Thursday, August 19, 2010

International Growth Highlights Wal-Mart's 2Q

We own WalMart (WMT) because it adopted value-based management a few years back.  It made return on invested capital its overarching objective.  The result was a change in strategy. Instead of driving sales growth by investing vast amounts in new stores in already saturated markets, WMT cut back on domestic capital spending and drove US productivity.  
It also exited markets like Germany where expected returns were below its cost of capital.  The growth would come from the fast growing emerging markets of China and South America. Those are the places that very profitable growth continues as was reported in today's earnings release.  From Morningstar $$:
Wal-Mart's competitive advantages and everyday low pricing strategy will stand under any operating environment. Moreover, as Wal-Mart gains traction in several high-growth markets such as Mexico, China, and Brazil, the international segment will become an increasingly critical component of our valuation assumptions. Trading at less than 13 times our forward earnings estimate and an enterprise value/EBITDA under 7 times, Wal-Mart shares look attractive.

Using excess cash flow to reduce shares outstanding has added about 2% to EPS growth since 2005.  With recession over in its business, WMT has stepped up buying shares so the increased ownership for existing shareholders will add about 4% to EPS growth.

Intrinsic Value

In the graph below we see WalMart's intrinsic value (red line) as measured by's default model matched up against share price (the blue columns).  You can see the increasing gap between a rising intrinsic value and falling or at best stagnant stock price.  These are widening gaps give us our margin of safety.  We can see that after the recession '08-09, the gap is beginning to widen again.

We are Long WMT until price catches up to its increasing intrinsic value per share.

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