These Global Giants Look Cheap

We advise investors at Motley Fool Global Gains to have fully 60% of their equities portfolio exposed to markets other than the United States. Although that sounds quite aggressive, a necessary point of distinction here is that we don't measure exposure based on where a company is headquartered, but rather by where a company makes its sales.

Although this doesn't sound like a revolutionary perspective, it's not one that's widely embraced by the money management industry. The Vanguard Emerging Markets Index (NYSE: VWO  ) , for example, doesn't include a single company based in the United States despite the fact that many of them have made growth in emerging markets a key part of their strategies going forward. Similarly, the fund owns top-25 positions in Taiwan Semiconductor (NYSE: TSM  ) and Infosys Technologies (Nasdaq: INFY  ) , two foreign stocks, based in Taiwan and India, respectively, that are arguably more affected by what's happening in the U.S. economy than by what's happening in the emerging world.

This doesn't make sense
Our view aims to correct for this by shifting the divide between domestic and international stocks from an arbitrary one (where the CEO lives) to a more meaningful one (where the customer lives). This has the effect of making some seemingly foreign stocks such as Luxottica (NYSE: LUX  ) , headquartered in Italy, suddenly look a lot less foreign -- since it makes more than 60% of its sales in North America. On the other hand, it makes a number of seemingly American-as-apple-pie companies such as Coca-Cola (NYSE: KO  ) , headquartered in Atlanta, viable emerging markets investment options -- since the company derives 35% of its sales from these fast-growing markets.

The reason this distinction is particularly important today is because, unlike at this time last year, bargains no longer abound in emerging markets.

Market

August 2009 P/E

August 2010 P/E

United States

17.6

16.9

China

31.3

30.3

Brazil

12.3

13.5

India

10.2

13.0

Source: Motley Fool Global Gains using Capital IQ, a division of Standard & Poor's.

Why this matters
Over the past year, emerging markets stocks have generally gotten more expensive while U.S. stocks have gotten cheaper, partly as a result of the increasingly dour long-term outlook for the dollar and the U.S. economy. And while some of these markets still look relatively cheap when compared to the U.S., remember that emerging markets come with additional governance, regulatory, currency, and other risks for which investors must demand to be compensated before investing.

It's as a result of this trend that I've recently been looking to buy additional emerging markets exposure via U.S. stocks that are both relatively cheaper today and that carry relatively lower risk profiles than their counterparts that offer similar sales exposure but are headquartered in different countries. Thus far, I've uncovered two names that strike me as intriguing emerging markets plays -- names with which you're very likely familiar.

These global giants look cheap
If you've lived in the U.S. for any length of time, odds are you know about Coca-Cola and Wal-Mart (NYSE: WMT  ) . Headquartered in Atlanta and Bentonville, Ark., respectively, the companies rank among America's best-known brands.

Yet both companies also happen to be international success stories. Coke's non-North American sales have averaged better than 8% annual growth over the past five years, while its North American sales are up just 5%. Similarly, Wal-Mart's international sales are up almost 14% annually over the past five years, while its U.S. sales are up a little less than 6%. This variance is one that I suspect may not only hold up over time, but could widen. That's because of a weakening consumer outlook in the United States versus rising consumerism in emerging markets. Consider, for example, that while Americans consume approximately 400 Coca-Cola beverages annually, slightly down from 10 years ago, Indians consume just nine and Chinese 32 -- having tripled and quadrupled their consumption, respectively, over the past decade.

Plug that into your model
Rapidly rising international sales, in other words, are becoming a bigger and bigger portion of these companies' top and bottom lines thanks to higher-than-average growth. When it comes to valuing mega caps like Coke and Wal-Mart, however, investors are generally loath to model for anything more than low-single-digit growth. The reason for this is that it is tough for big companies to grow quickly, and it seems ridiculous to think that Wal-Mart could post near 10% growth off a $400 billion base.

But when it comes to Coke and Wal-Mart, it's critical to separate emerging markets sales from U.S. sales and model them separately. When you do so and then add them back together, you will find that it's not outlandish to expect these two companies to be able to sustain 7% to 9% overall sales growth five to 10 years from now thanks to a more significant presence in emerging markets.

Further, it appears that the market isn't applying the same multiples to emerging markets sales within multinationals today as they are to pure emerging markets plays. Wal-Mart, for example, owns a controlling 68% stake in Wal-Mart de Mexico, its Central American operator. The market is valuing Wal-Mart de Mexico today at nearly two times sales and 18 times earnings. Wal-Mart de Arkansas, on the other hand, is being valued at 0.5 times sales and seven times EBITDA. If we assume that investors are valuing Wal-Mart de Mexico fairly and back it out of Wal-Mart de Arkansas, then Wal-Mart de Arkansas' leftovers are trading for just six times EBITDA -- too cheap for a business of Wal-Mart's quality.

According to my estimates, investors today are pricing in just 3% to 4% sales growth at Coca-Cola and Wal-Mart over the next decade. Those numbers seem surpassed when considered within a broader global context. That makes Wal-Mart and Coke two compelling ways to increase your international exposure today.

Get Tim Hanson's Global View column every Thursday on Fool.com, or by following him on Twitter.

Tim Hanson is co-advisor of Motley Fool Global Gains. He does not own shares of any company mentioned.

Coca-Cola and Wal-Mart Stores are Motley Fool Inside Value recommendations. Coca-Cola is a Motley Fool Income Investor recommendation. The Fool owns shares of Coca-Cola, Vanguard Emerging Markets Stock ETF, and Wal-Mart Stores. Try any of our Foolish newsletter services free for 30 days. True to its name, The Motley Fool is made up of a motley assortment of writers and analysts, each with a unique perspective; sometimes we agree, sometimes we disagree, but we all believe in the power of learning from each other through our Foolish community. The Motley Fool has a disclosure policy.


Read/Post Comments (2) | Recommend This Article (12)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 02, 2010, at 11:42 PM, MazonCreekRich wrote:

    Couldn't sleep so I read your article.

    (Didn't mean that quite the way it sounds . . . .)

    As usual, very good; thought "Wal-Mart de Arkansas" was funny throw-away line.

    Along the same lines as WMT and KO, some of the big tech names might be considered as international plays.

    Rich

  • Report this Comment On September 03, 2010, at 2:57 AM, TMFAleph1 wrote:

    Tim,

    How did you construct the country P/E multiples using Capital IQ data?

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