Saturday, October 29, 2005

Wal-Mart structure

Sometimes I find myself reading through the court documents for lawsuits filed against Wal-Mart. Usually those documents are filled with a bunch of garbage posing as factual information. Occasionally, though, some interesting information is found.

Below is a description of Wal-Mart’s operating structure which was published in a court document in 2003. The only advantage to reading the text here is that I removed all of the legal cross references and footnotes to make the text readable. [The following should be taken with a grain of salt in that this information was produced from an anti-Wal-Mart lawsuit and does not come from the company's official filings.]

There are a total of 41 regions: 35 Wal-Mart regions and six Sam's Club regions.

Each region is supervised by a Regional Vice President (RVP), who is based in Bentonville and travels for three weeks out of each month to the region.

Because the regional management is based in Bentonville, Wal-Mart has an unusually high concentration of executives and managers based in the Home Office.

Regional management meets at least weekly with Bentonville-based corporate and executive leadership to discuss developments in the individual stores.

Each region, in turn, contains approximately eleven districts; each district contains approximately six to eight stores.

Each district is run by a District Manager, who lives in the field.

At Sam's Club, district managers are called Directors of Operations, but the job responsibilities are identical.

On personnel matters, District Managers work in conjunction with Regional Personnel Managers (RPM).

The RPMs are based in Bentonville and are responsible for recruiting and assist in selecting store management and monitoring personnel policies.

RPMs visit the stores on a weekly basis and submit reports to five People Directors in the Home Office.

Each Wal-Mart store has the same job categories, job descriptions and management hierarchy.

At the bottom of the ladder, the primary entry level hourly positions are cashier, sales associate and stocker.

The first step up is hourly Department Manager.

Other hourly supervisor positions include Customer Service Manager (CSM), known as Check-Out Supervisor (COS) at Sam's Club.

The highest level hourly manager at Wal-Mart is Support Manager.

The next step up is to management trainee, a four-to-five month program which prepares employees for positions as Assistant Managers.

The first salaried management position is Assistant Manager.

Each store has several Assistant Managers, varying with the size of the store.

The next level is Co-Manager, a position used only in larger stores.

The top store position is Store Manager, called General Manager in Sam's Clubs.

The stores contain 40-50 different departments.

Wal-Mart data sources

All of the data on my blog comes from public data sources.
The primary source of this public data is Wal-Mart's filings with the SEC.

Wal-Mart's CIK number with the SEC is 104169.
The CIK number is the Central Index Key and it is the number that the SEC uses to identify all filings related to Wal-Mart.

The link below will take anyone to all of the most recent Wal-Mart filings at the SEC.

Form 10-K = annual financial statements
Form 10-Q = quarterly financial statements
Form Def 14A = the proxy statement

You can get almost everything from those three types of forms.
For some additional information, you can consult the company's official annual report, which is available here.

Monday, October 17, 2005

Wal-Mart and the concept of upscale shopping

My friend Kevin Brancato recently wrote the following:

Wal-Mart will have the challenge of keeping its low-price inventory, but also must provide a more upscale experience. Wal-Mart will stay (relative to its competitors) near the bottom in terms of service and shopping experience, but the expectations of the bargain shopper will have risen, so that people will expect greater service and comfort along with prices.

This point is very interesting to me. I have to think about that one. If Wal-Mart ever aims for a more upscale demographic category, or wishes to broaden out of its main base more into that category, I would assume they would have to increase the capex per store where they want to do this. If anyone hears of a store in the system (Supercenter or Discount) where this is happening, please let me know. I will go visit the store to see what's happening there.

Mainly I would be interested in an existing store with a known lower end demographic customer base that Wal-Mart is trying to move up the demographic chain. I would in fact be astounded to see that. I would secondarily be interested in a store that is new that was clearly built with greater than average capex. Before pointing it out, please make sure that the upscale nature of the store is clearly evident.

Also, any articles or press releases about any moves by Wal-Mart to increase its capex per store (above the rate of CPI for example) would be interesting to me.

Regarding consumer preferences for a more upscale shopping experience, I don't know. We have the number one Supercenter in the region at 2727 Dunvale Road in Houston ..#2066. (It was running around #2 or #3 before Katrina and went to #1 after so many people moved here from Louisiana.) You go in there and it's basically a mob scene most of the time. No one is going there for an upscale shopping experience and no one really cares about an upscale shopping experience. They just want their stuff and they want lots of it and they want it cheap.

We also have what I believe is the number one Discount Store in the region. Wal-Mart Store #2718 at 9555 South Post Oak Road. I'm told they do almost as much business in there as a Supercenter. It's also a zoo most of the time and again no one is thinking about a more upscale shopping experience.

Regarding the upscale shopping experience idea.. I can't help but think about Wal-Mart's primary business model: sell it cheaper than the next guy, and do it by keeping your costs lower than the next guy.

Rose Blumkin (the great Mrs. B) who started the Nebraska Furniture Mart in Omaha used to say something along the lines of "If you have the lowest prices, customers will find you at the bottom of a lake."

I think the low cost, low price idea is the primary driver, the primary concept, behind all of Wal-Mart's activities. As long as customers are pounding their way through the door, if it costs less to sell at the bottom of a lake, why spend the money to sell in a nicer looking store?

Saturday, October 15, 2005

Wal-Mart graphs and charts

Wednesday, October 12, 2005

Gasoline prices and Wal-Mart's profitability

A bit of a debate is occurring on this subject over at Kevin Brancato's blog Always Low Prices.

I've contributed to the debate and you can click here to find it.

ps. The main takeaway from the debate, I think, is really just that, in a price competitive business, the low cost operator wins.

Sunday, October 09, 2005

Wal-Mart's Best Bargain

The article below came out in Barron's over the weekend. I will probably need to delete it off this site in a week or so as it is copyrighted.

By Robin Goldwyn Blumenthal
Barron’s, 10/8/05

IT WAS A LONG, LONG TIME AGO that shares of Wal-Mart Stores were last this cheap. Newt Gingrich was speaker of the House, most people hadn't heard of the Internet and O.J. Simpson was on trial for murder. Chances are, it'll be quite awhile before they're this cheap again.

At a recent price of about 44, the shares are trading at just 14.6 times estimated earnings for next year, the stock's lowest multiple since 1995. And for the first time in practically as long, Wal-Mart's P/E isn't any higher than the broad market's; it has often been about 30% higher.

The world's largest retailer is famous for its "everyday low prices," but investors today may be getting something even better: a once-in-a-decade low price.

While the stock has been sliding for the better part of two years, it could soon get a lift from a variety of forces -- from changes in Wal-Mart's management and merchandise to Americans' renewed zeal for bargains in a time of high gas prices. Just last Thursday, the Bentonville, Ark., behemoth reported that same-store sales climbed 3.8% in September, at the high end of estimates, easing fears about the hurricanes' impact. The news caused Wal-Mart's stock to buck the day's drop in the Dow and climb by 1%.

That may be just the beginning. Citigroup analyst Deborah Weinswig thinks the shares can rise more than 40% over the next year, to $63. Says she: "In an environment like this, with higher gas prices, the idea of a hypermarket where you can do one-stop shopping is a success."

Wal-Mart, and its shares, do face some real challenges. As anyone with a passing familiarity with the company knows, Wal-Mart in recent times has been the subject of almost uniformly bad publicity over labor practices. At the same time, it has been facing cutthroat competition around the world.

But through it all, another story has been quietly playing out: Wal-Mart has actually increased its profitability.

The company's profit margins this year, 3.5%, are higher than the average of the past 10 years, points out Marsh Douthat, an Atlanta money manager who runs Financial/Market Management, which focuses on large-cap companies from a value-oriented, quantitative perspective.

And Wal-Mart has only gotten bigger. With 1,253 Wal-Mart stores, 1,876 Supercenters, 555 Sam's Clubs and 95 Neighborhood Markets (geared to urban areas), as well as more than 1,600 stores internationally, Wal-Mart has more than tripled its revenues in the past 10 years, to an expected $317 billion next year. Despite its sheer size, the company has managed to grow twice as fast as U.S. GDP.

Douthat describes Wal-Mart as "basically a sales- per-share and multiple-expansion story." He notes a projection by Value Line that Wal-Mart's sales per share will rise to $123 annually from $86 over the next three to five years. If profit margins remain roughly at the current 3.5% level, "even if the multiple doesn't do anything the stock will go up 65%," says Douthat.

Then there are stock buybacks, another seldom-noticed piece of the Wal-Mart story. With 4.16 billion shares outstanding, the company has bought back about 320 million shares over the past five years, a trend that could well continue over the next five years. That would only enhance per-share earnings growth, which already is expected to be in the high teens.

"At some point," Douthat quips, "who's left to hate Wal-Mart?"

To some extent, Wal-Mart's shares are caught up in a broad funk for big stocks. Many have been going nowhere for the past several years. But Wal-Mart, unlike many of the others, has kept up its earnings growth, more than doubling profits over that span.

In fact, Wal-Mart has achieved a hefty average return on equity of 22% in the past five years. Moreover, Wal-Mart, in contrast to other large-cap names, is actually underleveraged, with debt of just 14% of enterprise value (market value plus net debt), no unfunded pension liabilities and scant stock-option grants. With the exception of Home Depot, Wal-Mart is among the cheapest of the best-known big-caps, such as Coca-Cola, General Electric and Microsoft.

To bulls, Wal-Mart's stock price is an opportunity not to be missed. They point out that Warren Buffett has stated several times that his worst investment mistake was not buying a full position in Wal-Mart in 1997 -- and the stock was trading at a higher price/earnings multiple then. Some other noted value investors are said to have started buying shares earlier, at prices higher than today's.

Still, there's hardly unanimity on Wal-Mart's prospects. Skeptics argue that it will be difficult for Wal-Mart to continue to expand stores domestically without cannibalizing its existing store base, and that international expansion, which has very low margins, won't be enough to make up the differences.

CEO Lee Scott begs to differ; he has said there's enough demand for about 4,000 additional supercenters in the U.S., including the expansion of 1,200 existing stores. And the overseas push looks to be far more successful than similar forays by other big companies. Wal-Mart's international sales, at $60 billion a year, match the size of Target's whole operation.

While analysts have voiced concerns that high gas prices will crimp consumer spending, that view may prove to be short-sighted. Wal-Mart's customer base could very well widen in tough times, with the stores maintaining their lower-income base and gaining some higher-income consumers who are looking to save some money. The first look at winter heating bills just might convince some Bloomingdale's shoppers that the time has come to step down to Wal-Mart.

Wal-Mart is certainly courting such buyers. It has been trying to spruce up its fashion image, putting the highly regarded John Fleming, who spent 19 years at Target (TGT), in charge of marketing and offering more in the way of higher priced, branded fashions. It has been rumored to be considering buying Tommy Hilfiger (TOM), the upscale clothing brand. It already has started selling such higher-end essentials as 400-thread-count sheets and making the stores more inviting with such touches as faux-wooden floors.

The strategy of bringing in more fashionable products and making the stores more appealing should help to drive up the average ticket and increase the number of sales.

Citigroup's Weinswig says she's heard that Metro 7, a new line of urban apparel for women due to be rolled out in 450 stores this fall, has "blown the doors off" the stores it's been tested in.

Wal-Mart, for its part, has been sending out positive signals about its total sales. CEO Scott told a recent Prudential Equity conference that back-to-school shopping "was just awesome," adding, "I think it sets the tone for what the holidays are going to be like."

Scott has moved aggressively to beef up his management team, creating what Weinswig calls "deep bench." In just the past year, Wal-Mart has hired brand expert Stephen Quinn from Frito-Lay as senior vice president of marketing, and moved Eduardo Castro-Wright, formerly chief operating officer of Wal-Mart's successful Mexican operations, to chief executive of the domestic operations.

Castro-Wright "does a phenomenal job of assessing the markets and making sure you have the right product in the right market," says Weinswig.

Wal-Mart, she predicts, will now spend more time looking at "how every store and every market will be tailored to the local customer."

In another key move, the company recently named its head of domestic operations, Mike Duke, and the head of international operations, John Menzer, as vice chairmen, and swapped their jobs. The appointments have helped take up the slack after Tom Coughlin, the former vice chairman, resigned amid a federal investigation into expense-account fraud.

Meanwhile, Wal-Mart has increased its stake in Japanese retailer Seiyu and taken a 33% interest in Carhco, Central America's largest retailer -- moves that Weinswig says will help move the company toward its goal of generating one-third of earnings growth from international operations.

In all, Weinswig sees a sense of urgency from the CEO, a real focus on expenses, and improved marketing and merchandising.

Her $63 price target is based on an '06 multiple of 20.5. That, in turn, reflects her expectation that the merchandising shifts and 15% to 18% growth in square footage will help drive more consistent same-store sales growth -- in the 3% to 5% range -- and translate into earnings growth of 15% to 18%, as well.

Says investment manager Douthat: "You have to look at these financials and say, who are we to distrust the people who have created this?"

Saturday, October 08, 2005

Bergdahl on cost consciousness of Wal-Mart

Chapter 5 of Michael Bergdahl's book is about Wal-Mart's legendary cost-control culture. Most of us have already heard the examples of Wal-Mart executives (including CEO Lee Scott) sharing hotel rooms while out on the road.

My favorite example, though, is the one about Wal-Mart personnel in the corporate headquarters in Bentonville being required to use both sides of a piece of paper before throwing it away.

From page 122..
       "Even the janitor gets into the cost-control act. One morning I walked into my office and the night before the janitor had carefully placed a 'Grim Reaper paper waster' card squarely in the middle of my desk to point out to me I was wasting company resources. As it turns out, I had thrown paper that hadn't been used on both sides into my trash can. ... That was the last time I wasted a piece of paper. I became obsessed like everyone else about controlling paper costs."

Friday, October 07, 2005

A photo from the 1980 Annual Report

WalMart truck 1979
I love the old Wal-Mart logo on the side of that truck.

Believe it or not, you can still find some of those old logos out on the road occasionally. Here is a link showing some modern day Wal-Mart truck pictures. (Take a look at the third one down on the right.)

Thursday, October 06, 2005

Everything you need on Seiyu ... in English!

Just as I was bemoaning that Seiyu's financials aren't available in English, a very smart colleague pointed out that they are available in English.

And now... Seiyu's financials in English.

Wal-Mart's interest in Seiyu is held by Wyoming Holding GmbH, a Swiss subsidiary of Wal-Mart Stores Inc. That structure is not unusual. I point this out just so you can locate Wal-Mart's ownership entity on page 33 of Seiyu's 2005 Annual Report.

Wal-Mart valuation

In case you're dismayed with the falling market price of Wal-Mart and want to call the Walton family to suggest a joint buyout of the company with them, I have added a valuation page here with all the pertinent private equity valuation metrics.

Wednesday, October 05, 2005

Wal-Mart Supercenter projected growth in U.S.

As mentioned before, the white hot core of Wal-Mart’s business is the Wal-Mart Stores operating segment (U.S. Supercenters, Discount Stores, and Neighborhood Markets).

Nothing in retailing, to my knowledge, on the face of the earth comes close to the awesome power of the Supercenters + Discount Stores operation. (Operating margins on the order of 7.8% with $524 million PER DAY flowing through this system.)

From 1997 onward, the average square footage growth rate of the Supercenters + Discount Stores operation has been 8.1%.

In the 2005 Annual Report, Lee Scott says that he believes Wal-Mart can add another 4,000 Supercenters to the 1,713 Wal-Mart had at January 2005. That would mean a total of 5,713 Supercenters in the U.S.

I tried to imagine what that would look like.

I used an average annual growth rate in square footage of the Supercenters + Discount Stores of 8.3%. This got me to 5,483 Supercenters by January 2016.

Monday, October 03, 2005

What in the world is CapEx?

After reading the last post, if you’re confused about CapEx, let me help explain more about what that term means.

CapEx is short for “capital expenditures.” In its simplest terms, a capital expenditure is what the company pays (usually in cash) when it buys, for example, a new shelving unit to go in one of its stores. The new shelving unit is an asset, and, as such, the purchase of the shelving unit is not an expense (like the electricity bill) but rather an investment (a capital expenditure) in a new asset. That new shelving unit has a value and the value of the shelving unit needs to be placed on the balance sheet as an asset. Expensed items, on the other hand, are never placed on the balance sheet as they simply pass through the income statement as expenses.

Returning to the shelving fixture… Buying a new shelving unit would generally cost more than buying a used shelving unit. This is the same principle that applies to new and used automobiles. A used car is usually worth less than a new car of the same make and model. The used car is worth less because it has “depreciated” due to the passage of time and the general usage that occurred during the passage of that time. This “depreciation” occurs with many (although certainly not all) assets placed on a company’s balance sheet. Shelving units depreciate. Forklifts depreciate. Buildings depreciate. The land underneath buildings does not depreciate. Bars of gold do not depreciate. And so you can think of a “capital expenditure” as a transfer of capital from a non-depreciable asset (like cash) to another non-depreciable asset (like land) or to a depreciable asset (like a shelving unit).

When Wal-Mart buys a shelving unit, the unit depreciates on a fixed schedule from its purchase price (the capex amount) all the way down to zero value. Each year Wal-Mart recognizes a portion of that depreciation according to the depreciation schedule. The schedule determines how much Wal-Mart will recognize each year in depreciation on its capital expenditure. The depreciation itself is recognized as an expense and all expenses pass through the income statement as, yes, you guessed it, expenses.

When Wal-Mart builds a new store it buys a lot of new shelving units to go into that new store. Because these shelving units are going into a new store, we can categorize the capital expenditure for the shelving units as a “growth capital expenditure” or “growth capex”. Wal-Mart is investing capital (the shareholder's capital) in its own growth by building the new store and buying the new shelving units. There will be a new income stream from this new store once it opens, and once all the bills are paid (expenses for things like electricity), Wal-Mart can see how much money it has left over at the end of the year in profits. The net profit from that store divided by the growth capex will be the year 1 return on our invested capital (i.e. the shareholder's capital). …Remember the growth capex is what Wal-Mart invested to create a new revenue stream. The profits from that revenue stream show us how successful they were in making the investment. If they lose money at the new store, they will have made a poor investment. If they make money at the new store, they will have made a good investment based on how much they earn above a more risk free rate of return such as putting the money in a bank CD earning 3.50%.

Okay, I think we’ve covered growth capex fairly well.

Now let’s say we're Wal-Mart managers and we go back and visit that same store in ten years. Let's also say that during the time that passed, we never spruced the store up. We never bought any new units for the store or made any changes or additions to the store’s infrastructure. That Wal-Mart store would be looking pretty shabby by now and customers would not be having a great experience shopping there. Certainly Wal-Mart does not want its customers to be repulsed by the condition of its stores. Therefore, in order to prevent its stores from looking shabby, Wal-Mart invests new capital in its existing stores every couple of years or so to keep them looking good. This investment is called “maintenance capex”. It involves capital expenditures to maintain a store.

All retail operations require significant amounts of maintenance capex. You can’t just build a store and leave it alone to depreciate through time. After a while customers are just not going to want to shop there.

So in order to keep all of its stores looking good, Wal-Mart has to invest capital in the form of maintenance capex every year back into its stores.

Note that we have now broken down overall capital expenditures (“capex”) into two subcategories, growth capex and maintenance capex. Most companies (Wal-Mart included) do not break out or disclose their growth capex versus their maintenance capex as a percentage of their overall capex.

If we knew the growth capex figure we could then analyze the increase in sales or the increase in operating income in the following fiscal year as a function of the current year’s growth capex. This would allow us to directly see how profitable Wal-Mart is in re-investing capital on behalf of the shareholders into its own growth.

Also, if we knew the maintenance capex amount we could arrive at a normalized free cash flow figure and then come to understand the company on a free cash flow basis. Normalized free cash flow would be net income + depreciation – maintenance capex. This would give us a good idea of how much the company would be making in cold hard cash if it suddenly stopped growing.

And so the key here is to understand Wal-Mart as almost two kinds of businesses..
1. the Wal-Mart as it physically exists right now, already formed and out there in the world, and
2. the future physical Wal-Mart, the piece that will be added via growth.

Maintenance capex is the use of capital by category 1.
Growth capex is the use of capital by category 2.

If we could break out the growth capex from the maintenance capex, wow, we would really have a cool insight into the profitability and efficiency of Wal-Mart as a financial entity. …I will attempt to do this in the next post.