Walmart (WMT -0.05%) could be the stock you never knew you needed in your portfolio. Sure, the retailing giant has a reputation for being unexciting. It competes in a mature industry that's characterized by low profit margins and slow growth, after all.
Retailers are lucky to convert 5% of their sales into earnings after paying their considerable expenses. That's compared to the tech giants that routinely post profit margins north of 30% of sales.
But don't dismiss Walmart as a potentially excellent long-term holding. The retailer isn't nearly as risky to own as many of its high-growth stock market peers. And it has a good chance of boosting its earnings power over the next several years. All of that is available at a valuation that might seem like a steal in just a few years.
1. It's good to be the leader
Market leadership confers benefits to the top dog in any industry, and Walmart is a clear beneficiary of that competitive advantage. The chain grew sales at a surprisingly strong clip through the holiday shopping season, both in its stores and through the online selling channel.
Comparable-store sales rose 4% in fiscal Q4, on top of the prior year's 8% spike. That result easily outperformed peers like Kroger and Target. In fact, Walmart gained market share in both the grocery niche and the general merchandise category.
A few factors went into that success, but the biggest dynamic is Walmart's pricing advantage. Its massive size allows it to sell at lower prices than peers, which is valuable in every selling environment but especially useful when consumers are looking to cut costs.
Look for even more gains ahead powered by this success. "We're ... excited about building on our momentum as we work to bring prices down for our customers," CEO Dough McMillon said in late February.
2. It's good to see earnings power expand
Walmart isn't known for its impressive profit margins, but the chain's earnings power is improving. Operating income spiked in the past year and is projected to outpace revenue again in 2024. It's great news for the business, meanwhile, that these gains arrived even as the company cuts prices amid strong sales growth.
A lot of credit goes to the retailer's push into tech niches. Its e-commerce sales jumped over 20% last year to cross $100 billion, for example.
Walmart is pouring resources into its digital advertising business at the same time, having just purchased Visio for $2.3 billion. Investors can see some early signs of success here because the profit margin rose by a full percentage point to reach 4.2% of sales.
3. It's good to see a stock that's priced just right
Walmart is still far from the 6% profit margin that investors saw back in 2015 before the chain began spending heavily on building its omnichannel retailing platform. On the other hand, it has several more attractive growth avenues available to it that just weren't available back then, such as its e-commerce and digital advertising.
Overall, then, shares look like a steal today if you believe the retailer can maintain its strong growth rate while expanding profit margins back toward that 6% level. The stock is trading for 0.7 times annual sales, which is toward the high end (but not at the top) of the range of premiums that investors have seen in the past five years.
Target costs the same but lacks Walmart's market-share leadership. Investors should consider Walmart a great deal that delivers stability with a reasonable shot at faster earnings growth.
