- Wal-Mart stock is attractive in that it is cheap and the Fed has its back. Furthermore, if a recession strikes, you will see better than expected earnings which should lift the stock higher.
- The company is investing heavily in its people through higher salaries and training. This should deliver more frequent sales on higher ticker items.
- The stock is cheap, has a strong dividend and should be well able to pull these capital investments off. If the investments are a success, I see this company gaining valuable market share on its competitors.
Walmart (NYSE:WMT) was already having a tough 2015 but the decline in its share price continued after the company's statement on the 14th of October when it reported that EPS numbers would decline in 2016 and 2017 and would not probably bounce back until 2019. Investors ran for the exits and the stock dropped more than 10% to less than $60 a share. What I find baffling is that you have so many analysts stating that Wal-Mart stock is a sell without discussing the macro picture in the US. This stock is a proven recession proof stock and it proved this between 2007 and 2009 when its net income grew from $12.7 billion in FY 08 (FY end January 2008) to $14.3 billion in FY 10 (see chart). Furthermore, the projected net income for this year is around $15.5 billion which is only $1.2 billion greater than the company's 2009 year. Even if we take the FY 2015 net income figure which came in at $16 billion, this was still only 12% greater than the 2009 figure. Not much growth you may say.
However, within this time period (March 2009 to December 2014), the stock rallied 75% excluding dividends (from roughly $50 a share to $75 a share) which confirms that the stock definitely participated in the money printing rally induced by the Fed. Fast forward to early January this year and the stock tops out - only 2 short months after QE3 ended in the US. Investors need to come around to the line of thinking that the Fed is not going to allow US equity markets to fall whether interest rates rise or not. I'm betting the Fed wont hike interest rates (because the economy in my opinion is still fundamentally weak) but if it did, your best bet is to own stocks that have weakness priced into them (such as Wal-Mart) and not high fliers that have huge p/e ratios because forward earnings have already been priced in. Let's discuss why I think this stock will be well north of its current price in 12 months time despite the bearish outlook the company gave about its growth last month.
Source: Walmart stock price data by amigobulls.com
Firstly, the company has decided to invest heavily in its staff. The hourly rate for its minimum wage employees has gone from $7.25 an hour to currently $9 an hour. Furthermore, the company has stated that it will increase the rate again in February of 2016 which will attract even more talent. This initiative has obviously affected the bottom line in recent quarters (through SG&A expenses) but I expect the initiative to pay dividends over the long term. Why? Well with competition being fierce in this sector, I see Wal-Mart upselling more of its products due to better service. Companies like Costco (NASDAQ:COST) and Amazon (NASDAQ:AMZN) are also ultra competitive on price so service may be the deciding factor on whether a prospect goes through with the sale or not. Having better trained sales people in store has to result in more sales for the company going forward. Moreover, if a recession hits the US next year, buyers could often end up dealing with sales people with college degrees (because they cant find jobs in their chosen fields). I have already seen this in Europe and with Wal-Mart now having entry department managers starting at $15 an hour from next February, the company will undoubtedly attract talent - especially in a rough economic downturn.
The second huge investment this company is making at the moment is in technology. Over $1.1 billion is expected to be spent in 2017 which will definitely eat into margins over the next few years. Nevertheless, Wal-Mart may have an advantage here over its online competitors as it has the physical stores that customers can use for collection of goods maybe that very same day. My take on these initiatives is this. If the company can afford better staff plus a modern ecommerce and digital service for its customers, then this company could dominate the sector because it will have all the pieces in place. Its balance sheet demonstrates that it can pull off this round of large capex investments. I see potential here in the more expensive items the retailer sells. Combining the initiatives the company is currently undergoing should definitely increase the average amount spent by existing customers. Furthermore, the emergence of dollar stores in the US (another sign the recovery is phony) has led Wal-Mart to open smaller format neighborhood market stores. These units are extremely competitive on price, are local and should mirror the success existing dollar stores are having.
To sum up, what investors need to remember is that Wal-Mart is making all these investments into its business with its own money. It is still a thriving business producing annual net income of more than $15 billion on revenues of $485 billion. Its present P/E ratio is 12.15 and it pays out a dividend yield of 3.37% which has grown for the past 40 years. The above initiatives in my opinion have been priced into the Walmart stock price and I don't think the stock will go much lower from here. Moreover, I don't think there is any co-incidence between the recent Wal-Mart share price move and the broader stock market move in S&P 500 (INDEX:SPAL) over the past few days. Now that guidance is fully priced into this stock, I'm confident it will move higher with the general market. On the contrary if I'm wrong and the stock (and the general market moves lower), it will be only temporary before the Fed comes to the rescue once more.