Positive Signs at Walmart as Trends Improve Late in Q2

Our $138 fair value estimate should not change significantly after wide-moat Walmart (WMT) reported second-quarter results, with management indicating that sales and inventory positions improved late in the period (ended July 31). We still expect low-single-digit annual top-line growth and mid-single-digit operating margins over the long term and suggest prospective investors await a greater margin of safety.

Revenue rose 8%, beating our 5% target, with broad-based growth across all divisions, including 6.5% adjusted comparable sales expansion at Walmart U.S. and a 9.5% increase at Sam’s Club alongside 5.7% net sales growth at Walmart International. Double-digit inflation in food and beverage categories helped offset markdowns to clear excess inventory in discretionary categories, particularly apparel. While the company continues to move aggressively to clear surplus merchandise, we are encouraged that management suggests the worst of the closeouts are likely past.

Sales trends improved in the last weeks of July, with a solid back-to-school season as fuel prices slid. While markdowns still crimped profitability, with a 132-basis-point gross margin decline (to 24.2%) also attributed to shifting sales mix as consumers spent more on less lucrative consumables and nondiscretionary items, the cleaner inventory position should serve Walmart well heading into the holiday season. Management expects a 9%-11% slide in adjusted earnings per share for the year (previously 11%-13%). While our low-single-digit expected decline seems overly optimistic, an adjustment related to time value of money should offset the valuation impact of a moderated near-term outlook.

We are not surprised that Walmart is increasingly benefiting from trade-down, with increasingly well-to-do customers turning to the company for value. Given its robust private-label assortment and strengthening omnichannel capabilities, we believe Walmart will continue to broaden its appeal as shoppers look to control costs.