Stockwatch: Chance to buy a high-profile world leader

by Edmond Jackson from interactive investor |

Latest results underline the e-commerce attraction of this retail goliath, argues our companies analyst.

Despite a mixed performance, with domestic US doing well versus a slip internationally – partly due to currency headwinds – the first quarter 2020 results to end of April from retailing behemoth Walmart (NYSE:WMT) were received well.

Its stock initially rose from about $100 to $103.6, settling back to around $101.5 as trade tensions cause jitters, although this supports the sense of a defensive investment.  

Certainly, the results and price rise stood out among other companies reporting, being interpreted as a sign the US consumer is in rude health.

That's despite essentials in the table below showing that group operating measures have eased 3% to 4% like-for-like, on revenue up 1% to 2.5%.

Against a trailing price/earnings (PE) ratio just below 20 times and yielding only just over 2%, normalised earnings per share (EPS) is effectively flat, although this still beat market expectations while the group invests in its distribution logistics.  

Quarter-on-quarter comparisons are also a narrow snapshot, Q4 2018 (to 31 January) had achieved 11% underlying growth.

Market focuses on potential to muscle-out Amazon

What's driving buyers' enthusiasm, I believe quite rationally and which supports the "low-risk buy" rationale I described on 22 February, is 37% growth in e-commerce which in groceries especially, and considering Walmart's logistical reach across the US with its stores as collection points (versus Amazon (NASDAQ:AMZN) hubs), places it well to establish high-quality earnings.

I had noted fourth-quarter 2018 results showing group revenue up 1.9% to $138.8 billion (the US representing about two-thirds of this) with the underlying rate the strongest in nine years as e-commerce surged 43% as grocery pick-up and home delivery services extended nationally.  

This countered overall US retail sales down 1.7% in December, the worst in 20 years. 

Source: TradingView Past performance is not a guide to future performance

Walmart's US revenues show 5.5% like-for-like growth in the three months to 30 April, creating parallels with the University of Michigan index of US consumer sentiment recovering sharply in February – possibly linked with an end to the government shutdown, but also a general context rising wages in a tight jobs market.  

Yet investors are likely impressed by company-specific performance that shows Walmart emerging as an e-commerce giant.  A stunning 37% like-for-like growth in online sales has been achieved by offering more brands online and via an improved customer interface, also a 5.9% rise in US inventory to handle more online orders.

Independent analysts, Global Data Retail, say "In our view, Walmart is now a major competitive force in e-commerce and is capable of capturing shopper share from Amazon and others." 

They caution how investments in delivery and collection services could pressure margins in the short term, but this is well-justified to build on strong logistics – using stores as distribution points thus an advantage over Amazon.

So, what currently seems a quite rich stock rating, relative to the raw numbers, could justify itself in the medium term, certainly if Walmart can establish a lead position in online grocery sales, and resist much slowdown in consumer spending when that eventually happens.  A high-quality defensive share with reliable earnings could thus be emerging.  

Gearing of 45.9% explains a 28.3% hike in the interest expense, but applying debt for investment in logistics is seen as value-enhancing – 3,100 pick-up locations and 1,600 delivery locations due by end-2019.  E-commerce is amply on track for a 35% annual revenue growth target and, with margins ahead of management expectations, on a "solid path towards profitability".

Walmart Inc        
First quarter ended 31 Jan   2020 year 2019 year Change
         
  $ billions      
Revenue   123.9 122.7 1.0%
at constant currency   125.8 122.7 2.5%
Operating income   4.9 5.2 -4.1
at constant currency   5.0 5.2 -3.0
         
Operating cash flow   3.6 2.0 80%
Capital expenditure   2.2 1.8 22%
Free cash flow   1.4 3.4 59%
         
Dividends   1.5   1.0%
Share repurchases   2.1   296%
Total returns   3.7   76%
         
Walmart US:        
Net sales   80.3 77.7 3.3%
Operating income   4.1 3.9 5.50%
         
Walmart International:        
Net sales   28.8 30.3 -4.9%
at constant currency   30.6 30.3 1.2%
Operating income   0.7 1.3 -41.7%
at constant currency   0.8 1.3 -37.5%
         
Sam's Club:        
Net sales   13.8 13.6 1.5%
Operating income:   0.5 0.3 38.8%

Reassurance for the US economy generally

Another key reason that these results are being received warmly is their appearing to affirm the Trump administration's tax cuts for low and middle-income households.  

Critics have argued they were ill-timed, likely to fuel inflation late in the economic cycle when the labour market is tight – thus pushing up wages – and more of a sop to Trump's voters.

But, for now, higher wages appear to be helping the US economy which, it's worth remembering, is relatively domestic in its orientation and roughly 70% towards consumers.

Notably, Walmart is sustaining momentum in food and other consumables - cited at "mid-single-digit" revenue growth - despite a lack of food price inflation.  Snacks, beverages and pet categories are particularly strong.

However, mid-single-digit growth in pharmacy sales is to some extent being aided by branded drug inflation (or might this be industry specific?) and a later season for respiratory infections than last year.  General merchandise is cited at low single-digit growth with "solid results across key categories...home, lawn & garden, toys and wireless being the strongest performers".

Such a narrative counters pessimists of US corporate earnings who say a downturn is due this year.  The consumer context, at least, appears too strong for it. US consumers are both spending and saving well and have overall decent credit quality.  

Walmart's own consumer surveys have also improved on Q4 2019, as if momentum can be sustained.  It's all being helped by a tight US labour market delivering wage gains, serious inflation absent as yet.

International setback due to strong dollar and Flipkart

Although a relatively modest 23% of group sales, a near 5% reduction in international sales rather grates within a growth narrative.  It's explained by way of a $1.8 billion foreign currency headwind - translating revenues back into US dollars. Otherwise, international sales edged up 1.2%.

Three of the four largest markets – Mexico, China and Canada – saw positive sales comparisons, while the UK was "negatively affected by the timing of Easter" and management fesses up to "disappointment the proposed merger of Asda with Sainsbury's isn’t happening because it would've been good for customers and the businesses."

You need to delve into the results presentation though - page 11 - to learn the circa 40% slump in operating income relates to a setback at the Flipkart subsidiary, India's biggest online store for lifestyle products.  While management expresses excitement for this business it should have clarified the drop better.

Anyhow, the take-away seems that Walmex is worth watching in Mexico – where there's consistent growth across the country, and with e-commerce up 49%. Sam’s Club in China also "continues to be a highlight for us."  If they can sort out Flipkart, then the international side should fire on all cylinders.

Tariffs a potential spoiler

A 25% tariff on $200 billion worth of Chinese imports is bound to affect clothing, furniture and electronics, with Walmart's chief financial officer conceding consumers will face higher prices, with modest reassurance how "our merchant teams have been focused on this for months and continue to execute appropriate mitigation strategies."

For now, the stock has born the prospect well enough and, while tariffs could disturb the investment rationale somewhat, I don't believe they disrupt it – adverse sentiment should it happen, represents a chance to buy.

Unless US inflation breaks out and crimps margins in food, Walmart's first quarter 2020 results affirm a quality – and increasingly global – stock emerging.  Accumulate.

Edmond Jackson is a freelance contributor and not a direct employee of interactive investor.

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