The BMW Method
Wal-Mart as a Proxy for an Index Fund

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By tman77
October 3, 2005

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There has been some more talk about Wal-Mart on this board recently, and I have been doing some more thinking about them. I think I am leaning more to understanding why I would want to buy at current prices.

Here's what we know...

Everyone here knows who/what Wal-Mart is and does, and I think their business model is pretty easy to understand. Historically Wal-Mart used a new way to enter the market as compared with traditional retailers. They attacked by bringing bigger retail stores into small towns and gobbled up the Mom and Pops instead of initially competing directly with the Sears and Big mall outlets. As they grew they made some serious improvements in inventory tracking and cost controls.

Combine this with an owner who was fanatical about low prices/customer service and well, the story is well known.

Flash forward to today, and Wal-Mart is just a behemoth. Again, their revenues account for about 1.5% of America's GDP, which to me is amazing. The question is, how can they continue to grow at historical rates? Obviously (to me) they can't. But, as others have pointed out, Wal-Mart while everywhere in America, still has a lot (potentially a market of billions of low to middle income population wise in the next few decades) of room left in the world to expand into. Combine that with their size and their ability to control costs, i.e. starting to do their own credit card processing and commercial/retail banking, their notorious reputation for telling suppliers it's their way or the highway, etc, and you can see where they can lead the retail industry in cost cutting initiatives for years to come, provided they maintain this culture of focusing on the costs.

Add this to international growth prospects, and I think 5-10 years of 12%-15% compound annual growth is entirely possible, especially when you consider dividends and any share buybacks.

So where am I heading with this. Well I'm going to assume that Wal-Mart is fairly valued, to slightly undervalued, and by slightly, I'm talking no more than 10%. So its not a good buy right? I would suggest, that Wal-Mart along with a company or two like Berkshire Hathaway could form a foundation for LTBH-VI (long term buy and hold - value investors) portfolios.

Let's say Wal-Mart is fairly valued, and can reasonably be expected to grow at low double digits for the next 10+ years. Would you rather own an index fund that will probably average 9-12% a year? Or would you rather own Wal-Mart? With Wal-Mart, I would argue you are getting a company that is a defensive investment, and you are paying up for a great company (think as a capitalist, not socialist).

I can think of a lot of the companies we have recently been interested in here, and few are as easy as Wal-Mart to just think, okay, I will own them without looking at them again for the next few years.

Coke, excellent company but they truly are in just about every company on the face of the earth.

Merck, Pfizer, any Pharma. Offer higher rewards but do so because of higher risk, such as factors as ongoing litigation, FDA, patents, pipelines, etc.

HDI, Amazing brand loyalty, but are high-end motorcycles going to be in the same or more demand 10 years from now? Many competitors are releasing Harley look-alikes at lower costs.

Anyway, the list goes on and on. My point is, Wal-Mart seems to offer an excellent mix of low risk, decent return that you could probably buy the stock and forget about.

When Wal-Mart comes up we say, great company, can't continue to grow like it has in the past. That's the worst anyone comes up with so far. Yeah, I know, they aren't the best when it comes to labor practices, as they are always being dragged into court, but they pay out 20 or 50 million here and there, which is literally peanuts to them.

My point is this. Wal-Mart comes across as an extremely stable, well-managed company of a very large size, and in my mind qualifies as a defensive minded investment. i.e., in the event of a recession, people are still buying baby food, toothpaste, food, cheap clothes, etc, and Wal-Mart's downside is limited. I tend to be more of an enterprising investor, but lets say I'm holding some cash. Instead of making money market rates, for the cost of $22.00, ($11 to buy, and $11 to sale) I can get into and out of Wal-Mart whenever I want. Of course I understand that an investment in Wal-Mart is not at all like a money market fund, because in the money market fund the rate you are earning while small, is nearly guaranteed...

Put it this way, if one was going to put some amount of money into a mutual fund, I would argue one could put the same money into Berkshire and Wal-Mart, at their current prices, and would probably do better over a 3 to 5 year period, with about the same risk level (very low). By risk I mean loss of capital, not short-term volatility.

Basically, and I am not saying Wal-Mart is risk free, but one could consider a mix of Wal-Mart and Berkshire a near risk-free equity investment, assuming these companies continue doing what they've always done.

I know many may disagree, but again, this viewpoint is based on several assumptions I have made, and that I have come to believe in regarding they way Wal-Mart and Berkshire operate.


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