Wal-Mart (NYSE:WMT) is 50 years old this year. Before Sam Walton founded the company, he ran a franchised five and dime. In it he experienced the problems, such as excessive bureaucracy, that a large corporation can face. Today, Sam Walton is long gone and Wal-Mart is a huge corporation: 4th largest by trailing twelve month revenue. Yet an entire chapter of his autobiography, Sam Walton: Made In America, is spent on the topic of "thinking small." Perhaps this is why Wal-Mart has, somehow, maintained its distinct - and bare - character. The company has changed with time, but the present CEO Michael Duke still echoes Sam Walton when he uses the key phrases of merchandising: "we are never satisfied" and the "customer is #1."
Enough anecdotes, let's get to the finances.
The key to the discount retail business, according to Sam Walton, is to control "turn":
"...or [to control] inventory turn over - the ratio of sales to inventory. That's a key. The more you turn your inventory, the less capital is required. And all this involves getting the merchandise to the store at the right time, communicated how it's being priced and how it's being market down, whatever." 
Below, we can see how Wal-Mart's inventory turn over compares to the discounter Target (NYSE:TGT) and retailer Best Buy (NYSE:BBY). The "inventory days outstanding" figures below - while slightly different - are proportional to the inventory turn over ratio noted by Sam Walton. Notice Wal-Mart's dominance across this metric (lower is better):
As noted, Wal-Mart's $460 billion in TTM revenue is the 4th largest in the world. It is achieved between three segments: the U.S. segment, the international segment, and Sam's Club.
U.S. Segment - 60% of Sales - $264 Billion
The U.S. segment is the one we are most familiar with. Its square feet growth has averaged 2.9% per year over the past 5 years. Wal-Mart's has an employee force in the United States of approximately 1.4 million people (or about the population of Maine or Hawaii). As a matter of course, the company has opened up significantly more stores than it has closed--generally a good sign of growth:
Wal-Mart breaks down its U.S. revenue into the following segments, as a percent of sales:
While a dollar is a dollar, the money spent in the grocery section is notable because that specific revenue has a higher level of probable recurrence. Given that people shop for grocery's weekly, and if more people are going to Wal-Mart for their groceries, it is likely that they will do it again - the same cannot necessarily be said of the sales in entertainment.
Also, while the U.S. segment makes up 60% of revenue, it makes up about 76.7% of operating income - hence it is more profitable than the other segments. That said, in the past it made up an even greater portion of operating income. To segue into the next section, as Wal-Mart continues to expand internationally, it will increasingly diversify its income by country:
(Source: 2012 10-K "Portions of Our Annual Report," p. 5)
As one can see, Wal-Mart international has increased its percent of total operating income from 20.4% in 2010 to 23.4% in 2012.
International - 28% of Sales - $125 Billion
The international segment has been growing organically and through acquisitions. Here is a store count and square feet snapshot:
Wal-Mart's international stores exist under 70 different names in 26 different countries. (The different store counts by country can be found on page 7 of their 2012 10-K.) Notice that international stores are typically smaller than the U.S. stores: the average unit in the U.S. is about 162,000 square feet; internationally, the average is about 58,200 square feet.
Wal-Mart's future growth is almost entirely within the international - the global - market. It is their "growth engine." On the February 21, 2012 conference call, Mike Duke noted:
"Wal-Mart International delivered strong growth through comp store sales and a record number of new units, including the acquisition of Massmart and Netto. It's interesting to note that with more than $125 billion in sales last year, Wal-Mart International would clearly be among the top 3 largest retailers in the world." (Emphasis added.)
Including currency adjustments, they increased revenues (through acquisitions and organically) by 15.2% internationally last year. A 15.2% increase in revenues, from a company which could be within the top 3 largest retailers in the world, is an impressive figure. Their fiscal 2012 acquisitions allowed them to capture an additional 1,160 international stores or they approximately increased their international store count by 24%.
Sam's Club - 12% of sales - $58 billion
We are probably all familiar with the whole seller, so I'll just note their influence. At a unit count of 611, they have the same unit count as of 2009. But they are selling more and are more profitable:
Through their whole seller, they are also exposed the ups and downs of the oil price, as one can see from the "including fuel" part of the table. They recently began a "Great Gas Roll Back" promotion - a clever way to get new members.
Wal-Mart has been growing their dividend at about 12.55% a year over the past 5 years.
At the present share price of $73.51, and the dividend per share rate at $1.59, their dividend yield is approximately 2.2%. Let's throw those dividend growth rates into a table and pretend their dividend growth continues but their share price remains constant:
|Year||Dividend||Dividend Growth||Share Price||Dividend Yield|
Given that this article is written for the long-term investor, let us peer into the future using the recent past as a guide (i.e., the table above).
If Wal-Mart continues to grow dividends at the current rate, and if you purchased the shares today - with a cost basis of $73.51 a share - when time gets around 2020, you could be receiving a dividend of about 5 percent.
That itself is no shocker but you get paid increasingly handsomely the longer you wait - assuming, of course, the past is a decent guide of the future. A more important point is, however, that Wal-Mart's size and diversification is a protection against major loss (Wal-Mart's long-term debt has an AA rating from S&P and an Aa2 from Moody's).
Further, in the last ten years, Wal-Mart's dividend yield has never gotten much above 2.5%:
This is to say that if (1) such a trend in dividend growth continued and (2) if the share price relative to the dividend yield is similar to its past relationship, then there is a good chance there will be decent price appreciation in the share price. And that is just an argument for price appreciation from dividend growth; there are a few other reasonable means by which the present share price looks undervalued - which we will explore next.
Long-Term Price Appreciation
"Time is the friend of the wonderful business, the enemy of the mediocre." - Warren Buffett (1989 letter to shareholders)
Wal-Mart is not going to explode and disappear. Nor is it going to grow disproportionately in such a way to force its share price to enter a parabolic curve. But the same value the company has created in the last 50 years, it is poised to continue to create in the next 50 years - except this time it will be on a worldwide scale.
When we are talking about Wal-Mart, we are talking about the continued existence of one of the largest institutions delivering the goods necessary for human survival everywhere. And remember, the 55% of revenue from groceries can - in a loose way - be thought of as mildly recurring revenue (and, I hypothesize, also hence safer).
Bargain Versus Fair-Price
"It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price." - Warren Buffett (1989 letter to shareholders)
It appears to me that Wal-Mart is fair to undervalued at the present levels - which is interesting since Wal-Mart shares are just below its 52-week high:
Since I've quoted the master himself, note that Mr. Buffett has a stake in the company representing about 4.26% of his portfolio.
Valuation - Warren Buffett Style
Wal-Mart's 5-year revenue growth rate is about 4.3%. Last year, their FCF was about $10.7 billion. The interest rate on their longest-term debt, issued last year, is about 5.625%. The interest rate will be important later, because I treat it as a proxy for the proper discount rate to use.
Mr. Buffett, according to his 1992 letter, uses the theories of investment valued laid down by John Burr Williams in The Theory of Investment Value. Williams lays out various formula for determining the "intrinsic value" of a stock. Assuming FCF  is a good approximation of "pure" earnings (and Mr. Buffett suggests it is in the letter noted above), and also assuming Wal-Mart is a going concern, then:
Intrinsic Value = FCF / ( Discount Rate - Growth )
Let us assume that FCF growth will approximate revenue growth, but let's aim low: 3.5% growth, rather than 4.3%.
Let us further assume that the proper  discount rate is near their long-term debt interest rate, or: 7%, rather than 5.625%.
Intrinsic Value = $10.5 billion / (7% - 3.5%)
Intrinsic Value = $300 billion
Wal-Mart's current market capitalization is about $250 billion, making it undervalued - by a smidge - in our calculation above. But remember Warren Buffett's words: "It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price."
Using the equation above, and putting the market price in as the "Intrinsic value" we can solve it to look at it in various other ways. Most importantly if you pretend Wal-Mart is never to grow again, the discount rate assumed by the market would be 4.2%. But Wal-Mart is growing and the company is secure - using a lower overall rate would be crazy with other companies, but Wal-Mart's position supports a lower discount rate. Or, that is, it does if you believe that Wal-Mart's safety and history of growth will be reflected by its share price in the long term.
The point here is that Wal-Mart has a geographically diversified income stream, huge scale, a highly efficient distribution system and a proven business model based on giving customers the lowest price possible.
It may be near its 52 week highs, but that doesn't mean it is overvalued. With a long dividend history, a long history of growth, this company makes for an excellent long-term holding. The future may obviously present a better buying opportunity, but at present prices the company still looks attractive.
- Walton, Sam, and John Huey. "Recruiting The Team." In Sam Walton: Made In America. New York: Bantam Books, 19931992. 110.
- FCF = Free-Cash-Flow = Operating Cash Flow - Capital Expenditures
- There are a lot of ideas about discount rates, I tend to follow the work done by Keynes on this matter (as it is cryptically expressed in Chapter 11 of The General Theory Of Employment, Interest, And Money)