Three months ago, Walmart (WMT 1.32%) shareholders were led to believe the company would be able to pare back its then-sky-high inventory levels, even if it took a bit of a toll.
Specifically, CEO Doug McMillon explained during May's quarterly earnings call that the store chain intended to "work through most or all of the excess inventory over the next couple of quarters" but also warned that "we expect some gross margin pressure in Q2." And investors did get a slight taste of those markdowns for the recently ended quarter, but only a slight one.
Well, if you think the world's biggest retailer got rid of as much inventory as it would have liked to, however, think again. Stock levels are still uncomfortably high, particularly now that we're headed into cooler weather and the holiday shopping season.
Still sitting on loads of inventory
One of the more important but underappreciated aspects of retailing is having the right merchandise in the right place at the right time at the right price. Profit margins are typically paper thin in this business (Walmart's net profit margins were a scant 3.4% of revenue last quarter), so even the slightest misstep on the merchandise front can take a serious toll on the bottom line.
To its credit, Walmart boldly procured fresh inventory late last year and early this year, responding to what it thought would be brisk demand coming out of the pandemic. Also to its credit, by the middle of this year, it was willing to discount the merchandise it knew it would struggle to sell at full price, figuring it was better to take some lumps early than to let goods age on store shelves.
There's still much more of this inventory to work through, though.
The chart below tells the tale. As of the end of July, Walmart was still sitting on $59.9 billion worth of merchandise. That accounts for 39.2% of last quarter's top line. Both remain unusually, historically high, even if a bit lower from the prior quarter's levels.
Data source: Thomson Reuters. Chart by author. All inventory and sales figures are in millions of dollars.
And if there was ever a time of year to not be stuck with excess inventory, this is it.
The impact
In retailing, timing is everything. Winter coats don't sell in April. Back-to-school goods aren't a draw in November. Nobody's looking for swimsuits in December. The goods that Walmart stores should be loading up on now are autumn gear like sweatshirts, tailgating wares, rakes, Halloween costumes, and the like. It's also not too soon to be thinking about the upcoming holiday gift-giving season.
With money still tied up in spring and summer merchandise, however, Walmart might be unwilling or even unable to fully commit to merchandise that's most marketable in the current season. To this end, the $59.9 billion worth of goods the store chain presently has in its stores is still very high for this time of year.
The risk of this dynamic is more markdowns of older inventory, missed sales due to a lack of the right inventory, or a combination of both. The ultimate risk of this dynamic, however, is persistently thin profit margins. And we've already been seeing hints of this possibility. Last quarter's gross margins fell to 24.2% of revenue, extending a steady downtrend that's been underway for a year now.
Data source: Thomson Reuters. Chart by author.
We have seen lower gross margin rates from Walmart in recent years, to be clear. Those weaker figures, however, came in the midst of the pandemic in 2020 and one stumble in late 2021, when every company was struggling with the fallout of broken supply chains. The most recent bout of waning profitability reflects a growing degree of discounting and markdowns.
Right stock, wrong time
It's not the end of the world. Given its tricky situation, Walmart is holding up well enough. It managed to top last quarter's earnings and revenue estimates, after all.
Just bear in mind that Walmart lowered its own bar for the quarter less than a month ago, dialing back the profit guidance it published with the previous quarter's results. Given its lack of progress on the inventory front last quarter, don't be surprised if the company's profitability is still under unseen pressure.
Bottom line? Walmart is an outstanding long-term investment, to be sure, and will work through its inventory challenges. The economy will rekindle itself eventually as well. With a lack of clarity as to when these challenges might ease, however, any investors unable to deal with the volatility Walmart shares are sure to dish out in the foreseeable future might want to stay on the sidelines for now.
