DGI Adventure – 10-14-2015 Impulse Purchase!!!  – Wal-Mart Stores Inc. (WMT) – $61.00/share

Dividend Cycle

WMT goes ex-dividend on 12/2/15. Owning shares before this
date qualifies the shareholder for a $0.49/share quarterly dividend which will
be paid on ¼/16. This is the fourth quarterly dividend at this level. The
entire year’s dividend cycle was announced by the company on 2/19/15. Another
increase is expected early next year. WMT is a Dividend Champion having raised
its annual dividend 42 consecutive years.

Investment

The WMT share price plummeted nearly 10% today based on
comments that were made by management at the shareholder’s meeting this
morning. I put in a limit order for 15 shares at $61/share for a total
investment $921.95 (including $6.95 trade commission). This lot size violates
my rule of a maximum 0.5% commission; however, I was going to have to do
something creative in my ROTH because I only had $2,587 in cash after previous
purchases, and I want a good size chunk to go to an REIT I’ve been eyeing for a
while. I had already been debating how to deal with the issue that I would have
less than $1,000 in cash to invest in that account. I made an impulse decision to
just break the rule due to the opportunity presented this morning.

The QC (Quantitative
Case)

Payout Ratio

40.77%

10 Year Revenue CAGR

5.39%

10 year EPS CAGR

8.84%

5 year ave P/E – Current P/E (ttm)

+1.8

5 year ave Yield – Current Yield

-.90%

11 year mean DGR (dividend growth rate)

16.5%

Debt/Market Cap

$49.7B / $192.4B

Total cash

$5.75B

Return on Assets

8.06%

Return on Equity

19.32%

Profit margin

3.19%

EBITDA / Revenue

$35.3B / $485.6B (7.3%)

Reverse DDM Fair Value DGR at buy price

6.79% ($61.00/share)

Assumed DGR (DDM valuation 10% disc.)

7.5% ($78.40/share)

DGR margin of safety

0.71%

Dividend Cushion Ratio (7.5% DGR)

1.021

Cash from Ops Cushion

-.92%

Capex Cushion

+.67%

DGR Cushion (delta)

1%

 

LOL (Limit Order
Logic) – $29.49

When I found out that WMT was off by over 8% I quickly
scanned the headlines to see what kerfuffle had caused it. That kind of
volatility in a blue chip is unexpected to say the least. The comments that
triggered the selloff sounded like short-term issues to me and there were some
positives like a share buyback program, so I have to admit that I didn’t think
the price dip would last very long. So I put in a limit order $0.50 lower than
what it was going for at the time. I thought about putting in a $60.00 limit,
but didn’t think it would keep going down the rest of the day (it did, but
didn’t quite get to $60…yet).

QWaF (Qualitative
Warm and Fuzzy)

This impulse purchase was more about a contrarian reaction
to the headline than anything else. This is Wal-Mart we’re talking about here.
They’re the largest retailer in the world. They’re a dividend champion. 51% of
the outstanding shares are owned by insiders. The outsiders who own WMT are
some of the smartest guys in the room (http://www.insidermonkey.com/blog/5-best-stocks-to-buy-according-to-4-billionaire-quants-376622/?singlepage=1
). Warren Buffet owns over 60 million shares. Bill Gates owns almost 12 million
shares (in the Bill and Melinda Gates Foundation Trust). If it’s a dumb
investment, there are a lot of really smart people that have already made it.

CPR (Cold and Prickly
Risks)

So what exactly were the headlines that tied a brick to the
neck of WMT’s share price?

This one sums it up pretty well: http://www.marketwatch.com/story/wal-mart-shares-crater-as-company-outlines-spending-plans-20-billion-share-buyback-2015-10-14?siteid=yhoof2

I have to say I laughed out loud when I initially heard that
the price fell that much after the company announced a $20B share buyback
program.

To paraphrase the “problem”: Wal-Mart is expecting flat
sales growth next fiscal year because of a strong dollar. Management wants to
invest in the company, so in light of relatively flat sales growth, earnings
will be down for a little while. While they do that, they’re going to be buying
back ~10% of the company’s market capitalization.

That sounds awesome to me! Can they afford it and continue
to increase the dividend? It’s worth a look at the dividend cushion, which I
had already run about a week ago. I didn’t double check it before pulling the
trigger, but I had in my mind they were okay.

Well it’s tight. According to the article, operating income
is going to be down about $1.5B. Capex for next year is expected to be $12.5B.
The dividend cushion analysis I ran used 2014 numbers. Multiplied by 5, that
dips the ratio well below 1. I ran it again this afternoon, but used TTM cash
flow from the last 4 quarters, and those numbers are in line with what
management is projecting. In other words, this announcement is simply: “Yeah
what we did this year, we’re going to do it again next year. The imaginary
numbers won’t be great for a little while.” At those cash flow rates, the
dividend cushion is only 0.677 with a 7.5% DGR…and that doesn’t factor in any
buybacks. So by that measure, they can’t afford it, but the gorilla in the room
from the cushion analysis is the $50B in long term debt, which they don’t have
to, and obviously aren’t planning to pay off in the next 5 years. Instead
they’re investing in their employees (lower operating income) and the company
(capex), and drastically reducing the share count. Less outstanding shares
makes dividend raises easier because you can give out more per share for the
same amount of cash.  

The biggest real risk implied by the announcement is that
the investments in the company might not pay off. With a 19% return on equity,
management has a track record that suggests that particular risk is minimal.

There are some pundits who are arguing that
Wal-Mart is losing market share to more efficient and modern businesses like
Amazon and Costco, and this plan going forward is “too little, too late”. Well
Amazon and Costco have been around for the last 10 years, and Wal-Mart still
managed to grow revenue and earnings at a 5% and 8% CAGR respectively. Rather
than rest on those laurels, management is continuing to adapt to a changing retail
environment. With 50%+ insider ownership, I’m betting the dividend is pretty
safe. 

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