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Summary

  • Goldman Sachs downgraded Wal-Mart from buy to neutral.
  • Competitor encroachment on Wal-Mart poses a serious threat.
  • Wal-Mart will have to realign itself to a changing customer base to regain its position on top.

There has been a lot of buzz this week concerning the downgrade of Wal-Mart (NYSE:WMT) from buy to neutral by Goldman Sachs (NYSE:GS). Goldman attributes the drop to declining profits and in-store sales. WMT stock is down about 6% YTD despite a rising market. This downward trend can be partially blamed on a shift in consumer preference. While customers used to be all about variety and the "one-stop-shop," there is now more desire for value and convenience. Wal-Mart must realign their strategy with this shift in order to regain the market share that they have lost to their current competitors.

Amazon

The rise of e-commerce has led to decreased consumer value in retail locations with large product assortment - and who does ecommerce better than Amazon (NASDAQ:AMZN)? Amazon consumers are now less motivated to use valuable time (and gas money) on a trip to a physical store when the same assortment of goods is offered online, and with free delivery. Amazon has also followed Wal-Mart by entering the grocery space. However, through Amazon's "subscribe and save" program, customers receive the added convenience of automatic refills and delivery right to their door. "Everybody needs diapers and everybody needs toothpaste," Charles Fishman, the author of The Wal-Mart Effect, said. "People have figured out that buying it online is easy and inexpensive and you don't have think about it."

Dollar Stores

While I am still skeptical about the sustainability of the dollar store sector, it cannot be ignored in conversations about Wal-Mart. This is because they have encroached on Wal-Mart with their very similar customer base - lower income, rural shoppers. A major differentiator between the two formats is convenience. With a higher number of stores, dollar stores are more accessible than Wal-Mart locations. Also, the recent acquisition of Family Dollar by Dollar Tree (NASDAQ:DLTR) will leverage economies of scale, and make the company more competitive on a cost basis with Wal-Mart. So now, dollar stores will not only be more convenient, but will also compete on price.

Costco

If you're wondering where Goldman's confidence now lies, look no further than membership-only warehouse club Costco (NASDAQ:COST). Although Costco similarly lacks the convenience factor, the company makes up for it with value. By selling in large quantities, Costco charges very low mark-ups. This deep discounting provides a value proposition that is compelling enough to encourage customers to drive the extra distance.

Can Wal-Mart Bounce Back?

After 40 years of being in business, I don't see Wal-Mart going anywhere any time soon. However, it is imperative that the company re-evaluate their strategy to align with changing consumer preferences. I see two potential ways for the company to regain their competitive advantage:

1. Acquisition of Dollar General

I believe the acquisition of a player in the dollar store segment would be the easiest and fastest way for Wal-Mart to transition into a more convenient store format. With over 11,000 locations and an increasing trend in net profits, Dollar General (NYSE:DG) may be a strong choice.

2. Expansion of Their Private Label

Consumer trends show increasing acceptance of private label merchandise. Not only does an expansion of Wal-Mart's private labels offer the company a higher margin and more control, but price savings can be passed on to the consumer. Lower prices on private label merchandise may be an effective way to recapture the customer segment that Wal-Mart is losing to dollar stores.

Beyond just these two opportunities, I think a close eye should be kept on Wal-Mart's next move. With any strides made towards a more convenient or value-driven shopping experience, I think Wal-Mart is a "buy".

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

Source: Goldman Sachs Expresses Concern For Wal-Mart - Should You?