- Wal-Mart Stores Inc.'s Operating margins are low at present due to some near term heavy lifting the company has had to do.
- E-commerce growth and especially better paid and trained staff had an impact on Walmart's latest earnings.
- Meaningful dividend growth levels will continue once operating income and consequently net income come back into line.
In the world of dividend investing, Walmart (NYSE:WMT) is one of the very best. The company has raised its dividend every year for the past 43 years and is currently paying out $2.00 per share annually which currently corresponds to a dividend yield of 2.73%. The stock is up a whopping 28% since mid November and with the company's earnings multiple now trading past 16 (which is above its long term averages), now may be a good time to take some capital off the table.
However, many income investors have been instructed to never sell their positions but to invest all distributions back into the underlying in question. Although I don't entirely agree with this philosophy (as there are always better opportunities in the market), it does bring dollar cost averaging into play which means the investor will invariably get the stock at better prices and at lower price to earnings ratios over time. Revenues are expected to almost touch $500 billion next year and projected earnings are also up over the last 90 days. This is a bullish sign which is why I believe the company's present earnings multiple will come back into line not by means of a falling share price but because of rising earnings. Here are the reasons why profits are expected to grow right up to 2020.
High Near Term Front Loading
Firstly, some analysts have turned bearish on the Walmart income story citing very small dividend increases recently as a sign of things to come. I don't buy it and the pay-out ratio doesn't back up this argument. Currently, the pay-out ratio is 32.7% which illustrates that the retailer could easily raise the dividend meaningfully if it so wished. Bears are also stating that lower operating margins will eventually lead to a halt in dividend increases. Last quarter, operating income came in at $5.275 billion which means its trailing twelve month operating margin number is 4.9% which is well below the retailer's 10 year average of 5.7%.
However, we can't forget the elevated investment Walmart has undergone recently which has led to a jump in its SG&A costs ($97 billion+ last year). Elevated e-commerce costs and wages are two areas that immediately spring to mind but I see these investments returning real value. On the wages front, higher paid and better trained workers should mean better customer service which should lead to more sales. Furthermore, on the e-commerce side, rising number of third party sellers (along with Walmart's own products) should drive margins higher over time.
New Super-centers Could Boost Pick-Up And Delivery Option
Where I also see Walmart gaining market share is in its delivery options. This retailer probably has a store within a 10 mile radius of most Americans and if its delivery service can be rolled out at local level (goods shipped from local stores), then this would do wonders for its customers in terms of speed and service. Amazon (NSDQ:AMZN) has a similar service where it offers free delivery but this is only to prime members. If Walmart can deliver quickly to local customers, both its pick up and delivery options will thrive as it will undoubtedly take market share off smaller retailers who don't offer this service. Walmart presently is testing delivery options in Phoenix through Uber, in Denver through Lyft and in Miami with Deliv. If these pilot programs are a success, it will demonstrate that there is ample room in the US for Walmart to grow its e-commerce business. Remember it is only contributing 3% of total sales at the moment so scope is very much there..
Declining Retail Sales Will Be Bullish For Wal-Mart
Super centers are Wal-Mart's main focus going forward with the company scheduled to open a further 50-60 units in fiscal 2017. Walmart knows these stores probably provide the best source of growth as they can also be used as fulfillment centers. Now here is the skinny. At present, one of Walmart's rivals Costco (NSDQ:COST) is currently achieving sales at a rate of $1,100 per square foot whereas Walmart is only in the $400-$500 square foot range. Therefore, Walmart knows that by improving its supply chain and enhancing its productivity issues it can get its sales per square foot rate well up from where it is. The advantage it has with its superstores is the amount of stock keeping units it sells so if they are competitive on price, there is no reason why this format can't steal more market share. Furthermore, Moody's has just lowered its retail sales outlook for the year. This should suit Walmart as WMT's sales always flourish when money is tight due to the low cost brand it has built up.
To sum up, Walmart is an excellent stock if one is taking a long term view. Yes, the stock is slightly overvalued at present but with revenue expected to rise by $60 billion over the next 5 years, earnings will surely follow once heavy investment dies down a tad. Although its e-commerce division is slowing, new superstores will add more fuel to the fire here. Furthermore, if you are expecting the stock to drop, it may not happen as higher earnings may bring its earnings multiple back into line.