Wal-Mart Stores Inc. last Wednesday surprised and disappointed its investors with news of a dimmer than expected outlook into 2017. In one of its biggest one-day declines, Wal-Mart's stock price fell 10% on the news, sweeping away some $21 billion in market value. 

The retailer said that the strong dollar, planned increases in wages and training to its workers, and efforts to improve its e-commerce are weighing down profits. CFO Charles Holley said that costs related to wages and training alone would ding operating profits by some $1.5 billion in fiscal 2017.

Wall Street’s reaction was somewhat dramatic, considering that Wal-Mart has been planning and talking about the costs of its wage hikes for months now; the first announcement came in February and more details have been unveiled throughout the year. That may be partly because Wall Street has other bumps in its road to contend with of late and has demonstrated volatility recently.

But the drop in Wal-Mart’s share price was something of a no-confidence vote, and may come down to two basic cracks in the foundation founder Sam Walton laid when he opened the first “Walmart” store: that the rock-bottom wages the retailer has depended on for years may no longer be viable, and the “always low prices” that Walton issued as his basic promise to customers may no longer be the best way to compete.

"The market is reacting to meaningful evidence that [Wal-Mart] has substantially over-earned," Stifel analysts wrote Wednesday. "WMT [Wal-Mart] calls out specifics of wage and price investments — and yes these are discrete actions taken by WMT, but we believe they are just symptoms of where WMT sits in its history."

Wal-Mart’s worker pay

For many Americans, the wage gap that has emerged as a stubborn drag on consumer confidence has been a steady decline of middle-income wages for four decades. The average $4.03-an-hour rate of January 1973, for example, has the same purchasing power as $22.41 would today, according to the Pew Research Center.

But from the beginning, Sam Walton was keen on keeping pay low for workers at his stores. In the 1960s, the federal $1.15 an hour minimum wage was extended to retail workers, at a time when Walton was paying workers half that. Because the law only applied to businesses with 50 or more employees, he attempted to argue that each of his stores was a separate business. The Labor Department disagreed and fined him for the move.

Wages and benefits at Wal-Mart have been notoriously low ever since, with critics pointing out that its workers are eligible for welfare benefits like food stamps and Medicaid, to the tune of $6.2 billion in public assistance each year, something taxpayers are getting impatient with. And other research has found that wages are lower in counties where a Wal-Mart store operates, especially in the South. (The exception may prove the rule: Most people will find it shocking that a Wal-Mart store in an oil-boom area of North Dakota with a higher-wage market offers a starting wage of $17.40 an hour.) 

Now, with the U.S. economy suffering in part because of the wage stagnation, more cities, states, and the U.S. Congress are working to push up the minimum wage, sometimes significantly. That means that Wal-Mart had to raise its hourly pay this year to attract and keep workers, and, some say, to discourage lawmakers from voting in even higher minimums.

“The rise in wages was really a reaction to market pressures,” Jason Goldberg, VP of commerce for digital marketing firm Razorfish who also blogs at Retail Geek, told Retail Dive. “For Wal-Mart to grow, they have to be able to hire more people. There simply isn’t a labor pool anymore at that super-low wage. As soon as those people can do anything else, they’re going to leave Wal-Mart, and then they have to retrain employees. Retailers are finding it’s more profitable to hire employees who will stay longer.”

Why they hurt

So why can’t Wal-Mart just respond to what is essentially a market change without such a whack to its bottom line or its investors? After all, Costco has found success despite offering hourly workers wages well above the minimum, and relatively generous benefit packages.

The problem is in part due to its size, but also to its addiction. Wal-Mart’s hourly increase isn’t even that big, notes Yannett Lathrop of the National Employment Law Project. But it’s coming from such a low base that even incremental change is a big chunk of change. If it had kept up its wages over the years, investors may not have been so spooked.

And the retailer may be in for more hurt, Lathrop writes. That is, worker advocates are not likely to quit advocating for better wages. And, in some jurisdictions, its new pay rates may even not meet new hourly minimums being implemented across the country.

“Walmart's new wages also fall significantly short of what the general public demands,” she says. “According to a January 2015 poll conducted by Hart Research Associates for the National Employment Law Project, in a representative national sample of 1,002 adults, three in four Americans, including 53% of Republicans, support raising the federal minimum wage to $12.50, and 63% want the minimum wage increased to $15 per hour by 2020.” 

Low prices

Then there are those “always low prices.” Wal-Mart has been infamous for its cut-throat price competitiveness. But in the age of e-commerce, when Amazon likewise competes on price and more brick-and-mortar retailers price-match to beat back e-retailers’ advantages, Wal-Mart is no longer necessarily the best deal in town. Or, even when they are, not by much. In a recent study on back-to-school shopping, Profitero found that Amazon’s prices were lower than or equal to Walmart.com’s prices in five of six categories, on items with exact SKUs.

And its e-commerce site, which provides just 3% of its sales, has an assortment that pales compared to Amazon, which enjoys six times the online sales that Walmart.com does.

Dollar stores have also received considerable attention for their ability to compete with Wal-Mart — not just from analysts, but from Wal-Mart itself. The company stepped up its development of smaller, more urban stores to meet dollar stores where they are, closer to and within more urban areas. But they're still figuring out the ideal store size, and have yet to hit on what works better than the suburban big boxes that have served them so well for decades.

The company reported that its Neighborhood Market stores saw Q2 same-store sales of 7%, a healthy number, but also said that it would scale back its plans for new stores in order to emphasize “quality over quantity.”  Yet, to accrue the kind of profits from smaller stores to be transformative, Columbia University business school professor Mark Cohen told Retail Dive, the company would have to open more of them, not fewer. 

So, at a time when Wal-Mart is having to raise wages for millions of workers, and possibly raise them more in some areas and/or raise them again in yet other areas, the retailer is also having to invest more in e-commerce and omni-channel efforts. The company is asking for patience, and says that the investments and changes it's making now will pay off in the long run. 

"The reaction by the market – while not what we’d hoped – was not entirely surprising. We're making significant investments in our people and technology," Wal-Mart president CEO Doug McMillon wrote on the company's blog after the stock dump. "Walmart will be the first to deliver a seamless shopping experience at scale. No matter how you choose to shop with us, it will be fast and easy."

Is Wal-Mart 'stuck'?

But, all in all, Wal-Mart seems to have lost the essential aspects of its business model, which have been assortment and price, made possible by forcing down costs by, in turn, squeezing vendors and workers. With that approach getting more difficult, and without much other differentiation to compete with the kind of "cheap chic" of Target, say, or the pure-play Prime appeal of Amazon, it's hard to see what moves Wal-Mart has.

“Walmart is stuck,” writes Nikki Baird in Forbes. “Raising wages and investing in e-commerce will help some, but all it will really do is extend the life of a losing strategy. E-commerce hasn’t won anything. It’s just that Walmart is losing.”