see Figure 4).
Other grocers are pursuing more robust private-label
strategies. These include multitiered branding as well as
broader category participation to ensure they capture
attractive margins throughout the shopping basket.
• Kroger. At Kroger, private-label comprised 26% of sales in2015. Kroger’s private-label products come in four tiers: best,
natural and organic, better, and good. The company says it
manufactures 40% of its corporate brand products, adding
further heft to its margins.

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Figure 4
Grocery retailer sales per SKU (2013)
Millions of dollars
10~$8.4M8
6
4
2~$0.7M

0

~40K

~1K

# SKUs

Sources: Aldi, Fortune, Retailing Today, Supermarket News, What’s In Store by IDDBA• Costco. One-quarter of Costco’s 2014 sales came fromprivate- label products. The warehouse operator’s Kirkland
Signature label is positioned as a premium brand thatmembers can buy for considerably less than national-brandequivalents. At 18%, Costco’s private label claims a bigger
share of sales than other club stores on average.
• Whole Foods. As of 2015, prepared foods accounted for
20% of Whole Foods’ revenues. The supermarket iscapitalizing on growing demand for portable and prepared
meals and fresh produce. These act as premium products andreturn higher profit margins. (It’s worth noting that Whole Foods
has outsourced its food-prep operations in pursuit of greater
efficiency, more flexibility and higher return on capital.)

Use cutting-edge pricing and promotion techniques
Grocery stores can increase their margins by improving the way
they analyze, set and deliver prices to the marketplace. But forthis strategy to work, grocers must answer two key questions.
First, how will they adjust pricing for higher labor expense?
Second, is there room to revamp the promotional strategy for
greater revenue?
• Electronic pricing solutions. Grocery supplier AssociatedFood Stores creates dynamic and competitive pricing with thehelp of price optimization software. The software lets users
apply historical information (prices, sales performance, timeof day, etc.) and competitive benchmarking to calculate aprice that maximizes profit. Similar solutions exist to measurepromotional effectiveness and sales cannibalization acrossdifferent grocery items.

INSIGHTS@WORK®

Executive Insights• Customer loyalty programs. After experimenting inseveral test markets, Whole Foods is getting ready to offer
a national membership discount program. The supermarket
chain discovered that a simple loyalty program with coupon
integration was more effective than a game-like point systemthat offered rewards to frequent shoppers.
• Digital coupons. Wegmans distributes targeted coupons
via email and its mobile app. Users can automatically redeem
these offers at the point of sale, enhancing marketing efforts
and transforming the grocery shopping experience. For store
owners, digital coupons produce customers who make 23%
more trips to the store and spend 50% more per year than
the average shopper.

Conclusion
Several factors are coming together to drive up labor expense.
One is government intervention, which today is taking placemainly at the state and local levels. Another driver is competition
from national retailers. Finally, unions are once again assertingthemselves in the compensation discussion.
In response, leading grocers and retailers are strategically shifting
the status quo. They’re taming labor costs through optimizationof customer-facing activity and by selective outsourcing of laborintensive processes. They’re taking labor out of the back office
via technology and strategic sourcing. And they’re reducing
labor’s effect on margins with innovative approaches to productassortment, store merchandising, pricing and promotion.
Turning points are disruptive by definition. But they’re also
catalysts for breakthroughs. Retailers can create meaningfulcompetitive advantage as long as they’re proactive, maintainexecutive focus and systematically identify the right solutions foreach retail business. For those who don’t want to risk being on
the wrong side of this turning point, it’s smart to put labor costplanning and margin management on the strategic agenda.
Editor’s Note: This Executive Insights includes hyperlinks to a number of sources
for readers seeking access to supporting articles.

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INSIGHTS@WORK®

Executive Insights

About the Authors
Chris Randall is a Managing Director and Partner
in L.E.K. Consulting’s Boston office. He is focusedon the Retail & Consumer Products sectors,
advising clients on a range of critical strategic
issues, including growth strategy, retail format andnetwork strategy, brand and marketing strategy,
e-commerce strategy, international expansion, andmergers & acquisitions.

Rob Wilson is a Managing Director and Partner in
L.E.K. Consulting’s Chicago office. He specializes
in the Consumer Products & Retail sector, witha more specific focus in the Food & Beveragepractice. Rob advises clients on a range of criticalstrategic business issues, including growth strategy,
pricing and trade spend optimization, mergers& acquisitions, profitability enhancement, andorganizational transformation.

About L.E.K. Consulting
L.E.K. Consulting is a global management consulting firm that uses deep industry expertise and rigorous analysis to help businessleaders achieve practical results with real impact. We are uncompromising in our approach to helping clients consistently makebetter decisions, deliver improved business performance and create greater shareholder returns. The firm advises and supports global
companies that are leaders in their industries — including the largest private and public-sector organizations, private equity firms
and emerging entrepreneurial businesses. Founded more than 30 years ago, L.E.K. employs more than 1,200 professionals across theAmericas, Asia-Pacific and Europe. For more information, go to www.lek.com.

L.E.K. Consulting is a registered trademark of L.E.K. Consulting LLC. All other products
and brands mentioned in this document are properties of their respective owners.
© 2017 L.E.K. Consulting LLC

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