Walmart reported global sales of US$152.9-billion in the second quarter, a seemingly healthy 8.4-per-cent advance from the same quarter a year earlier.Charles Krupa/The Associated Press
Walmart Inc. WMT-N cheered markets with a better-than-expected earnings report on Tuesday, but look more closely and its numbers demonstrate why investors may want to remain wary of an unpredictable economy.
The giant retailer reported global sales of US$152.9-billion in the second quarter, a seemingly healthy 8.4-per-cent advance from the same quarter a year earlier. However, its operating income fell 6.8 per cent during the latest quarter, and it continued to warn of a double-digit fall in adjusted earnings per share over the entirety of the fiscal year.
The warning didn’t stop investors from propelling the stock higher. Their optimism underlines the stock market’s glass-half-full psychology. Share prices have rebounded strongly since late June despite signs of growing global stress.
On Monday, China surprised investors with an interest-rate cut. Nearly simultaneously, the Federal Reserve Bank of New York delivered its own shock in the form of a big and unexpected slump in its survey of regional manufacturers – the second worst decline in the survey in more than 20 years.
The two announcements are entirely different in nature but both reflect problems in the big engines of the global economy. In China, policy makers are struggling to contain the fallout from a spreading real-estate downturn. In the United States, manufacturers are grappling with a sudden fall off in demand after the buying frenzy of the pandemic period.
Walmart, which is so huge that it acts as a microcosm of the U.S. economy, shows how some of the current economic stresses are playing out. Particularly noticeable is how galloping inflation is distorting its year-over-year comparisons.
On paper, Walmart’s 8.4-per-cent gain in revenue from a year earlier looks robust. But after adjusting for 8.5-per-cent inflation over that period, its sales appear to have largely flatlined in real terms.
The distortionary effect of inflation is particularly noticeable when it comes to groceries, which account for slightly more than half of Walmart’s U.S. revenue.
U.S. grocery prices have rocketed 13.1 per cent higher over the past year. This has bolstered Walmart’s year-over-year revenue comparisons. However, company said on Tuesday its unit sales of food were actually slightly negative for the quarter – it was selling slightly less food but at higher prices.
This raises the question of how much consumers will have left to spend on other goods after paying for those expensive groceries. Early indications are that they are cutting back in other areas – and that is a challenge for retailers.
Walmart, in particular, ordered large quantities of everything from clothes to toys to electronics when the pandemic buying binge was in full swing. It is now facing the challenge of selling those goods in a tougher retailing environment. Its inventory at the end of the second quarter stood at nearly US$60-billion compared to US$48-billion a year earlier.
Walmart had warned of this problem a month ago. It said it was working to clear out its glut of goods by marking down their prices. On Tuesday, executives said they think inventory has peaked. However, so long as the overhang persists and deep discounts remain a fact of life, the retailer’s profit margins are likely to remain crimped.
To be fair, few companies are better equipped to handle such problems than Walmart. It is a marvellously efficient retailing machine and will soldier through its current challenges. Its results on Tuesday, which beat analysts’ expectations in terms of earnings per share, prompted investors to drive up its shares by 5 per cent on the day.
But say what you will about the retailer’s prowess, it is also an example of the lush valuations on many U.S. stocks. Walmart trades for about 22 times analysts’ forecast earnings for the next 12 months. That is well above the 15 to 20 times price-to-earnings ratios it had typically traded at in the prepandemic years.
Investors seem confident that a recession isn’t coming and that Walmart’s sales will resume growing in after-inflation terms once the current turmoil eases. They may be right.
Still, it is worth acknowledging that many macroeconomic indicators suggest the road ahead could be bumpy. From an inverted yield curve, to the ugly results from the New York Fed survey, to signs of a slowing Chinese economy, storm clouds are apparent. Maybe, just maybe, investors in Walmart and other stocks are getting a bit ahead of themselves.
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