Wal-Mart: Better Days Coming?

Better than any image-burnishing PR campaign are the economic factors that could push the behemoth's growth into overdrive

By Amy Tsao

On Jan. 13, Wal-Mart (WMT ) announced a public-relations blitz aimed at quelling criticism and lawsuits over its labor practices. The retailer ran full-page ads in 100 newspapers across the country and launched an informational Web site (www.walmartfacts.com). "For too long, others have had free rein to say things about our company that just aren't true," said CEO Lee Scott in a press release issued Jan. 13. "Our associates are tired of it and we've decided it's time to draw our own line in the sand."

What should investors make of this effort? While the campaign grabbed headlines, it probably won't have much impact in the short term. Indeed, Wal-Mart stock barely budged on the news. It has been trading from $50 to $60 for the past year (it closed at $53.99 on Jan. 14).

However, as Wal-Mart heads into a new fiscal year beginning Feb. 1, it has economic tailwinds in its favor. Increased revenues and potentially less negative publicity could result in a strong performance for the retailer for the next several years -- at home and abroad, according to most analysts.

BELOW FAIR VALUE?

  Certainly, the operator of some 3,600 retail stores, supercenters, Sam's clubs, and Neighborhood markets has just ended a year marked by controversy and slower sales among its lower-income customers. But Wal-Mart could be poised for greater growth, especially overseas. "We think the company is trading below its long-term fair value, which we figure is in the $60 range," says Eric Jemetz, senior equity analyst at Rockefeller & Co. (His company hold shares in Wal-Mart.)

Joseph Agnese, Standard & Poor's analyst agrees. An improving economy along with ongoing store expansion of about 8% should "bode well for a return to more robust sales and earnings growth over the next few years." Agnese rates Wal-Mart stock a buy and has a 12-month price target of $62. (S&P is an independent firm with no financial interest in Wal-Mart.)

The retailing behemoth's image as an irresponsible corporate citizen has created what many argue is an attractive opportunity for investors. JP Morgan analyst Shari Schwartzman Eberts notes that Wal-Mart shares are trading at about 20 times her fiscal 2006 earnings-per-share estimates and below Wal-Mart's 10-year price-earnings ratio average of 26.3 times. (JP Morgan has provided investment banking services to Wal-Mart in the past year.)

The consensus of analysts polled by First Call/Thomson Financial predicts sales growth of 11%, to $318.4 billion, in the fiscal year ending Jan. 31, 2006. EPS for the year are expected to rise by 14%, to $2.73.

CHEAPER OIL?

  Anticipated improvement in the broader economy will lend a big hand to the Bentonville (Ark.)-based retailer. Its customers -- mostly lower-middle and middle-income shoppers -- were hurt badly by high energy costs and mediocre wage growth last year. But many economists project improvement for those consumers in 2005.

On the energy front, oil prices in 2005 are expected to keep edging lower over the year as China trims its energy consumption. "We're looking for per-barrel oil prices in the low $40s" through most of 2005, says Carl Steidtman, chief economist at Deloitte Research, an arm of Deloitte Consulting (Deloitte Consulting has previously done work for Wal-Mart, but Deloitte Research has not).

U.S. wage income is also expected to reverse course. Some 2.3 million jobs were created in 2004, but real wages fell as expenses for health care and energy rose, says Steidtman. That undermined "the purchasing power of Wal-Mart's core consumer." But economists see better wage performance as health-care costs started to stabilize at the end of 2004.

LEGAL TANGLES.

  The megaretailer has also been aggressively moving into international markets. Rockfeller analyst Jemetz predicts that when the final numbers come in for 2004, international sales will top 20% of revenues for the first time ever. Canada, Britain, and Mexico have been strong markets for Wal-Mart. South Korea and China are still relatively small, but the company is on track for more store growth in those nascent markets. "This component will grow much more rapidly than its core U.S. operations" in 2005 and beyond, says Jemetz.

The risk of more negative news related to ongoing lawsuits is hard to quantify. "Court cases take on a life of their own," says Chuck Cerankosky, analyst at Keybanc Capital Markets/McDonald. (Wal-Mart is an investment-banking client of Cerankosky's firm). "I doubt they'll be resolved [in 2005]." Wal-Mart is the subject of a class action filed by female workers who claim they weren't given fair opportunity for advancement. It's also in talks with federal investigators over allegations it knowingly hired illegal immigrants.

But savvy investors might want to step back and look at the bigger picture: Wal-Mart is expected to post $287.4 billion in revenues for its fiscal year ending Jan. 31, 2005. Five years from now, it will likely grow into a $500 billion company, according to Sandy Skrovan of Retail Forward, a Columbus (Ohio) retail-industry market researcher that tracks Wal-Mart.

ON A ROLL.

  In a recent report forecasting the giant's size and scope at the end of the decade, Skrovan also predicted that Wal-Mart's share of all nonauto, nongasoline retail sales in the U.S. will grow from 8% today to 12% in 2010. "Wal-Mart waits for no one, demonstrating a remarkable capacity to manage the retail lifecycle and keep right on rolling," writes Skrovan.

Sure, Wal-Mart's public image may continue to take some hits, but if the economy goes on expanding and overseas sales growth continues apace, "rolling" is just what the retailing juggernaut could keep doing.

Tsao is a reporter for BusinessWeek Online in New York

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