How Much Is Wal-Mart Worth?

It's the colossus of cost-cutting, the sultan of savings, it's the baron of the blue-light special, it's -- drum roll, please -- Wal-Mart (NYSE: WMT).

Some people love Wal-Mart, others vehemently hate it, and still others couldn't give a darn about the company, they just like the deals they can get at the Walmart and Sam's Club stores. Regardless of your philosophical leanings on the company, though, what we can say is that it's a dominant force in the world of retailing and has delivered impressive profitability and returns on equity for its investors.

Shares of Wal-Mart currently change hands at roughly $52 per share. Is that a good deal? Well, first we need to get an idea of what Wal-Mart's shares are really worth.

It's a beautiful day in the neighborhood
One way to get an idea of what a stock might be worth is to check out how similar companies are valued. So let's take a look at how Wal-Mart stacks up.

Sources: Capital IQ, a division of Standard & Poor's, and Yahoo! Finance. Average excludes Wal-Mart.

Using each of those averages to back into a stock price for Wal-Mart, and then taking the average across those results, we can come up with an estimated price-per-share of right around $52. This would suggest that Wal-Mart is fairly valued.

A comparable company analysis like this focuses on a stock's valuation in relation to other similar stocks. That means that the results depend a lot on the group as a whole being properly valued.

This brings a number of issues into question. One obvious question is whether the sector as a whole is fairly valued. If an entire sector is undervalued, then a company that shows up as fairly valued in a comparable company analysis is actually likely undervalued.

At the same time, while all of the companies in the analysis are supposed to be comparable, they're not the same. If a company is appreciably better or worse than other companies in the analysis, then an overvalued or undervalued reading, respectively, might not mean as much.

In this case, I happen to think Wal-Mart is a very efficient and well-run company and certainly better than some of the companies in the list. However, I also have a lot of respect for companies like Costco, Target, and Walgreen, so I wouldn't say that Wal-Mart is head and shoulders above the rest of the group.

Collecting the cash flow
An alternate way to value a stock is to do what's known as a discounted cash flow analysis. Basically, this method projects free cash flow over the next 10 years and discounts the tally from each of those years back to what it would be worth today (since a dollar tomorrow is worth less to us than a dollar today).

Because a DCF is based largely on estimates (aka guesses) and it attempts to predict the future, it can be a fickle beast and so its results are best used as guideposts rather than written-in-stone answers sent down from Mount Olympus.

For Wal-Mart's DCF, I used the following assumptions:

Sources: Capital IQ, a division of Standard & Poor's, Yahoo! Finance, author's estimates.

While most of this is pretty standard fare when it comes to DCFs, the academically inclined would probably balk at the way I set the cost of equity. In a "classic" DCF, the cost of equity is set based on an equation that uses beta -- a measure of how volatile a stock is versus the rest of the market -- and a few other numbers that I tend to thumb my nose at.

But when you get right down to it, the cost of equity is the rate of return that investors demand to invest in the equity of that company. So I generally set the cost of equity equal to the rate of return that I'd like to see from that stock.

Based on the assumptions above, a simple DCF model spits out a per-share value of $73 for Wal-Mart's stock. Contrary to what we saw above, this seems to say that Wal-Mart's stock is significantly undervalued.

Do we have a winner?
The valuations that we've done here are pretty simple and, particularly when it comes to the DCF, investors would be well advised to play with the numbers further before making a final decision on Wal-Mart's stock.

That said, the range of $52 to $73 that we got from the two valuation methods seem to say that Wal-Mart's stock is likely undervalued right now. At the midpoint between the two estimates we get $62.50 -- 20% above today's stock price.

Wal-Mart is a dominant player in the retail arena, a very efficient operator, and is a member of Standard & Poor's "dividend aristocrats." With an apparent discount on its stock right now, this is a stock that I think investors should at least have on their radar. I already own the stock personally, but I'm not against adding more to my holdings at this price.

Do you agree that Wal-Mart's stock is undervalued? Head down to the comments section and share your thoughts.

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