Is Wal-Mart's Mexican Trouble Material?

Apr.23.12 | About: Wal-Mart Stores, (WMT)

The question Wal-Mart (NYSE:WMT) shareholders is asking today is whether reports of widespread bribery in Mexico are material to their holdings. The short answer is no.

Wal-Mart booked $446 billion in revenue last year, taking $15.7 billion of that to the bottom line. With shares falling below $60 in early trade, an implied PE of under 14 [against 25.5 for rival Costco (NASDAQ:COST)] many will see it as a long-term bargain, especially with a dividend yielding over 2.5%.

Besides, WMT owns "only" 69% of the Mexican unit, which trades separately as OTCQX:WMMVY. What the savviest traders are doing today is shorting that issue. The Mexican unit had revenues of $29.1 billion last year, net income of $1.7 billion. But it's growing faster than the parent and, since it's trading at more than twice the PE of the parent, it can probably take the hit.

So what's the big deal? Why is Wal-Mart sending out statements saying it's shocked, shocked that gambling is going on here and promising to arrest all the usual suspects?

Three reasons:

  • The story plays into a negative narrative, on top of claims of pay discrimination in the U.S., that could further tilt the retailing playing field in the U.S. toward Costco and other competitors.

  • We're talking about the Foreign Corrupt Practices Act (FCPA) and the former executive most directly involved, Sergio Cicero Zapata, may have other tales to tell.

  • Wal-Mart CEO Mike Duke was put in charge of the company's international unit in 2005 and may be questioned.

Wal-Mart's argument that this is "old news" doesn't wash. The FCPA carries criminal penalties and applies in many other countries through the OECD. In theory Wal-Mart could be kept from government contracts, and its operations in other markets could be hampered.

There is a reason why retailing is the toughest foreign nut for American companies to crack. The range of possible problems is enormous. And when you're talking about a company like Wal-Mart, that can absolutely dominate a market's retailing fairly quickly (as it is doing in Mexico) the danger is even more substantial.

Frankly, I think the need to find a model for smaller stores is more material to Wal-Mart's future success than the FCPA, but the stain here is unlikely to come off soon. So long as you know that, you may yet find an attractive entry point for buying shares.

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