Tuesday, 18 August 2015

So what do you do about a stock like Wal-Mart?

Back in May at the time of the last Wal-Mart results I observed (link here) that:

'So here's the trouble: at a still US$290bn+ EV you are trading on a static x12 EV/ebit with a 3-4% free cash flow yield.  That just does not get me excited.  I don't mind buying a recovery story at that multiple but I fail to see it in the absence of much stronger general growth levels.  

For me I am still waiting for around US$70/share'.  

Well here we are.  After another downward nibble at forecasts...

...Wal-Mart shares are trading below the US$70/share level today:

It is pretty clear why as noted in clearly the most important chart from their presentation document whilst sales have moved into growth mode in the US(1.5% comparable sales growth in Q2, 1.3% YTD), earnings were not good: 

So why this trend?  Essentially the cost of doing business in a more friendly and less austere fashion.  Simply put if Wal-Mart wants to raise wages and put money into store infrastructure and look then they will have to find efficiencies in their operations and sourcing divisions:

Of course not an impossible corporate objective and actually I like the sound of some of the initiatives:

International revenues/earnings could not offset either.  Of the company's main markets only Mexico showed both rising sales and higher gross margins.  The UK showed the latter but not the former, whilst China and Canada were the other way around.  

Pulling it all together the trouble is...time to help make it work (and what you pay today).  Wal-Mart is on track to deliver around US$10bn worth of free cash flow which it is assiduously returning to shareholders via dividends and buybacks...

...and that is a 4.5% free cash flow yield - not too shabby at all.  However akin to my conclusion three months ago we are still not at the stage where earnings are providing much support (consensus x14 forward P/E, EV/ebit around x11.5 times).  We are getting closer to value but for me the continued deterioration of the earnings line has pulled that number further down.  A 5% free cash flow yield on Wal-Mart is around US$65/share, a single digit EV/ebit multiple nearer US$60.  The three year chart may shout support but my instinct is that it is still too early in an industry which is still volatile/seeing change and competition.  

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