BMO Capital Markets modestly bumps its 2017/2018 estimates on the 1Q17 EPS print and raises its rating for Wal-Mart Stores Inc. (NYSE:WMT) to Market Perform from Underperform, which it established on 11/13/2014 at $78 over concerns of market share losses in grocery, declining transactions, expense pressure and store execution challenges. The firm still sees many challenges ahead, including emerging competition from hard discounters and an adverse margin mix from growth in e-commerce, but it sees a path of better relative sales and transaction growth over the next 12 months that is unlikely to cause the stock to underperform.
There is little to quibble about in the 2017 outlook or the 1Q17 results other than overall expense deleveraged from e-commerce/IT investments (leveraged US stores), as US WMT SSS were up 1.4% (traffic +1.5%) on; LSD growth in grocery (strongest growth in food categories in more than three years and no impact from deflation, excluding price investments; LSD growth in health & wellness and what the firm believes was improving SSS in general merchandise throughout the quarter; a growing contribution from ecomm (+80 bps) (Sales +63%/GMV up 69%) pointing to successful unfolding strategies; well-managed broader sequential strategic price rollbacks that emerged in the firm’s 1Q17 pricing data research that could have placed unplanned pressure on GM rate (it's unclear how the pull forward of markdowns into 4Q16 from 1Q17 might have benefited GM rate); and SSS inventory that was down 7%. The firm could argue that the contribution of growth from e-commerce of 80 bps from 4Q16's 40 bps would imply some sequential deterioration in US store sales, but strategies driving on-line sales are behind that deterioration and transactions rose 1.5%.
As the firm looks forward, SSS improved throughout the quarter ending with a strong Easter causing it to believe the 2Q SSS guide +1.5%-2.0% and EPS of $1.00-$1.08 (BMO $1.07) is achievable in a difficult period. It believes the company has control over expense growth that is likely to lead to expense leverage potentially as early as the 3Q17 and sees potentially moderating erosion or even expansion in EBIT margin rate. That said, annual EBIT margin rate is likely to remain flattish in the coming years on growth in lower margin e-commerce and price investments.