Monday, April 23, 2012

Walmart (WMT): Shleifer Effect Watchlist

Yesterday's NY Times reported here that Walmart employees have spent years bribing Mexican government officials to speed approvals to build new stores. If true, this would be in violation of the US Foreign Corrupt Practices Act (FCPA). Worse yet, the article claims senior Walmart executives (up to, and including, then CEO - and current board member - Lee Scott and then CEO of Walmart International - and current head honcho - Mike Duke and then CEO of Walmart de Mexico - and current, albeit outgoing, corporate Vice-Chairman Eduardo Castro-Wright) had been made aware of the practice and elected to treat it as an internal matter for its Mexican subsidiary to manage. In effect, they covered it up.

It's fair to assume that Walmart is in for a tumultuous months and potentially years of news reports. 

I own shares of Walmart, beginning my position in March 2011 and building it at an average price around $50. Be assured that I'm watching these events unfold with much anticipation both as an investor in the company and also as an observer fascinated by the dynamics this news will likely instigate. It's a fascinating test for the Shleifer Effect as a construct. 

Though I own it now, the current news warrants looking at it anew. Does it create price movement that overreacts to reasonably considered estimates of what happens to Walmart's fundamental business in the near future? Therefore, I'm adding it to the Shleifer Watchlist.


Let's start with the immediate market reaction to the news. The chart below shows a fairly muted response. WMT started trading about five percent down at today's opening. 

I wouldn't read too much into the first blush. Walmart has not exactly been the Wall Street darling over the past ten years. The stock has moved sideways for a decade, and over the past two years it has repeatedly reported earnings and growth below consensus estimates. Comparable US store sales have been a particular thorny point.  (See Sideways Action Deflates the Value Balloon.) To be blunt, expectations for Walmart have not been particularly high. While it traded as high as 40x its owner earnings in 2003, my last estimate had the current price sporting a 10x 2011 owner earnings. So, despite its 20+ percent rise since I purchased it, Walmart did not enter this PR crisis burdened with lofty expectations of its future.

So what we didn't see this morning was an absolute panic. I suspect that's because current owners might be the type that pay a bit more attention to the fundamental business of an investment. They didn't buy Walmart as a hot stock idea. They bought into the idea of the dominant retailer growing its earnings at an acceptable pace and using its tremendous cash flows to repurchase a lot of shares and continue paying a big dividend. 

If I'm correct, these investors will be assessing whether or not this news has impaired Walmart's ability to continue doing those things. They are, perhaps, spending some time trying to understand the ramifications of the news...specifically, what it means for Walmart's ability to keep generating cash to use for investor benefit.


Let's count this as a quick few thoughts to initiate Walmart on the Shleifer Effect watchlist. I'll spend some more time with it soon thinking through what it means to own shares of the company now and how that affects my decision whether to invest further if the price drops below the level where I've purchased WMT over the past year.

Stay tuned...

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