Walmart: Looking for the Right Multiple Going Forward (NYSE:WMT)

Walmart (NYSE:WMT), the largest company in North America by sales, has not proven to be a market-beating investment over the past decade.

However, after several years of real estate consolidation, withdrawal from underperforming regions and a strong focus on e-commerce and advertising, it seems Walmart has reached a turning point.

What is the proper multiple for “New Walmart”? Let’s try to figure this out.

Understanding Walmart and a Quick History Lesson

Founded by Sam Walton in 1962, Walmart was born with the idea of ​​selling a wide range of goods at an “everyday low price.” Walmart quickly became a success and began to expand rapidly in the United States.

In the 1990s, Walmart expanded internationally, opening stores in Mexico, Canada, China and Germany.

Walmart embraced technology from the start, with store managers from across the United States communicating data and sharing ideas. They too developed the concept of a supercenter that combines grocery shopping with shopping for general goods such as furniture and clothing.

Today, Walmart is the largest company in the world by revenue and number of employees. Still, Walmart certainly has no shortage of competition.

Over the years, a long list of retailers has grown to enormous proportions, much like Walmart, while names like Costco (COST) and Home Depot (HD) have racked up hundreds of billions of dollars in sales.

Additionally, e-commerce giant Amazon has also taken a big bite out of Walmart’s profits.

Given Walmart’s massive scale and mature channels, it’s understandable that the company has struggled to grow faster than the market, and as a result, it’s logical that its stock has performed pretty much in line with the market (SPY).

However, since 2010, Walmart has invested heavily in e-commerce and advertising, withdrawn from unprofitable geographic markets and consolidated its presence.

Having achieved good health and created new opportunities, the market realizes that Walmart is ready for the next stage of growth:

So let’s take a closer look at Walmart’s prospects.

“Old Walmart”

Walmart has five main growth pillars, which are Walmart US, Walmart International, Sam’s Club, E-Commerce, and Advertising. “Old Walmart” refers to the company’s core brick-and-mortar businesses.

Walmart US operated 4,609 stores at the end of the latest quarter, up from a peak of 4,769 in January 2019. The segment grew sales at a 5.3% CAGR between FY17 and FY24, with e-commerce leading the way. The key competitive advantage here is grocery and Walmart’s unmatched geographic footprint, with 90% of Americans living within 10 miles of a Walmart store.

Walmart International operates 5,399 stores at the end of the last quarter. The segment has grown sales by 6.5% CAGR since leaving the UK, with e-commerce, Mexico and China leading the way. The key competitive advantage here is Walmart’s ability to leverage its strength in the US and apply its know-how to other geographies.

Sam’s Club, which is the company’s business club, operates 599 locations in the U.S., essentially the same number of stores from 2018. The segment grew sales at a 6.0% CAGR between FY17 and FY24, with e-commerce, home and apparel, and grocery leading the way. Sam’s Club is the second-largest club operator in the U.S., behind Costco.

“New Walmart”

Walmart’s legacy is solid and resilient. They will likely continue to lead the brick-and-mortar retail landscape in our lives by offering everyday low prices and maintaining stable margins.

That said, these traditional businesses, as we’ve seen, aren’t enough to outperform the market. So what’s changed? The answer is Walmart’s digital businesses.

Walmart is miles ahead of its traditional competitors when it comes to e-commerce and advertising. What’s more, its management team has wisely identified the company’s advantages over the overwhelming leader in Amazon, which is struggling to build a significant fresh grocery business.

E-commerce sales, which include all of Walmart’s revenues that are delivered digitally (pickup, delivery, fulfillment and advertising), nearly quadrupled between fiscal years 2019 and 2024 and are on track to grow more than 20% for another year.

In addition to leveraging its geographic presence and market advantage in grocery, Walmart is building a “closed-loop” advertising offering that bridges the digital and physical worlds — a feat that would be incredibly difficult for competitors to replicate.

In advertising, the most important capability is measuring return on ad spend. While companies like Alphabet (GOOG) (GOOGL) and Meta (META) have developed a very reliable way to measure conversions probabilistically, deterministic measurement will always be better. That’s why a company like Amazon is taking the digital advertising landscape by storm because it can close the loop between ad impression and purchase.

Walmart has similar capabilities and more. It’s currently the only company that can close the loop between digital advertising and physical shopping, and as long as physical shopping continues to be a huge part of retail sales, Walmart’s offering will remain incredibly desirable.

Despite this, Walmart is still far from being as attractive as Amazon in terms of advertising, as it still lacks inventory (ad space) and many other important services.

However, one of the main factors driving Walmart’s year-over-year results is undoubtedly its success in e-commerce and advertising.

Valuation and growth prospects

Walmart’s years of investment and restructuring have reached a critical point. All segments of the company are poised for the next stage of growth, and management is even considering expanding Sam’s Club’s reach.

E-commerce is gaining more and more popularity and the advertising industry is improving day by day.

All of this is reflected in the achievement of record high profit margins, as well as in the continued growth of MSD sales.

This situation should continue in the near future, and the management assumes sales growth above 4% and consistent expansion of the operating margin.

It’s no wonder Walmart stock is trading at its highest multiple in almost two decades (I used the enterprise value to earnings ratio because I believe there’s no noise there).

Looking at the company’s P/E ratios, we can also see an upward trend and a peak, with 28x forward earnings being 20% ​​higher than the 5-year average.

I know Walmart deserves a higher multiple today because confidence in its digital capabilities is at an all-time high. But it’s important to remember that Walmart is still a slow-growing company. While its size has a lot to do with it, let’s not forget that Amazon is almost the same size and is still growing at double-digit rates.

It’s also worth noting that several Walmart rival stocks that don’t have a similar digital history are also trading at top valuations, with Costco and BJ’s Wholesale Club (BJ) trading 38% and 24% above their 5-year average, respectively.

One way to look at it is that Walmart’s e-commerce success isn’t really priced in. Another way to look at it is that the market is extremely enthusiastic about the retail landscape in a somewhat unsustainable way.

In my opinion, Walmart could easily achieve 30x growth if it maintains its current strategy, which I believe it will, given its recently updated guidance.

That would be a fair price of $72.90 per share, reflecting a paltry 7.1% gain. With that in mind, I prefer Amazon, but I still consider Walmart a very decent buy.

Application

Walmart is showing that execution and innovation at scale (more precisely: at the largest scale in the world) is possible.

The company is far ahead of its brick-and-mortar competitors in e-commerce and advertising, which are also key drivers of Walmart’s future growth.

Additionally, Walmart has reached a turning point in optimizing its existing businesses through restructuring and consolidation.

I expect mid-single-digit earnings per share growth for the foreseeable future, in line with consensus, and estimate a fair multiple of 30x given Walmart’s competitive advantages and resilience.

This means a Buy recommendation, despite the relatively small growth potential in the short term.