Hope You Are Not Discounting This Retailer

Eshna is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Wal-Mart (NYSE: WMT) has been having a tough time. It has received a lot of negative publicity over its empty shelves and customer service issues. And, to add to this its first quarter performance was quite lackluster. Comparative same store sales growth turned negative for the first time after rising for six consecutive quarters, and dropped 1.4%.

So the obvious question that comes up is that is it still worthwhile to invest in this retail behemoth? Well, the road undoubtedly looks bumpy at the moment but Wal-Mart’s story is far from over.

Performance will improve

In the first quarter Wal-Mart reported a mere 1% y-o-y revenue growth to $114.2 billion behind analysts’ expectation of $116.1 billion. Both Wal-Mart U.S. and Sam’s Club posted almost flat sales, rising about 0.3% and 0.1% respectively. Net income increased 1.1% to $3.8 billion or $1.14 per share in line with analysts’ expectations.

This is not great performance but then the company faced significant headwinds. January and February sales were badly affected by the high gasoline prices, increase in payroll taxes, and the delay in income tax refund checks. The biting cold weather did not help either.

The first quarter was weak for the overall US retail sector. Target (NYSE: TGT) reported just 1% y-o-y revenue growth to $16.7 billion, trailing analyst estimates of $16.8 billion. Its earnings per share came in at $0.77 compared to $1.04 per share in the year-ago quarter. Analysts were expecting $0.87 per share. The company cut its adjusted earnings forecast to $4.70 to $4.90 per share from $4.85 to $5.05 earlier.

Both Wal-Mart and Target took a hit in the high-priced electronics segment, where consumer sentiment was relatively weak. Performance was better in consumer staples.

But this is past. Although the high unemployment rates in the US will continue to weigh on the retail environment, things are expected to get better as the year progresses. Wal-Mart is expecting a sequential increase in earnings in the second quarter. It has guided for earnings per share in the range of $1.22 to $1.27 while analysts believe it will be no less than $1.29.

Higher market share

Wal-Mart has gained share in the core US market. As per Nielsen report, the company increased its market share by 20 basis points in the food consumable, health, and wellness/OTC segments during first quarter.

In groceries, the company has taken a very aggressive pricing strategy and according to a Bloomberg report it will be spending $6 billion to reduce prices in this segment. Wal-Mart is aiming to take share from dollar store chains. In addition to groceries, its prices are also competitive or lower than those of the dollar stores for products like auto supplies, pharmacy, and health and beauty aids according to Bloomberg.

Wal-Mart will add 15-17 million square feet of new stores during the year. While this is just 1% of the existing size, but considering the retailer’s size, this addition is significant.

E-commerce thrust

Wal-Mart considers e-commerce as the next thrust area to drive growth. It is already performing exceedingly well in this area. In the first quarter this business grew by a good 30% in the US. In the international markets also, the performance has been more than satisfactory.

Management has chalked out a massive plan whereby it will integrate brick and mortar stores and with its online platform in order to serve customers in the best possible way. It has formidable physical infrastructure to provide the right back-up support to carry its e-commerce plans ahead. So, in the times to come the company can become a force to reckon in online retail.

This leads the way for an interesting duel to breakout between Wal-Mart and the e-commerce giant Amazon (NASDAQ: AMZN). Both companies are closing in on each other’s territory. As Wal-Mart is stepping up its online game, Amazon is expanding its groceries business. Through its subsidiary, Amazon Fresh, it is starting same-day delivery service in Los Angeles and is looking expand this to 20 more markets including a few outside the US.

It has been testing this in its hometown Seattle for the last six years. The venture is no doubt challenging as there are logistical issues to sort out with perishable items. It also has to contend with people’s mindset which does not favour buying fish, meat, and fresh produce online. But Amazon has been doing its homework for the last six years and is well prepared.

E-commerce is also focus area for Target. To increase its online sales, from this year the company has started matching prices for all its online items with those of Amazon, Wal-Mart, etc. The company claims that its e-commerce site is the fourth most-visited retail website in the U.S. till date, and on an average attracts 26 million unique visitors monthly.

Great value creator

On an average Wal-Mart generates $25-26 billion in cash annually from its operating activities. But the scope of reinvesting such huge cash into its business is limited, given that the company has already reached a matured stage. 

So, it rewards investors by paying rich dividends and repurchasing shares. Wal-Mart has repurchased common and preferred stock worth $39.5 billion in the last five years. The share buybacks make the EPS growth attractive, even on moderate top-line and bottom-line growth.

Dividend payout is healthy, between 29%-32%, and will improve further in 2014. The company has declared a dividend of $1.88 per share, which is 18% higher compared to the previous year. At current market prices, the yield on the forward dividend is approximately 2.5%, which is higher than the current US 10 year Treasury note yield.

Concluding thought

Wal-Mart is poised to grow at decent single digit rate, backed by its new e-commerce initiatives. The absence of headwinds that affected first quarter results will favorably impact financial performance. Considering the company’s core fundamentals and investor friendliness, I believe Wal-Mart will continue to create shareholder wealth. 

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Eshna De has no position in any stocks mentioned. The Motley Fool recommends Amazon.com. The Motley Fool owns shares of Amazon.com. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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