This Retailer is Here to Stay

By William Bias - October 17, 2012 | Tickers: HTSI, SWY, TGT, KR, WMT | 0 Comments

• Email
• Print

Editor’s Note: The original article refers to Judge Dredd, instead of Demolition Man. This article has been corrected to reflect the correct mediocre Stallone movie

Wal-Mart (NYSE: WMT), a discounter well known for its low priced merchandise at its supercenters and Sam’s clubs, will not be going away anytime soon. In fact, Wal-Mart’s plan for the future will propel its stock to market beating returns over the long term. Here’s why.

Lower prices. Wal-Mart sells merchandise much cheaper than their competitors and still remains profitable. Suppliers cut Wal-Mart a break because of the huge amount of business that comes from this single discount chain. Also, the suppliers can utilize economy of scale by producing more and reducing fixed costs per unit thus increasing their profitability.

*Source company SEC filings.

Of course, in the future it may harder to tell what constitutes a low price if Wal-Mart truly becomes the only game in town.

Local monopoly.  Wal-Mart conquers the retailing world.  In my local area two independent grocery stores recently closed its doors. They simply couldn’t compete on prices.

Grocery chains aren’t faring much better (see chart below). Safeway (NYSE: SWY), Harris Teeter (NYSE: HTSI), Kroger (NYSE: KR), and SUPERVALU net incomes are 39%, 41%, 51%, and 293% less respectively than five years ago. Losses resided at the bottom of SUPERVALU’s income statement since 2010.

WMT Net Income TTM data by YCharts

Declining profitability of our nation’s grocery chains could mean shuttering their doors. With less competition, Wal-Mart will have more pricing power while inheriting the customer base of their former competitors.

Invading new territory. Wal-Mart plans to conquer the convenience, dollar, and pharmacy markets next. In order to maximize capital expenditures over the next few years they plan to open “95 to 115 small format stores in fiscal year 2014.” These smaller stores, a little larger than the new Dollar Tree stores at around 15,000 square feet, will feature pharmacies, groceries, and certain dry goods.

In the past, dollar stores and pharmacies operated in peace at some distance from the nearest Wal-Mart. You may see a Dollar General in a field by itself somewhere with the nearest Wal-Mart being 30 miles away. If the new mini Wal-Marts can undercut them on price just like the grocery stores then their profitability may feel the squeeze as well.

No threat from Target. Even though Wal-Mart’s largest competitor, Target (NYSE: TGT), exceeds them on gross margins, Wal-Mart towers over Target in volume and sheer size. The latest count stood at 10,300 stores for Wal-Mart and 1,772 stores for Target. In the chart below, you can see that Wal-Mart’s revenue and free cash flow exceeds Target by about 6.5 times.

WMT Free Cash Flow TTM data by YCharts

A Demolition Man Future? In the original Demolition Man movie all the restaurants were Taco Bell. I see a future similar where you have three choices for retailing: Amazon for online dry goods shopping; Wal-Mart for groceries, drugs and items not easily ordered on the internet; and Home Depot for lumber and related building supplies. In this future all other brick and mortar retailers -- the discounters, grocers, pharmacies and dollar stores -- are in ruins in the shadows of a nearby Wal-Mart.

Conclusion

Wal-Mart’s lower prices brought on by volume discounts from their suppliers drain business away from competition. They intend to undercut smaller retailers such as dollar stores and pharmacies paving the way for a true monopoly such as the Taco Bell scenario in the original Demolition Man movie. An investor looking for superior long-term returns should look to Wal-Mart’s ever increasing market dominance. Wal-Mart is here to stay.

• Email
• Print
• Feedback