Walmart converter Boxes

By the time Lee Scott handed over the reins to Mike Duke on Feb. 1, he had transformed Wal-Mart into a more likable company. But it was his less-known crusade to change the corporate culture from boots to suits that may be his true legacy.

(Fortune Magazine) - Around 4 p.m. on most afternoons, retired Wal-Mart executives gather in the men's-only grillroom of Pinnacle Country Club, the centerpiece of a gated community in Bentonville, Ark., that is home to some of the company's top managers. On the afternoon of Dec. 12, talk turned to the bombshell Lee Scott had dropped three weeks earlier. On the Friday before Thanksgiving, Wal-Mart's 59-year-old CEO announced his retirement after three decades with the company.

The timing of the announcement struck some former executives as odd. Wal-Mart tended to make management changes in January, after the holiday shopping season had drawn to a close and just before the start of its new fiscal year. "You don't announce that you're leaving your post before Christmas, " one former vice president said.

The timing only heightened suspicions about what the real cause was. Had Scott's critics finally caught up with him? Or was he simply exhausted from years of doing battle with both external and internal foes?

When he took over as CEO in 2000, labor unions and environmentalists had painted Wal-Mart (WMT, Fortune 500) as retail's evil empire. Scott overcame an initial reluctance to engage these detractors, and he wound up transforming the company. But the untold story of his tenure is the internal war Scott waged as he dragged the company into the 21st century from its clannish roots. When a group of executives known as the "boots" - for their love of cowboy boots - threatened to divide management, Scott cleaned house during a 2005-06 purge, even though many of the boots had been friends of founder Sam Walton.

The final piece in Scott's remaking of Wal-Mart was grooming a successor, Mike Duke, also 59, who took the helm on Feb. 1. Only the fifth CEO ever to lead the company and the first to have never worked directly with Walton, Duke is a longtime Scott protege. (Scott hired him in 1995 as senior vice president of logistics.) As such, Duke is not expected to veer far from the course set by Scott.

Given his previous role as head of international operations, Duke is likely to expand Wal-Mart's presence in Russia and China to offset slowing growth at home and to focus on improving the nuts and bolts of store operations. The company is also trying to crack urban markets in the U.S., using Chicago as a test case.

"Mike will need to get comfortable in the job, " Scott told Fortune during a recent interview. Scott's wood-paneled office at Wal-Mart's corporate headquarters, no bigger than a child's bedroom, is the same one Walton used. Scott remembers how it felt when he took over. Or as he puts it, "Moving into Sam Walton's office is intimidating. It's not a sense of power, but a sense of responsibility, the sense of being responsible for this legacy."

Regime change at Wal-Mart does not just affect the rank and file in Bentonville. It has a far-reaching impact on the business world because the company is a bellwether for the U.S. economy and for retailers everywhere. In the months ahead, Wal-Mart's new CEO will be wrestling with some of the same issues that bedevil the Commander-in-Chief - a drop in consumer spending and soaring health-care costs, to name two.

And managing Wal-Mart is not unlike running a small country. Its annual revenue of $400 billion exceeds Norway's GDP; it employs over two million people, more than the population of Philadelphia. It operates 7, 000 stores worldwide and has held the No. 1 spot on the Fortune 500 for six of the last seven years. (Exxon Mobil (XOM, Fortune 500) beat Wal-Mart out for pole position in 2006 fiscal year sales.)

Scott's changes have finally started to pay off: Wal-Mart's stock was the best performer in the Dow Jones industrial average last year, rising 18%, and one of only two in the index to show gains. (The other was McDonald's (MCD, Fortune 500).) Although the company's shares, which recently traded at around $46, are lower than they were when Scott was named CEO, they have outperformed the S&P 500 over the past nine years. During Scott's reign, Wal-Mart's sales and profits have soared. When the company releases its 2008 results on Feb. 17, analysts expect Wal-Mart to report net income of roughly $13 billion - nearly a threefold increase over 1999, the year before Scott took charge.

Civil war in Bentonville

There were few outward signs of trouble when Scott took the helm in January 2000. But within the walls of the Bentonville headquarters, a civil war was brewing. The catalyst was Scott's winning the top job - upsetting another Wal-Mart executive, Thomas Coughlin.

The two men were from similar backgrounds, but their personal styles were the antithesis of each other's. Like many Wal-Mart executives, Scott did not have a privileged upbringing. The son of a gas station owner and a music teacher, he spent his early years working at his father's Phillips 66 station in Baxter Springs, Kan. His high school was so small that during football games he'd spend the first half playing clarinet in the band and the second half suited up on the field.

By the time he was 21, Scott was married with a child (he now has two sons) and living in a trailer while trying to finish college at Pittsburg State University in Kansas. (He says his grades improved after his wife told him she didn't intend to spend her whole life living in a mobile home.) After a stint at the Yellow Freight System trucking company, he joined Wal-Mart in 1979 as assistant director of logistics. In some ways Scott fit right into the company's bottom-line-oriented culture. According to one former associate, he was so frugal back then that he served guests generic Scotch.

Scott had been recruited by David Glass, a legendary Wal-Mart CEO who now owns the Kansas City Royals. Glass ran the company from 1988 to 2000 and he was famous for persuading Sam Walton, who thought "damn computer" was one word, to invest heavily in new inventory-management systems that would give Wal-Mart an edge for years to come. He was also instrumental in devising Wal-Mart's successful supercenter concept, which pushed the company squarely into the grocery business, where it took share from rivals such as Kroger's (KR, Fortune 500) and Safeway (SWY, Fortune 500).

Glass hired Scott after Scott walked into his office to complain that Wal-Mart would not pay a freight bill he felt was owed to his employer. Glass refused to pay the bill, but he was impressed with Scott's sincerity and drive. Glass eventually groomed Scott to succeed him.

As Scott rose through the ranks, he developed a reputation for being reserved, strategic, and sarcastic (he once joked with PepsiCo CEO Indra Nooyi that he was going to drop her products because she was slow to call him). His main rival, Thomas Coughlin, was ebullient and tactical. A former college football player at California State University East Bay in Hayward (where his wife was a cheerleader), Coughlin was larger than life not just in physical appearance but also in personality. He was beloved by rank-and-file employees, who saw him as one of their own.

When Scott was named CEO, Coughlin thought about leaving, but the Walton family persuaded him to stay. Hired in 1978, Coughlin had become a close friend of Sam Walton's, who died in 1992. Management was soon split between Scott and Coughlin, who had been named president of Wal-Mart's domestic stores. There were "friends of Tom's, " called FOTs, and "friends of Lee's, " or FOLs.