09 September 2010

WMT: Financial Gauge Analysis for the July 2010 Quarter

Wal-Mart Stores (NYSE: WMT) earned $0.97 per diluted share on a GAAP basis in fiscal 2011's second quarter, which ended on 31 July 2010.  Earnings per share were 9 percent more than the $0.89 Walmart made in the same quarter of the year earlier.

A previous article examined Walmart's Income Statement for the July quarter in some detail.  Reported Net Income of $3.596 billion exactly matched our estimate (a rarity!), but fewer shares outstanding allowed earnings per share to exceed by $0.01 the $0.96 we had forecast.

We have now updated the various financial metrics we use to analyze Cash Management, Growth, Profitability and Value.  This post reports on the metrics for Walmart and the associated financial gauge scores.  The metrics were calculated using data from Walmart's current and historical financial statements, including those in the latest 10-Q report.

Before getting into the details, we will take a step back to introduce the subject of today's analysis.

A retailing behemoth, Wal-Mart Stores, Inc., earned over $14 billion on net sales of $405 billion in the fiscal year that concluded last January.  The Revenue figure, along with a drop in energy prices, enabled Walmart to regain from Exxon Mobil (NYSE: XOM) the top position on the Fortune 500 list of America's largest corporations. 

Walmart has three reportable business segments: Walmart U.S., International and Sam’s Club.  At last count, Walmart operated 4304 stores in the U.S. (including Sam's Club) and 8416 in other countries.

Net sales by Walmart U.S. grew 1.1 percent last year, but comparable store sales declined 0.7 percent.  Concerned about slow sales at home, Walmart replaced the leader of Walmart U.S.

Additional background information about Walmart and the business environment in which it is currently operating can be found in the look-ahead.

In summary, Walmart's latest quarterly results produced the following changes to the gauge scores:

The current and historical values for the financial metrics that determine the gauge scores are listed below, with some brief commentary.  Readers are encouraged to verify these figures and calculate others as they see fit using the filings available at the SEC's web site and elsewhere.

Cash Management31 Jul 201030 Apr 201031 Jul 20095-Yr Avg
Current Ratio0.
LTD to Equity53.3%47.8%49.0%47.4%
Debt/CFO (years)
Inventory/CGS (days)40.840.943.045.2
Finished Goods/InventoryN/AN/AN/AN/A
Days of Sales Outstanding (days)
Working Capital/Revenue-2.4%-2.2%-1.8%-2.1%
Cash Conversion Cycle Time (days)
Gauge Score (0 to 25)1313711

The Cash Management gauge score didn't move with the results from the July quarter, but there were some changes to the financial metrics that drive the score.

Walmart's famed efficiency is reflected in how the company manages its cash and other financial assets.  For one thing, the business operates with negative Working Capital, meaning that Current Liabilities exceed Current Assets.  We would worry about the creditworthiness of a smaller company with this characteristic.  However, for powerhouse Walmart, negative Working Capital is a sign that the company doesn't keep more funds than necessary idling in low-interest bank accounts or sitting on the shelf as inventory.

The short Cash Conversion Cycle Time is also a sign of efficiency in handling cash flow, and it's remarkable that Walmart is still finding ways to reduce the cycle time.  A leaner Inventory, now under 41 days, is one of the ongoing efficiency improvements.

We would rather see Days of Sales Outstanding trending down, but 3-to-4 days is extremely low.

Walmart has taken advantage of this year's historically low interest rates to raise cash and refinance earlier debt obligations.  The company issued $2 billion of long-term securities in April, $3 billion more in July, and about ¥100 billion also in July.  On 31 July 2010, Walmart had $4.6 billion in outstanding short-term borrowings, $5.5 billion in long-term debt due within 12 months, and $35.6 billion in other Long-term Debt.  As a percentage of Shareholders' Equity, Long-term debt increased from 49 percent to 53 percent (a 10-year high) in the last year.  Total debt remains less than 2 years of the Cash Flow from Operations that could be used to redeem the debt.

Growth31 Jul 201030 Apr 201031 Jul 20095-Yr Avg
Revenue Growth3.6%2.5%1.4%6.0%
Operating Profit Growth6.5%6.2%5.2%6.6%
CFO Growth15.3%3.1%-7.0%62.4%
Net Income Growth12.1%11.4%-0.4%9.3%
Gauge Score (0 to 25)12818
Revenue, CFO, and Net Income growth rates compare the last four quarters to the four previous quarters.  The Operating Profit rate is the annualized rate of growth in Operating Profit after Taxes over the last 16 quarters.

The Growth gauge score rose four points in response to improved Revenue, Earnings, and (especially) Cash Flow growth.

Top-line Revenue isn't exactly rising at a robust rate, but the rate has been improving.  If the Revenue/Assets ratio was increasing, instead of holding steady, the Growth score would add a few more points.

Cash Flow from Operations rebounded strongly in the July quarter, putting to rest concerns about weakness in April.

The small rise in the Net Income growth rate is commendable given the tepid increases in Revenue.

Profitability31 Jul 201030 Apr 201031 Jul 20095-Yr Avg
Operating Expense/Revenue94.0%94.1%94.3%94.2%
Free Cash Flow/Invested Capital14.0%11.5%10.5%8.8%
Accrual Ratio-0.1%1.3%1.5%2.5%
Gauge Score (0 to 25)111068

The Profitability gauge score picked up a point because greater Cash Flow from Operations caused the Free Cash Flow ratio to rise and the Accrual Ratio to fall.

Operating Expenses as a percentage of Revenue have been remarkably stable.  Note that our definition of Operating Expenses includes both Cost of Goods Sold and Sales, General, and Administrative expenses.  Items in latter category grew at a slower pace than Revenue "primarily due to increased labor productivity and organizational changes ... designed to strengthen and streamline our operations."

The earnings-driven Return on Invested Capital stabilized in July, following improvements earlier in the year.  On the other hand, the recent strength in Cash Flow, mentioned above, led to a significant increase in the FCF/Invested Capital ratio.  It also led to a fall in the Accrual Ratio, which could be signaling improving earnings quality.

Walmart's Cash Flow tends to be volatile from quarter to quarter, so we'll have to check back after each of the next couple of quarters to see if the Cash Flow improvements continue.

Value31 Jul 201030 Apr 201031 Jul 20095-Yr Avg
P/E vs. S&P 500 P/E
Enterprise Value/Cash Flow (EV/CFO)8.510.110.010.6
Gauge Score (0 to 25)1071011
Share Price ($)$51.19$53.64$49.88-

The combination of a lower share price and better growth of earnings and cash flow added three points to the Value gauge score.

The P/E multiple was reduced from 13.8 to 12.8 in the last three months.  The reduction is a signer of greater value in the price of the shares.

The EV/CFO ratio is a variation of the P/E multiple.  One difference is that its denominator is Cash Flow instead of earnings.  Rising Cash Flow, therefore, resulted in a lower EV/CFO ratio.

The Price/Sales ratio has been flat.

Overall31 Jul 201030 Apr 201031 Jul 20095-Yr Avg
Gauge Score (0 to 100)44372938

July's results led to small rises in three of the four category gauge scores, with Growth achieving the largest gain in the quarter.  The rises combined to push up the Overall gauge score a full seven points to 44 of 100 points.

Full disclosure: Long WMT at time of writing.

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