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Wal-Mart Is Turning the Corner

By Jeremy Bowman – Updated May 25, 2017 at 12:52PM

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The retail giant posted its first quarterly increase in profit last week in more than two years. Here's why things should only get better from here.

In October 2015, Wal-Mart Stores, Inc. (WMT -0.17%) slashed its profit guidance for the following year, saying it would invest in higher wages and cleaner stores in order to ensure long-term success.

Management said, "As a result of investments in wages and training as well as our commitment to further developing a seamless customer experience, we expect earnings per share to decline between 6% and 12% in fiscal 2017 (calendar 2016)," adding that EPS would rebound with a 5% to 10% increase in fiscal year 2019 (calendar 2018).

The grocery section of a Wal-Mart store.

Image source: Wal-Mart.

Wall Street responded with a massive sell-off as the stock fell more than 8%, its worst one-day performance since the recession. Clearly, the market saw Wal-Mart's move as a sign of weakness as it caved to pressure from, and analysts seemed skeptical that Wal-Mart would be able to return to steady growth. 

However, Wal-Mart's latest quarterly report a year-and-a-half later makes it clear that the company is well on its way to fulfilling that promise.

A return to profit growth

The retail giant delivered its first quarter of profit growth in more than two years last week as earnings per share increased 2% to $1, coming at the top end of the company's guidance and beating analyst estimates.

Wal-Mart also posted its 11th consecutive quarter of same-store sales growth, a streak that many retailers have been unable to match, including rivals like Kroger (KR 0.45%) and Target (TGT 0.63%), each of whom reported same-store sales declines in their most recent quarters.

In order to maintain that streak of same-store sales growth, Wal-Mart has had to overcome challenges including e-commerce competition and food deflation that have crushed sales growth at its supermarket peers. Wal-Mart, which derives more than half of its domestic sales from groceries, has lowered its prices to grab more market share in the category, one of many savvy strategic moves the company has recently made.

The company has set a goal of having grocery prices 15% below the competition 80% of the time. As a result, it has clawed back market share it had previously lost to grocers like Kroger as well as the dollar store chains.

Why profits should continue to grow

When Wal-Mart cut its profit forecast in 2015, it did something that almost all publicly trade companies are reluctant do. It sacrificed short-term performance for long-term gains, and, as it often does, Wall Street punished for it doing so.

But there is now sufficient evidence that those moves are paying off as the increase in profits indicates. Wal-Mart's e-commerce sales skyrocketed last quarter, jumping 63% on the strength of its decision in January to offer free two-day shipping on orders over $35. Expanding its online inventory from 10 million to 50 million and increasing the number of grocery pickup kiosks also drove the surge in online sales.

Last summer, Wal-Mart acquired for $3.3 billion, bringing its Founder Marc Lore into the fold. Lore now runs Wal-Mart's U.S. e-commerce division and has been the force behind much of the recent improvements. Investments like that and expansion of the grocery pickup program will continue to pay off much in the same way that investing in higher wages and better training has led to higher customer satisfaction in its stores.

As long as same-store sales continue to increase and e-commerce grows at a robust pace, Wal-Mart's profits will move higher. The company has made the bulk of the needed investments to ensure its success and investors can now begin reaping the benefits.

The stock has already bounced back 37% since the sell-off in 2015. Wal-Mart is flexing its muscle again and Wall Street is back on board.

Jeremy Bowman owns shares of Kroger. The Motley Fool owns shares of and recommends Amazon. The Motley Fool has a disclosure policy.

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