By David Huston and Nick Gomez (technical)
There are reasons to be very cautious about Walmart and it seems that the market is not taking into account the possible headwinds the company is facing for now.
Actually this piece will argue that Walmart is overvalued at today’s levels, has significant headwinds to consumer spending and pricing pressures, and that management is letting go of stock ahead of a mid- and perhaps larger-than-mid-term correction in the stock’s price.
The situation is reminiscent of what happened to megacaptech in late 2021 and early 2022. Knowledgeable insiders began unloading stocks at the top of the cycle. They warned the market about the challenges of margins and competition – and if you had paid attention, you could have avoided the capital loss that followed.
Let’s start with the obvious first. It is well known that insider selling does not contain the same insider and forward-looking information as insider buying. That’s true to some extent: an insider who buys $100 million dollars worth of stock in a $5 billion market cap company, on the open market, generally has one reason to buy and that is to make a profit. and show the market that they have skin. in the game. Insiders can sell for a variety of reasons: they may want to fund expenses or large capital expenditures, and possibly diversify their investments.
Over the course of the past two years, insiders have sold $6.58 billion worth of stocks and made virtually no insider buys in the open market. However, if you look more closely, there is a more sustained trend and recent sales in 2023 have become more aggressive:
If we zoom out further, we can see that insider buying stopped after 2016 and has accelerated to aggressive insider selling since 2019. Nor can the Walton family and senior executives be said to have avoided buying stocks; in 2003 and after the GFC, there were numerous significant insider buys that occurred periodically.
Insider selling has accelerated even further recently – over the past 3 months – with Robson S Walton, Alice L Walton, Jim C Walton and President Douglas McMillon all unloading shares in volume on the same trading days over the course of December 2022, January and February 2023:
This is also not cherry picking of the data. Look at the following key sales dates, the breakdown of how much was sold by the Waltons, and what the number of shares sold and the stock price were on those key dates:
There are two main takeaways from this analysis. The first is that, in my opinion, the Waltons are coordinating their sales on key days in the open market with an average realized price since August 2022 of $146.26. Except for one day, we have evidence that 3 family members have sold large tranches of stock over the past 3 years, but this has become more aggressive over the past 5 months.
The second takeaway is that Walmart is a huge company and so we need to look at these numbers in context. The volume of shares sold over 2 years is 27,437,110 according to Yahoo Finance. The total number of shares for WMT is 2.711 billion shares and that means that insiders own 1% of the total equity ownership of the entire company within 2 years, and approximately 2% of Walton’s family businesses
Let’s take a look at WMT’s technical picture and whether the company’s stock has clear momentum:
WMT has just dropped below its 6-month moving average, which currently stands at $143.66, which is bearish in the medium to long term. Below that level and given where we are with valuations, we would expect continued weakness.
On a day-to-day basis, WMT techs tend to be neutral in scope, but stochastics have entered oversold levels, which could lead to some price gains. If there are some higher prices in the near future, this would be an opportunity to sell or take the option positions David suggests (see chart below).
Valuation & Fundamentals
When it comes to valuation, we can see that Walmart has historically traded higher than its net asset value based on its cash flows as a company:
Walmart is right around fair value at current prices, trading at $146.44 at a fair value of $144. However, much of that has been called into question by management’s recent outlook for a weaker fiscal year 2024, which pointed to a worsening margins and weaker forecast demand.
Trading at a rather demanding 33x profit (TTM) and with a rather modest payout of 1.6%, it’s hard to show a clear value proposition here with clear headwinds on the horizon.
Management has delivered 2.5-3% revenue growth and adjusted earnings per share of $5.90-$6.05, falling short of analyst expectations for next year. This implies low-single-digit sales growth in the short term and a lukewarm adjusted operating margin in the single-digits. Competition is fierce and has clearly had an impact on business results as we enter 2023/24 FY and the full impact of rate hikes is taking its toll on consumers.
No doubt Doug McMillon (CEO) and John David Rainey (CFO) are sharp operators and manage the company well. They tried to strike a balanced tone on the Q4 earnings call, and their view was best summed up by John:
“In this period of macroeconomic uncertainty, we believe we are well equipped to continue to gain market share in an environment where consumers continue to stretch their dollars. We will continue to advocate for customers and work with our supplier partners to maintain strong price differentials .and deliver lower relative prices to competitors.We are also navigating real inflation on our own cost structure and continue to look for ways to reduce costs and improve leverage.With these considerations in mind, we maintain a balanced approach to our guidance , with a prudent view of the consumer along with our confidence in our ability to execute.”….. John David Rainey, CFO, Walmart
It sounds rather pessimistic when you weigh up the views of the executives – that the macroeconomic period is uncertain and that they need to offer value for money to gain and maintain market share, while also looking at their cost base. Meanwhile, forecasts for 2023/24 imply revenue growth of 2.5-3% in constant currency and a decline in profits.
Growth is slowing fundamentally
Peter Lynch, the famed investor who managed the Magellan Fund from 1977 to 1990 and managed an astonishing annual return of 29.2%, used to joke that big companies make small moves and small companies make big moves. This is a large company that has already passed its peak in number of stores and expansion of its footprint, and it’s slowing to anemic growth.
What surprises me about Walmart is that the total number of stores, which is a good measure of growth in the business because it’s their primary mechanism for increasing their reach and their profits, has stalled in 2019. They reached a peak of 4769 stores in the US. and have since seen a decline, which looks set to continue based on Q4 numbers:
“Ahh, yes, but that’s only in the United States,” you might say to me. Let’s look at the total number of international stores – it’s a similar picture:
In fact, Walmart is in an even worse position globally, with a significant drop in store count for 2022, which would strongly support the proposition that the company could enter a period of challenging consolidation as it attempts to maintain market share, increase margins increase and do so. in an environment where the consumer simply won’t be supported by low rates and aggressively easy financial and borrowing conditions that support spending.
That’s why Walmart has a PEG ratio (TTM) of 4.11, which is pretty bad. You pay a high P/E to buy future earnings – what you own to buy the stock – and if you factor in growth (PEG is the P/E ratio divided by earnings growth), you pay a high premium for a company with very weak underlying growth.
Picture it from the customer’s point of view: if I can barely afford to pay my mortgage and put food on the table, the Dollar Store, Pound Land (in the UK) and Aldi/Lidl stores are the ruthlessly tight control over prices and costs.
Consumer spending and sentiment
With that in mind, let’s look at the last leg of the table: the almighty consumer. The University of Michigan consumer confidence survey was raised to 67 in February and shows an improving trend:
Perhaps a broader index is the Conference Board’s Consumer Confidence Index releases. This paints a pretty grim picture for consumers and the outlook for individuals in Walmart’s key demographic:
“Consumer confidence fell again in February. The decline reflected the large drop in confidence for households aged 35 to 54 and those earning $35,000 or more,” said Ataman Ozyildirim, Senior Director Economics at The Conference Board.
Based on the data, consumer assessments of underlying business conditions worsened in February and continue to show a relatively bearish downtrend (short term). This represents a cross-section of consumer perceptions of business conditions and the labor market.
Summary and affirmative action
Walmart has some headwinds that make it very difficult to recommend the stock as a buy. The company has seen and continues to see aggressive insider selling, coordinated in my opinion, and seems to suggest that Walmart is overvalued in the $140-$150 price range. When the stock price has reached these levels, it has been followed by quite large insider sales.
Based on fourth quarter earnings and net sales targets for next year, Walmart management expects soft growth in top and bottom line numbers. The company trades just above fair value from a fundamental standpoint, but on some indicators such as the PE, PEG and from an earnings per share and net sales growth standpoint, the company appears to be overvalued. Retail growth has clearly reversed and this is a larger, more mature company with a fairly low dividend payout that is simply unable to grow at the rates it did in its heyday.
Overall, we assign a neutral to downright bearish view on Walmart. From a positioning point of view, this opens up some enticing possibilities.
For stock investors with long positions, now would be a good time to consider exiting those positions and selling on stock price advances
For derivative positions that could provide an attractive return if the position we outline here comes true, you could start by selling covered calls against the money on your equity position (if you have shares and want to sell them) and at the current rates yield 2.5% per month until your assets are called away.
If you don’t own the stock, you can look at Bear Calls Spreads or take outright short positions in WMT with a specific eye on $146 as a starting point.