Wal-Mart began as a regional discount retailer in 1962 and existed for
almost 30 years before it moved beyond its U.S. operations. Today it
operates in the U.S. (with almost 4,000 outlets) and in 10 foreign
countries (with more than 1,600 outlets). It is a broad line
retailer, in contrast to a company like Best Buy, which concentrates
on electronics. Sales for FY2005 were $285 billion, with gross
margins of 22-23%, numbers that are lower than the 30-40% enjoyed by
most other retailers.
A good early history of Wal-Mart that also contains valuable
information about the discount retailing segment is the Thunderbird
American Graduate School of International Management case history,
which really stops in 1990:
Thunderbird Business School
?Wal-Mart Stores? Case Study,? (Barette et al, 1999)
More up-to-date information is in the Fortune Magazine profile from
March, 2003, which Wal-Mart has linked on it?s website ?
?One Nation Under Wal-Mart,? (Ussem, March 3, 2003)
And also valuable are the Wal-Mart annual reports for 2004 and 2005.
You might wish to read through both years to find additional
information to supplement the analysis of financial strategy in this
Wal-Mart has been consistent in several aspects of its overall
strategy since it?s inception: it?s a broad line discount retailer,
living with gross margins in the low 20% range. It has concentrated
on keeping operating costs low through a variety of strategies, from
concentrating warehouses to using technology to lowering transaction
But it has evolved, growing from a presence in 11 states in 1980 to a
company with operations in 10 countries ? with plans for more. As Lee
Scott, president and CEO, notes in the annual report, despite being
the world?s largest retailer, Wal-Mart has only 3% of the global
retail market. ?In the U.S. alone, we estimate there is room for
almost 4,000 more Supercenters,? he adds referring to the company?s
larger 187,000-square foot stores.
As a result, financial strategies for the company have evolved in four
areas over the past 15 years to respond to the changing needs of the
Wal-Mart has a strong reputation as a company built through internal
growth, one that?s well-deserved. It?s so strong that Fortune?s 2003
article refers to the location of the corporate headquarters, saying
?Bentonville doesn?t do acquisitions.? In trying to be funny, Fortune
Wal-Mart made its first retail acquisitions in 1977 and then moved
selectively to fill out its retail presence:
In 1990, Wal-Mart purchased McLane Company, a wholesale distributor in
Temple, TX that serves many of Wal-Mart?s own competitors. In 2003,
the company sold McLane for $1.5 billion, but it was one of a large
number of acquisitions during the 1990s.
?Wal-Mart Annouces Sale of McLane Company to Berkshire Hathaway? (May 2, 2003)
Retail analysts have observed for decades that ?retail concepts don?t
translate well internationally.? Despite successes by companies like
McDonald?s or Starbucks, retailing in each country requires adaptation
of distribution methods, pricing, labor rules, advertising and product
mix. As a result, Wal-Mart has entered five of its 10 international
markets via acquisition, and last year supplemented its existing
Brazilian market presence with the acquisition of Bompreco S.A.
Supermercados do Nordeste, a Brazilian supermarket chain in the north
of the country that has 118 outlets.
Wal-Mart did the same thing in another market. In Puerto Rico in 2002
it supplemented its existing presence with the purchase of
Supermercados Amigo, a 37-store chain.
In Japan, the company entered the market in 2002 by acquiring an
initial 6.1% stake in The Seiyu, Ltd. That has risen to almost 38% at
the end of FY2005 and will likely rise to 50% by December.
Wal-Mart 2005 Annual Report, p. 43
Wal-Mart International Operations Datasheet (April 2005)
Nor is the company?s proactive acquisition strategy for overseas
markets likely to decrease. A Smith-Barney report done in June after
the annual meeting and a special investment analysts? meeting,
analysts Deborah Weinswig and Charmaine Tang are salivating over the
Chinese market opportunities. ?Currently, Wal-Mart operates 46
stores, while Wal-Mart operates 3,719 stores for a population of 280
million people in the U.S. Wal-Mart only operates 46 stores currently
for a population of 1.2 billion people in China!?
The same Smith-Barney report notes that Wal-Mart is looking at
entering the Indian market ?has identified potential joint venture
partners and is working with advisors to develop the appropriate
business development structures. ?
The company has stayed well-concentrated in the broad line retail
sector. It?s major diversification came in 1983, as the company
broadened its customer base by introducing the first Sam?s Wholesale
Club in Oklahoma City. Warehouse stores were still a novelty in
1983, with Price Club being the largest chain at the time.
In his book ?Made in America? Sam Walton describes meeting with Sol
Price, the owner of Price Club, then taking the ideas for the
warehouse stores from him. ?I didn?t tell him at the time that I was
going to copy his program, but that?s what I did,? says Walton.
The original Wal-Mart retail concentration was on stores in mid-sized
cities and the result was a blue-collar to middle-class customer base.
The warehouse clubs attract many of the 23 million American small
businesses with volume lots, but offering only 3,000 to 4,000 SKUs ?
compared to the 40,000 or 50,000 at a typical Wal-Mart store.
Sam?s Wholesale Club has allowed the company to reach customers with
higher income levels, with it reporting that the customers added in
FY2005 had an average income just above $100,000. This, and other
domestic diversification moves, are largely focused on increasing the
breadth of the customer base and controlling costs.
To accelerate the growth of the warehouse chain, the company brought
Pace Warehouse and its 91 locations in 1993.
In addition, Wal-Mart can be expected to look at acquisitions to help
particular product lines, particularly financial services. Financial
services for money orders, payroll cashing and financial transfers are
already a major growth area, with Smith-Barney reporting volume up 55%
in June of this year.
But financial services are also a cost-driver for Wal-Mart, which has
led to several attempts to form its own bank. Wal-Mart has about 138
million customers per week and handles about 140 million debit-card,
credit-card and electronic transactions each month ? or slightly more
than 25% of its volume.
According to the Wall Street Journal (July 20, 2005, page C4) bankers,
credit unions and labor unions blocked Wal-Mart?s attempt to buy an
Oklahoma savings & loan in 1999 by lobbying Congress and the U.S.
Office of Thrift Supervision. Then in 2003, the company tried to buy
Franklin Bank, an industrial bank in California, saying that it?s goal
was to lower the cost of its financial transactions. Again, it was
blocked, this time by the state of California.
Now the company has filed an application to operate an industrial bank
based in Utah to handle electronic processing, opening Wal-Mart up to
operating the bank in 19 other states. However, financial services
could be spread more quickly by acquisition.
The company uses hedging in two ways: to manage changes in foreign
exchange rates and in interest rates, according to the Wal-Mart annual
report (see pages 30, 37).
The foreign currency hedging isn?t done everywhere, but only for the
U.K. (pounds sterling) and Japan (yen). The currency swaps generated
a loss of $169 million and $71 million in 2005 and 2004 ? but the
company is using them to insure against the accounting losses. It
notes that a decrease in the value of the dollar against the pound of
10% could generate a book loss on debit of $380 million, so the hedges
are being used to counter that impact.
Similarly, the company is using interest rate swaps to manage the bond
portfolio so that about half of its debt is floating rate debt and
half is in fixed rate bonds.
Wal-Mart does its analysis of interest and foreign exchange exposure
based on 10% changes in either.
Strangely, Wal-Mart apparently doesn?t engage in one other hedging
strategy, though its become common even more small retailers in the
U.S. The company has 2,000 trucks that it uses for store deliveries
and has 325 Sam?s Club warehouse outlets with gasoline stations ? but
there?s no indication that Wal-Mart hedges any of its energy
Thee impact of energy hedging can be dramatic: in its July 15, 2005
report on Southwest Airlines? earnings, the Wall Street Journal noted
that Southwest has been able to hedge 85% of its 2005 oil prices at
$26 per barrel ? against today?s closing price of $59.20. Southwest
has 65% of 2006 oil consumption hedged at $32 per barrel, according to
Yet, inexplicably, Wal-Mart does not report any gasoline hedging nor
any hedging of natural gas (for heating/cooling of stores).
STOCKS, BONDS & THE COST OF CAPITAL
When any corporation is paying taxes, it?s well-known that using debt
increases the return on equity. However, too much debt results in too
high a risk level should business turn down.
The full weighted-average cost-of-capital (WACC) for a firm is given by:
WACC = Rc (E/VL) + rD(1-t)(D/VL)
Rc: return on equity
E/VL: proportion of equity in total firm value
rD: debt or bond percentages
t: tax rate (expressed as a decimal; 40% = 0.40)
D/VL: proportion of debt in total firm value
Wal-Mart has set its debt target at 40% (see 2005 Annual Report, p.
30) and actually managed to hit 39% in 2005 and 38% in 2004. The
company notes that it believes ?cash flow from operations and proceeds
of commercial paper will be sufficient to finance any seasonal
buildings in merchandise inventories? but that hit has the flexibility
to use either commercial paper (short-term debt) or long-term debt.
Out of the 40% in debit, the company also targets half of its debt in
fixed-rate instruments and half in floating rate, as previously
mentioned. This allows the company to control debt costs, using
hedging, without incurring potential write-downs through either
interest-rate volatility or foreign-currency volatility.
Google search strategy:
Site search for various topics on the www.walmart.com site. Among these:
A general search for:
Wal-Mart + ?case history?
Wal-Mart + acquisition
Also very valuable is a service called Investext, a fee-based service
available online at many public libraries for free. It is the source
of the analysts comments, like the Smith-Barney quotes. It?s not very
searchable but reading a dozen or more of the reports on Wal-Mart
produces valuable information and analysis.
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