Friday, October 16, 2015

Should I buy Wal-Mart stock at current levels?

On Wednesday, Wal-Mart (WMT) stock fell by 10% in a single day due to lowering its future estimates. This is a large drop from a company with a market capitalization of roughly 200 billion dollars and almost half a trillion in annual sales.

As an investor, I can do two things – I can either buy more or not do anything.

The case for buying more Wal-Mart stock is the fact that the shares are selling at a P/E of 13.10 and an yield of 3.30%. This is certainly the lowest valuation I have seen for Wal-Mart in quite some time. In addition, the company has recently approved a $20 billion dollar share buyback, which at current prices could retire approximately 10% of shares outstanding. While the company is expecting a hit to earnings through FY 2017 ( which is calendar year 2016), it then expects a rebound in earnings per share and slight growth. Furthermore, the company expects 3% - 4% annual growth in revenues over the next three - four years.

On the other hand, there is also the case against buying Wal-Mart for a passive buy and hold dividend portfolio. The first reason is that there has been no growth in earnings per share for the past three years. It looks like there will be no growth in earnings per share in 2015 and 2016 ( equivalent to fiscal years 2016 and 2017). Growth in dividends per share has been anemic for two years in a row as well. As a result, the intrinsic value of the business is not increasing either. This means that the compounding machine is not compounding – it is just treading water.



Despite the cheap valuation, I am leaning towards not adding to Wal-Mart. I want to buy a stake in a quality business at a decent price. However I also want to see growth in earnings and dividends, in order to be compensated for inflation. At a current yield of 3.30% and expected dividend growth of 3%, I do not believe I am well compensated for taking on more risk with Wal-Mart.

I realize however that I could be wrong in my decision. It is possible that the stock price could increase to say $80/share within a year, mostly due to changes in valuation, caused by changes in investor expectations. But then I would have to time my exit perfectly if the business hasn’t really returned to a steady rate of growth when this happens. This is time consuming, as I would have to sell at the right price and then find another company to compound my capital with. Otherwise, the valuation could quickly go down again or stay flat.

I don’t know about you, but I am not good with market timing. Most investors are bad with market timing too. As a result, I have found that time in the market trumps timing the market – but only if you have selected the right company that will grow earnings, dividends and intrinsic value for you over time. I do not want to micromanage my investments, but rather find the companies that will do the heavy lifting for me.

I could also turn out to be wrong about the long-term prospects of Wal-Mart. If the company returns to a conservative 5% - 6% annual growth in earnings per share, coupled with a 3% dividend yield, long-term investors could do pretty well over time. This is precisely the reason why I am holding on to my Wal-Mart stock.

As a long term investor I bet on improvement in the ability of the business to grow earnings per share, dividends per share and intrinsic value. I do not rely on valuation expansions nor do I rely on market timing. If you believe that things are temporarily weak, and the business will rebound over time, then it makes sense to add. However, it is a nice reminder that growth could be tougher for a company with $500 billion in annual sales

Either way, I will keep on to my existing holdings in Wal-Mart. I will reinvest dividends in tax-deferred accounts automatically (drip), but allocate cash dividends from taxable accounts elsewhere.

If I feel like speculating, I would sell a March or June 2016 put at or below a strike price of $57.50. The premium is $3.40 for the March contract and $4.20 for the June contract. If the company raises its quarterly dividend to 50 cents/share in early 2016, I would feel better earning a 3.70% - 3.75% yield from the get go assuming that the option is exercised.

What is your opinion on Wal-Mart?

Thanks for reading!

Full Disclosure: Long WMT

Relevant Articles:

Wal-Mart (WMT) Dividend Stock Analysis for 2015
The Only Reason for Automatic Dividend Reinvestment
The most important metric for dividend investing
What drives future investment returns?
How to value dividend stocks
Selling Puts: Pros and Cons for Dividend Investors

38 comments:

  1. Ciao DGI,

    From a "starter" prospective I have been adding WMT in the past 6 months as the valuation did fall quite sharply, it wasn't just a recent event. I agree that one should invest in companies that are pretty stable, WMT, for what I have learnt, has a top of the range logistic department, but a poor online implementation. I think that the investments that they are planning are correct, I also think that if they succeed Amazon might have a new competitor to worry about, but pretty much like you I am not adding unless the price falls in the 55$ range. At that point I might be inclined into averaging down a little... :P

    Ciao ciao

    Stal

    ReplyDelete
    Replies
    1. Thanks for stopping by. WMT could be a good buy if you believe that earnings per share and dividends per share could grow at about 5%/year, and you get a 3.3% started yield. If earnings and dividends cannot grow more than 2- 3%/year, it might not be a good idea.

      Best Regards,

      DGI

      Delete
  2. Wmt is a buy for long term investor

    ReplyDelete
    Replies
    1. WMT is a great company. I am not sure about adding at this moment. Good luck in your investments!

      Delete
  3. I wouldn't be rushing out to buy shares here because I think there's much better options. As you pointed out the value looks good but the fact is that they won't be able to grow the dividend much, if at all, above the token $0.01 per share increases until real growth returns. If I had a boatload of cash on the sidelines right now then I'd probably add a bit more here but I've got a decent exposure to brick and mortar retail so I'm in no hurry to add much more. I'm not selling my shares but WMT also isn't on the top of my watch list.

    ReplyDelete
    Replies
    1. HI PIP,

      Thanks for stopping by. I agree with you that there are better opportunities elsewhere. WIthout sustained growth in earnings, future dividend growth is going to be limited.

      Good luck in your passive income pursuit!

      DGI

      Delete
  4. I don't have enough conviction in the company to start a new position in Walmart. I go there, when I have to. I just don't feel excited about the company or stock. That is reason enough for me to not buy. I agree with your position and assessment.

    ReplyDelete
    Replies
    1. You are doing the right thing of not doing anything, since you have no conviction and opinion on the company. There are 100 other dividend champions to research.

      Good luck in your dividend investing journey!

      DGI

      Delete
  5. Hi DGI,

    Thank you for sharing your thoughts on WMT!

    I was planning to add few shares to average down my previous purchases, but now I like your idea about selling put so we could buy it even lower price than now if the option is exercised.

    Keep up your good work

    Cheers,

    ReplyDelete
    Replies
    1. Hi FJ,

      As usual, there are pros and cons to selling a put. You might like this article:

      http://www.dividendgrowthinvestor.com/2014/09/selling-puts-pros-and-cons-for-dividend.html

      Good luck in your dividend investing journey!

      DGI

      Delete
  6. I'm waiting. WMT labor costs will rise another 10% next year, higher benefits, higher government taxes and regulations, and possible USA recession looms in 2016. I think all retail will be taking a big revenue hit after a poor Christmas season. People are broke with too much debt and millions of illegals are suppressing the labor market. Long discount retailers TJX and ROST.

    ReplyDelete
    Replies
    1. Given the low unemployment rate, I would imagine that holiday sales will be pretty neat

      Delete
  7. long term investments in their tech infrastructure will take time but should result in a better shopping experiance & payoff. Growth for any company long term depends on the overall economy of the nation & its ability to adapt to conditions such customer shopping habits. wmt overseas as with any multinational has strong dollar headwinds when reporting sales & earnings when converting to dollars. Also any debt paid in foriegn currency has a equal problem of deflation.

    ReplyDelete
    Replies
    1. Thanks for commenting. The problem is that WMT is just so huge, so future growth could be low.

      The economy is doing just fine today, though it could always be better. The US economy has been doing really well in the past 6 years, relative to Europe or many of the former emerging market stars...

      DGI

      Delete
  8. You guys are funny. If you wouldn't buy it now because the future prospects from now aren't good, then why would you hold it? If you see better options now, why would you not move your cash to the better options? Or at least just sell off your current profit to take a huge discount in taxes. I don't understand the 'this stock stinks, but I'm going to keep it anyway.' Mentality, unless you bought it so insanely low that your effective dividend is through the roof, but Walmart has been roughly the same price forever and a day.

    ReplyDelete
  9. I added to my position yesterday morning. Near term lack of earnings growth is due to positive wage pressure (ubiquitous to the industry) and store front modernization, which I think enhances its long term competitiveness. Companies like Kmart, and Sears refused to modernize the shopping experience until it was too late. I generally don't like retail as a sector, since consumer preferences can change rapidly. Nevertheless, I make an exception of Walmart because they are a cash machine and represent THE place where middle income to lower income people shop. Scale is such an advantage for them. I might buy some more as dividends become available.

    ReplyDelete
    Replies
    1. In my analysis of retail companies, I have noticed that a concept that is not growing in terms of stores is possibly close to its peak. I am willing to give WMT the benefit of the doubt with existing positions however, but not new money.

      I shopped at Sears last year/early this year and the checkout experience was really terrible. I went to three separate individuals who looked like cashiers, who referred me to each other. A bad person, could have easily just walked out the store, as there was noone willing to take responsibility for checkout.

      Delete

  10. I prefer not to buy retailers but having WMT as a small position in your portfolio (1 to 3%) isn't terrible at this price. It is one of the leading retailers in the world. I have been a prior shareholder. However Amazon is a formidable retailer that the market loves.

    That said, I am not a huge fan of the company business model, nor of shopping there. I might avoid it for that reason.

    ReplyDelete
    Replies
    1. Thanks for stopping by and commenting!

      Delete

    2. No problem. I also forgot to say, where is the company's moat? What's to stop me from going to Amazon, Costco, target, a Dollar store, or local grocery store?

      Delete
  11. DGI,
    You pretty much nailed the question of the day. Hold or buy more? I am on the sidelines, but will probably buy more if the price drops to $55 per share, and would add at $50, $45, etc unless something changes. I listened to much of the Q&A period and to Jim Cramer's interview of the CEO. The plan seems to make a whole lot of sense IMO. Getting a 3%+ dividend and the benefits of the $20B stock buy back in a low risk stock doesn't seem to be a bad bargain, but when has the market ever acted rationally? So, I am DRIPing shares in my 401k while I wait for a bigger discount.
    Thanks,
    Keith

    ReplyDelete
    Replies
    1. Keith,

      It's a tough question. It was easier to avoid WMT a few months ago, when I analyzed the stock.

      Now, after a drop below $59/share, it is more nuanced, as I try to think about the long term performance of the business. Of course, there could be a really low price at which the business will be a bargain even if it doesn't really grow by much.

      To be honest, I would much rather have gotten a special dividend than a share buyback. The buyback just uses our money to provide more ownership to the Walton family.

      Delete
  12. Think you're making the right choice DG - Very interesting how much this topic has popped up across various investment forums. WMT just doesn't have the competitive moat it once had and given its heavy exposure to brick and mortar in areas that are experiencing wage stagnation, it's best to hold than buy IMHO.

    ReplyDelete
    Replies
    1. Thanks for reading.I am thinking that just because something has gone down in price, it doesn't mean that it is automatically a buy. If fundamentals have deteriorated, the price decline could be justified.

      Delete
  13. I purchased 300 shares this week with some rollover 401k money. Didn't have a position before this. The valuation is just too cheap and the company is too important to the world in my opinion. Similar to the energy companies and their tumble over the last year. It is also a good hedge against a downturn. Cheers!

    ReplyDelete
    Replies
    1. Hi Dan,

      WMT is cheap, but if it doesn't grow earnings over time, the dividend may not grow much either.

      DGI

      Delete
  14. Personally, I think it's an opportunity. The lack of growth is a huge negative, but WMT has been such a stable income payer, I've held it for over 10 years now and felt good about it during the recession. I think you're right about selling puts, I wouldn't add to my position today, but the huge volatility spike has pushed the premiums up, we can get a decent income play off of selling relatively conservative puts. Rinse and repeat, or worst case end up owning another lot at prices lower than today.

    ReplyDelete
    Replies
    1. Hi Dividend Chimp,

      Thanks for reading and commenting!

      Good luck in your dividend investing journey!

      DGI

      Delete
  15. I like WMT's desire to invest in their employees and infrastructure, especially E-commerce, to be a contender against AMZN. I also like that they are paying us the dividend while we wait for that to happen. You mention companies not growing store count might be at peak, but WMT will be opening more stores in the next couple of years. http://corporate.walmart.com/_news_/news-archive/2014/10/15/walmart-will-accelerate-investments-in-e-commerce-and-moderate-global-square-footage-growth
    I always appreciate your articles and opinions!
    -J

    ReplyDelete
    Replies
    1. You are correct that there is some growth in square footage and number of stores. The problem is that the growth is low at something like 1 - 2 %year. The thing I don't like is that earnings per share has gone nowhere for a few years.

      Of course, if WMT as a business does better than expected in 5 years, today's valuation would seem like a bargain.

      If however it fails to grow revenues and earnings per share by more than 2%/year, then it might actually seem overvalued today.

      Delete
  16. I think if they don't improve their shopping experience and expand their online business and deal with labor issues they will struggle going forward.

    ReplyDelete
  17. Hi, DGI

    While I have some WMT in my divdiend growth portfolio, I agree with you on just holding existing position. Although WMT couldn't increase its earnings recent years and even expects drop some in next couple years, it has reletively low payout ratio which I don't have to worry about it's dividend growth. And the reason for drop in earning is partially from e-commerce investment which I believe WMT may need to dig in at some point. I think WMT's competitor is not only large discount stores like TGT, but also online retailer like Amazon more important in futrue. WMT's low payout ratio gives me a time to wait at least like 3-5 years.

    ReplyDelete
    Replies
    1. Hi Steve,

      You are absolutely correct that WMT competes with likes of AMZN, COST, TGT, DG etc.

      For e-commerce, AMZN actually earns pretty much no profits, so it is yet to be seen if those new investments will yield a profit or they are necessary to merely maintain the status quo in earnings.

      I am usually not a big fan of dividend growth due to expanding dividend payout ratios, because there is a limit to that growth. I would much rather see earnings growth as well.

      Best Regards,

      DGI

      Delete
  18. There are few things you have to go to Wal-Mart for. To me, how I see wage increases, higher the wages, lower the chances small businesses can profit against Wal-Mart due higher cost Wal-Mart can afford much easier than smaller businesses. Also, higher wages mean higher expectations from Wal-Mart more chances better performance from employees better the overall shopping experience it will in future. Also, laying off those not-so worth employees and get replaced with better employees.

    As far as profit is concerned, it will be lifted up in couple of years. It takes time to go thru the changes like this big. Once fully absorbed in the system Wal-Mart will still make money. Unlike Amazon.

    Thanks.

    ReplyDelete
    Replies
    1. Hi Jigar,

      Thanks for commenting. I am hopeful that those investments in e-commerce yield profits, and not just empty revenues.

      Best Regards,

      DGI

      Delete
  19. I had not owned any WMT until now. Added a few shares at an attractive price. Their online and store prices still beat Amazon so I think they will do good in the long haul. The earnings flatline though will probably stop me from adding to many shares.\
    Have a good one,
    DFG

    ReplyDelete

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