Sticking With Our Wal-Mart Fair Value Estimate

We expect a near-term hit to  Wal-Mart (WMT) shares because of Saturday's New York Times article, which said that Wal-Mart's largest foreign subsidiary, Wal-Mart de Mexico (WMMVY), engaged in years of widespread bribery to quickly obtain building permits to reach store dominance in Mexico. The New York Times reported that in 2005, investigators dispatched by the company discovered evidence of bribes totaling more than $24 million, but rather than pursuing the matter, Wal-Mart headquarters turned over the investigation to the general counsel of its Mexican subsidiary, which had reportedly authorized the bribes in the first place. The general counsel at that time, Jose Luis Rodriguezmacedo Rivera, summarily absolved his Wal-Mart de Mexico colleagues. Rivera resigned Friday.     

Our understanding of the Foreign Corrupt Practices Act leads us to believe there could be substantial albeit easily absorbed fines if Wal-Mart failed to notify the Department of Justice of the bribes within a reasonable time frame. As far as we know, the company only recently disclosed the investigation to investors and regulators, prompted by the article. We are not going to speculate which senior executives were aware of potential wrongdoing. However, we believe it's necessary to inform investors that current vice chairman Eduardo Castro-Wright was chief executive of Wal‑Mart de Mexico until early 2005. The New York Times cites Castro-Wright as the driving forces behind the bribes. The company's current chief executive officer, Michael T. Duke, was vice chairman of Wal‑Mart International in 2005.

The operations in Mexico were touted by the company to investors as the model for growth abroad. However, given the Wal-Mart de Mexico developments, as well as the recent problems in China and India, we believe the considerable investor base that owns Wal-Mart shares for its international growth could begin to question those prospects. At the very least, we believe it highlights the many pitfalls of international expansion and the tremendous pressure senior management teams face to drive continued growth. Still, in our view, stabilizing and then once again expanding domestic market share gains will be the main driver of stock performance over the long term. If the company begins to report U.S. comparable-store sales ahead of our and consensus forecast, the stock will more then regain lost ground stemming from operating practices in Mexico. We are not changing our $61 fair value estimate.

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