Should You Add Wal-Mart To Your Dividend Portfolio?

Mar.10.14 | About: Wal-Mart Stores, (WMT)

Summary

Growth rate in dividends has come down from about 18% to 2%.

The future growth in sales and earnings will be stagnant due to the macroeconomic factors and consumer preferences.

The company might not be able to go back to double digit growth in dividends due to the restricted growth in earnings and cash flows.

Wal-Mart (NYSE:WMT) has shown an amazing growth rate in its annual dividend payments over the last decade. The company has been growing dividends at an average annual rate of over 18%. However, for fiscal year 2015, the company has drastically reduced the growth rate to 2% and raised the annual dividends by just 4 cents. At the moment, the annual dividend stands at $1.92 per share, up from $1.09 per share in 2010 and just $0.30 in 2003. The current dividend yield for the stock is close to 2.60%.

Analyzing the Cash Flows

As I have mentioned the growth rate for dividends in the introduction, I will not go into the dividend growth rate again. I will now focus on cash flows and the payout ratio for the company.

  • Wal-Mart reported free cash flows of about $10 billion in the last year, and paid cash dividends of $6.1 billion. In determining the payout ratio of a company, my preferred method is payout ratio based on free cash flows. Wal-Mart's payout ratio based on the free cash flows equals almost 61%, which is quite a decent figure for a company that has been increasing dividends at such a high rate.
  • If we take into account the increased dividend for the next year, the company will have to pay about $6.23 billion in cash dividends over the next year, which will keep its payout ratio close to current levels even if we do not see any improvement in free cash flows.
  • Stock repurchases are a regular practice by the company and it spent $6.6 billion in share repurchases over the last year - the total cash distributed to shareholders in the shape of dividends and share repurchases was close to $13 billion.

Possible Positives

Sam's Club is an important business segment for Wal-Mart, which will be vital in driving future growth. It is a membership-only retail warehouse club owned and operated by Wal-Mart. Following are some of the reasons Sam's Club can be an important growth driver for the company.

  • Despite the sluggish economic environment in the U.S., warehouse clubs have performed better than retailers due to their attractive bargains. The warehouse store industry has grown strongly in the past few years, and is likely to continue its growth in the future due to the rising popularity of warehouse shopping.
  • Sam's Club is the second largest player in a rapidly growing $390 billion industry. Wal-Mart is also taking steps to grow its operational structure and enhance merchandise offerings to provide a foundation for future growth.

Furthermore, Wal-Mart has a firm focus on deriving its growth from the e-commerce segment which is another growth opportunity for the company. Wal-Mart reported revenue of over $10 billion from its e-commerce business, which is up 30% compared to the previous year. Wal-Mart has also recently opened a new work space to house a tech center dedicated to growing its online and mobile shopping business. The company is also expecting e-commerce revenue to go over $13 billion by the end of the current fiscal year, with continued focus on the international markets such as U.K., China and Brazil.

Moreover, Wal-Mart is also focusing on customer purchasing habits in order to serve customers better and derive more revenue. The company is in the process of improving its comp sales - a measure of revenue productivity used to compare the sales of retail stores that have been open for a year or more, and improving its EDLP (Everyday Low Price) focus to enhance merchandise efficiency for more customer traffic. According to U.S. Grocery Shopper Trends research conducted on 847 randomly selected customers, 61% of them chose the low price criteria for store selection.

Possible Negatives

Despite the above mentioned growth initiatives the outlook for the company is not very promising. The company expects marginal growth in earnings over the next year due to the macroeconomic factors affecting the buying habits of the customers. Furthermore, increased spending in e-commerce will also result in restricting the growth in earnings in the short-term. Another factor is the movement in the exchange rate - if the exchange rates remain unchanged, the company will report $3.5 billion less in sales for the next year compared to the last year. Taking into account the short-term issues, one can understand the decision to grow dividends at a slower rate. Despite having a healthy buffer in free cash flows, the company has decided to decrease the dividend growth rate which means that the company wants to divert more cash to capital expenditures, and management is expecting slow growth in earnings in the short-term at least.

Conclusion

It is understandable that the market is not happy with the decrease in the annual dividend growth rate. If a company does something that is not consistent with its long history, the market usually takes it as a red flag. Dividend investors are especially sensitive about these changes and a slowdown in the dividend growth rate usually results in driving these investors away from the company. At the moment, I believe the best strategy is to wait and see. I will not suggest adding Wal-Mart to the dividend portfolio as the future growth in dividends is susceptible. The company might not be able to take its dividend growth rate into double digits again. I believe dividend investors should look elsewhere for robust growth in dividends.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. IAEResearch is not a registered investment advisor or broker/dealer. This article was written by an analyst at IAEResearch and represents his/her personal opinion about the companies mentioned in the article. The article is for informational purposes only and it should not be taken as an investment advice. Investors are encouraged to conduct their own due diligence before making an investment decision. I am not receiving any compensation (other than from Seeking Alpha) for this article, and have no relationship with the companies mentioned in the article.