Warren Buffett selling Wal-Mart (WMT)

Investment companies are required to file lists of their holdings with the SEC at the end of each quarter.  The latest such 13-F form for Berkshire Hathaway shows a buildup in Apple and airlines   …and the sale of virtually all of Buffett’s long-term holding in WMT.

WMT as icon

A powerhouse in the 1970s and 1980s, WMT has been a bad stock for a long time.  It had a moment in the sun during the market meltdown from mid-2007 through early 2009, when it rose by about 1% while the S&P 500 was almost cut in half.  Since the bottom, however, WMT has gained 40% while the S&P is up by 219%.

Wal-Mart isn’t an obviously badly run company.  It isn’t, say, Sears, or the Ackman-run J C Penney.  But it does have a number of impediments to achieving significant growth in earnings.  One is its already gigantic size.  A second is its focus on less affluent rural customers who were disproportionately hard-hit by recession and who have in many instances yet to recover.  There’s increased competition from the dollar stores.   And there’s Amazon, whose competitive threat WMT itself admits it played down for far too long.

My reaction:

old habits die hard.  Mr. Buffett built his career from the 1950s onward on the observation, novel at that time, that traditional Graham/Dodd portfolio investing techniques glossed over the considerable value of investment in intangible assets–brand names, distribution networks, superior business practices.  However, by the time I entered the business in the late 1970s, other people–me included–were beginning to adopt his methods.  So thinking about intangibles became part of the toolkit, rather than something special.  Then, of course, the internet began to erode the power of intangibles to stop newcomers from entering a business.  Mr. Buffett, like any successful incumbent (including WMT), has been slow to adapt.

WMT as metaphor for today.  WMT could become more profitable quickly if its heartland lower-income customer base could earn more money.  One way to do that would be to bar imported goods from the country, with an eye to creating manufacturing jobs in the US.  Of course, that would also destroy the WMT value proposition in the process.  So rolling the clock back to 1950 isn’t the answer, either for the health of WMT or for its customers.

Wal-Mart (WMT), economic indicator and investment

WMT and the economy

WMT is the largest retailer in the US (Costco (COST) is #2).  Despite its very large size, WMT has a distinct economic focus, one based in its roots as a chain of quasi-department stores for small towns.  About a third of its customers are relatively low income blue-collar workers, whose personal fortunes tend to be very highly linked to the strength of the overall economy.  Because of this, when WMT profits start to rise, as they have been over the past several quarters, it’s a sign that economic recovery is strongly rooted and has spread relatively widely.

WMT as an investment today

In the past, periods like this have also been good ones to own WMT shares.  Two factors, however, suggest to me that this time could be very different:

the dollar stores.  During recessions, consumers tend not only to cut back on expenditures but also to trade down, that is, to patronize less expensive retailers.  In the case of many WMT customers, that means turning to the the dollar stores, whose target  customer has been a single head of household who earns $20,000 +/- a year, who walks to the store and who visits several times a week.  During the last downturn, the dollar stores decided to shift their business model and expand their product offerings in hopes of holding onto their new, more affluent former WMT customers when the economy improved.  The industry has also consolidated into a smaller number of larger firms, to the same end.

As a result, WMT has new competition for the low end of its market demographic, a segment that becomes more important as customers who have traded down to WMT from, say, Target, return to their former niche.

–like many traditional retailers, WMT hasn’t paid enough attention to the internet.  Its recent decision to acquire jet.com for $3 billion+ is evidence that WMT realizes it has to play catchup.   I think jet.com’s most important asset is its innovative top management.  Whether it will mesh well with traditional WMT executives remains an open question.

Wal-Mart (WMT)’s earnings miss: significance?

the coview

Yesterday, WMT reported 2Q13 earnings results, which came in below company guidance.  WMT also revised down its expectations for the rest of the year.  That news followed a similarly disappointing result from Macy’s (M).

Media comment has interpreted these reports as signaling the domestic economic recovery is stalling out, that “pent-up demand” –catch-up buying resulting from purchases postponed during the Great Recession has finally been exhausted.  Now, the talking heads opine, the true “fragile” state of the US economy is finally being revealed.  This realization is why the stock market declined sharply yesterday.

why I think the consensus is wrong

This interpretation may turn out to be the correct one.  But it’s not the only way to look at things.  In fact, in this case, I think the media view is wrong.  Here’s why:

1.  Interest rates went up yesterday.  The 10-year Treasury reached a yield of 2.77% on Thursday; the 30-year, 3.81%.  Both are highs for the year.  In other words, the bond market isn’t seeing economic weakness.  It’s seeing strength that will eventually lead to the Fed raising interest rates.

2.  WMT’s main business is selling food and general merchandise for cheap in no-frills stores targeted at middle- and low-income households.

When Sam Walton started doing this some 40 years ago, WMT had the field to itself.  But success spawned imitators.  In particular, recently, and especially during the recession, the dollar stores have been taking market share away from WMT.  In a way, this a replay of the competition between mainline department stores and specialty retailers that emerged in the 1970s-1980s.

3.  During recessions, people change their buying patterns.  They put off buying big-ticket items.  And they trade down to cheaper alternatives for everyday necessities.  When recession ends, they normally trade back up.  For the affluent, that is already happening.  For average and lower-income Americans, as I read the results from manufacturers of staples, that hasn’t occurred yet.

4.  About 30% of WMT’s traditional customers are low-income Americans.  I read the WMT earnings report as saying that economic recovery hasn’t yet reached this part of the company’s customer base.

This, I think, is the real news in the WMT results.  I think the earnings miss is evidence in favor of the idea that high unemployment in the US is a structural phenomenon that low interest rates can’t cure.  Action by congress and the administration is needed, instead.  But suggesting this is opening a can of worms that talking heads–and the securities analysts who feed them information–would rather not touch.  Easier to say (counterfactually, in my view) that the overall economy is cooling off.

my bottom line:  as a citizen, I have a strong opinion on the structural/cyclical unemployment issue. I think WMT’s weakness is a company-specific issue, not a macroeconomic one.

As an investor, however, there’s no need to either have an opinion on this issue or to make your view a major feature of your portfolio.  Just avoid low-end general retail.

Look, instead, for niche retailers who are showing strong same store sales growth   …or avoid retail altogether.  There’s no rule that says you always have to have retail stocks in your holdings.

Wal-Mart (WMT): early February sales “a total disaster’

Wal-Mart executives’ emails

Last Friday Bloomberg published  a summary of internal emails from WMT.  In one of these the company’s VP of finance and logistics, Jerry Murray, reportedly wrote that this February has seen the worst start to a month he’d seen in his seven years with the giant retailer.  He characterized the results so far as “a total disaster.”

The remarks are noteworthy if only because WMT is the largest store chain in the US, accounting for about $1 in every $10 spent at retail.  But they’re especially eyebrow-raising because Mr. Murray’s tenure covers the entire Great Recession of 2008-09, none of whose depths apparently held a candle to this February.

What’s going on?

I don’t know.  But this story is worth keeping an eye on.  It’s also probably worth monitoring MWT’s earnings results presentation on Feb 21st.

WMT’s take

WMT singles out two causes:

1.  the tax on payroll income that’s intended to fund Social Security (we wish) was raised back from 4% to 6% on January 1st

2.  the fiscal cliff debate that occupies Washington for most of December mucked up the IRS schedule for sending out forms and processing tax returns.  WMT estimates the IRS would have distributed almost $20 billion in refund checks during January to early filers–instead of the zero that actually occurred.

crosscurrents

It’s possible, of course, that Mr. Murray is highly emotional and sends out hysterical emails to colleagues as a matter of course.  Let’s assume that’s not the case.  If so, as investors we’ve got to consider that:

1.  Ex the extremely wealthy, consumers adjust their spending depending on the overall economic situation.  As we saw in 2008-2010, during bad times families:

—–defer buying big-ticket items, like cars, refrigerators…

—–buy cheaper generic rather than brands, and

—–trade down from, say, grocery/department stores to discounters, from discounters to dollar stores, or from dollar stores to places completely off the publicly-traded-stock map–all depending on where the individual’s starting point is.

WMT was a relative loser in this process.

Now the reverse is happening.  WMT is getting back customers from the dollar stores–and losing them to more up-market venues.  Symmetry argues that WMT should be a winner from this trend.  Apparently not, however.

2.  About a third of WMT’s customer base is families with annual income that’s just a bit over half the national average.  For these families, the rise in the payroll tax means a hit to disposable income of about $50 a month.  Doesn’t sound like much.  But for people already living from paycheck to paycheck, this may mean significant belt-tightening, even though the nationwide employment situation is gradually improving.

In other words, WMT’s terrible, horrible, no good very bad month may be indicative of the lower middle class market segment it dominates, rather than of the US economy as a whole.

what I think

No conclusions yet, only that the situation bears watching.

The sales falloff may be WMT-specific, the result of some merchandising mistake the company made.  It could also be indicative of the continuing struggles of lower-income Americans.  We also can’t dismiss out of hand the possibility that the overall retail business in the US is beginning to wobble as WMT apparently is–although I’d be very surprised if this is so.

As an aside, we might also ask how Bloomberg ended up with the emails–though my guess is that this isn’t that important for us as investors.

We’ll know more when WMT reports.

 

 

Wal-Mart and banking: the Bluebird card

the “unbanked” or “underbanked” population

About a quarter of all Americans are either “unbanked”–that is, they don’t use conventional banking services at all–or “underbanked,”  meaning they may have either a checking or savings account but regularly use check cashing stores, pawn shops and other non-traditional banking services.  About 8% of the population is in the unbanked column, about 17% is underbanked.  (You can find more details in this PSI post.  The situation hasn’t changed since I wrote it.)

Why no bank accounts?  

The un/under population finds conventional banking services too expensive and bank locations not  convenient.  Of course, until very recently banks have been totally uninterested in this market segment, despite frequent Congressional prodding to be friendlier.

The situation has long been a problem/challenge/opportunity for WMT, because a large chunk of its customers fall into the un/under category.  There are two aspects to this:

–lacking a checking account or a debit card, the un/under generally find it hard to make money transactions, and

–if we estimate (read: make up a number) that conventional banking services cost at minimum $500 a year, then check cashing stores et al can (and do) charge $400 a year and still be a bargain.  Not good for un/unders, but basic microeconomics.

That’s not all.  Forbes has a good recent article on exploitative “celebrity” prepaid cards, which can end up costing a bundle.

That’s all cash that could otherwise be spent in WMT stores.

WMT can’t be a bank

Years ago it tried.  Despite the company’s unique position to serve the un/under community, furious lobbying both by banks and other retailers caused Washington to deny WMT’s banking application.

it’s turning to AMX for a prepaid card…

…one that will have very low fees.

The card, called Bluebird and bearing the American Express name, will be sold both by AMX online and in WMT stores.  It doesn’t require that you have a checking/savings account;  you just load cash into the card and use it.

WMT should benefit in several ways:

–its un/under customers will have more money to spend

–the service will doubtless make them more loyal to WMT

–it may attract new traffic to its stores, and

–WMT will presumably get a ton of information about card users shopping habits.

investment implications?

I’m not sure that, by itself, the Bluebird card is a reason to buy WMT shares.  They’ve already performed very well recently as domestic economic recovery has gradually widened to include ordinary Americans.  But as one of a number of positive measures from new management, Bluebird has put WMT back on my radar screen.