Wal-Mart: A Dividend Pick for the Next 5 Years

Aug. 4.11 | About: Wal-Mart Stores, (WMT)

Wal-Mart Stores, Inc. (WMT) is the largest retailer in the world, operating in several countries. The company’s U.S. segment operates through discount stores, supercenters, as well as walmart.com. Wal-Mart International has additional retail channels such as hypermarkets, restaurants, apparel stores, Sam’s Clubs, and other online retail centers. With more than $400 billion of annual revenues, Wal-Mart has an unmatched scale in the retail business. The brand image combined with the large economies of scale offers Wal-Mart a great competitive edge over relatively smaller retailers.

Wal-Mart’s operating margin of 6% is slightly higher than the industry average of 5.7%. Net profit margin of 3.9% is also higher than the industry average. Its 52-week trading range is $50-$58. As of Aug 3, Wal-Mart was trading at $51.28 with a market cap of $178 billion. The company sports a ttm [trailing twelve month] P/E ratio of 12 and a forward P/E ratio of 10.5.

Wal-Mart has a 4-star rating from Morningstar. Wall Street has diverse opinions on Wal-Mart’s future. The bottom line is 5.6% growth, whereas the top-line growth estimate is 17.4%. Average five year annualized growth forecast estimate is 11.5%.

What is the fair value of Wal-Mart’s given the forecast estimates? In this article, the eighth in the series, I will show a step-by-step calculation of Wal-Mart’s fair value range using discounted earnings plus equity model.

Discounted Earnings Plus Equity Model

This model is primarily used for estimating the returns from long-term projects. It is also frequently used to price fair-valued IPOs. The methodology is based on discounting the present value of the future earnings to the current period:

V = E0 + E1 /(1+r) + E2 /(1+r)2 + E3/(1+r)3 + E4/(1+r)4 + E5/(1+r)5 + Disposal Value

V = E0 + E0 (1+g)/(1+r) + E0(1+g)2/(1+r)2 + … + E0(1+g)5/(1+r)5 + E0(1+g)5/[r(1+r)5]

The earnings after the last period act as a perpetuity that creates regular earnings:

Disposal Value = D = E0(1+g)5/[r(1+r)5] = E5 / r

While this formula might look scary for many of us, it easily calculates the fair value of a stock. All we need is the current-period earnings, earnings growth estimate, and the discount rate. To be as objective as possible, I use Morningstar data for my estimates. You can set these parameters as you wish, according to your own diligence.

Wal-Mart’s Valuation

Historically, the average return of the DJI has been around 11% (including dividends). Therefore, I will use 11% as my discount rate.

Since we are in the middle of the year, it will be more feasible to take the average of ttm EPS of $4.30 along with the mean estimate of $4.91 for the next year.

E0 = EPS = ($4.30 + $4.91) / 2 = $4.61

Wall Street holds diversified opinions on Wal-Mart’s future. While analysts tend to impose subjective opinions on their estimates, the average analyst estimate is a good starting point. Average five-year growth forecast is 11.15%. Book value per share is $18.68.

The rest is as follows:

Fair Value Estimator





E0 (1+g)/(1+r)




















Fair Value Range

Lower Boundary


Upper Boundary


Current Price




Click to enlarge

I decided to add the book value per share so that we can distinguish between a low-debt and debt-loaded company. The lower boundary does not include the book value. According to my 5 year discounted-earnings-plus-book-value model, the fair-value range for Wal-Mart is between $69.87 and $88.55 per share. As of Aug 3, Wal-Mart was trading at a price of $51.18. I like Wal-Mart, and I think the company is a must hold for the long-term. The current price indicates the stock is deeply undervalued. Based on my FED+ fair value estimate, Wal-Mart has 72.68% upside potential to reach its upper boundary.

O – Metrix Confirmation

If the math above looks too complicated for you, try estimating the fair value using the O-Metrix as such:

O-Metrix = [(Dividend Yield + Growth Estimate) / (P/E Ratio)] * 5

Dividend Yield: Higher is better.
EPS Growth: Higher is better.
P/E Ratio: Lower is better.

The back-testing of this valuation technique on 40 large-caps shows that O-Metrix works very well over the long-term, such as five years. I am also continuously checking on specific sectors, and the formula works very well so far.

What is the O-Metrix Score?

  • Wal-Mart offers a dividend yield of 2.83%. That is a bonus for shareholders.
  • Growth estimate is the same as the discounted earnings model and is equal to 11.15%.
  • Since we are at the middle of the year, taking the average of ttm [12] and forward [10.5] P/E ratios will smooth the results. Thus, the average P/E ratio to be used in the model is 11.25.

O-Metrix = [(2.83 + 11.15) / 11.25] * 5 = 6.21

Depending on the benchmark chosen, the market has an O-Metrix score range between 4 and 5. Wal-Mart’s O-Metrix score of 6.21 is above the fair-value range. Back-testing of this ranking system shows that companies with higher-than-average O-Metrix scores beat the market with lower volatility. The dividend yield is nifty, and the stock is under-priced. At a price of $51.28, the company is trading within the B-Grade, above-average-return zone.

Wal-Mart’s stock has always been priced at a premium due to its high growth potential. The average P/E ratio in the last 5 years was 15.5. Annualized EPS growth in the last 5 years was 10.77%. Wal-Mart performed better than the market in the last 5 years, returning 5.09% annually.

As of Aug 3, Wal-Mart was trading at $51.28, significantly lower than my fair-value range of $69.87 - $88.55. Wal-Mart has a great moat in the business. While Wal-Mart’s U.S. business is more or less saturated, the company has great joint ventures around the world. Wal-Mart’s international business has significant growth potential. Analysts also agree with me. The average target price is $60.52, implying 18% upside potential for medium-term. Thus, Wal-Mart is a dividend pick for the next 5 years.

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