Late in July, Walmart cut its profit forecast, warning that inflation was squeezing household budgets, leading consumers to ease back on discretionary purchases. Making matters worse, the company, worried about the post-pandemic disruption in supply chains, had boosted inventories where it could, leaving it with a lot of merchandise that would now need shifting at sharply cut prices. I’ve posted about this issue, which has affected other companies (not least Target, as we see below) here and here.
Fast forward three weeks or so, and the picture appears to have brightened. Things were not as bad as thought back then.
Walmart had good news Tuesday for investors and economists worried about a looming recession, as the retail giant gave a much rosier picture of consumer spending than it offered less than a month ago.
On July 25, Walmart warned about its earnings for the rest of the year, saying that high fuel and food prices were prompting consumers to cut back on other spending, forcing the chain to cut prices on some non-essential goods, such as clothing, electronics and home goods. The earnings warning was seen as another sign of growing weakness for the economy overall.
But Tuesday the nation’s largest retailer said it got a good customer response from those price cuts last quarter. Although Walmart continues to expect earnings will fall in the second half of the year, it now predicts a smaller drop in profit going forward than it had previously expected. Earnings per share for the year are expected to drop 8% to 10%, excluding divestitures, but that’s better than the 10% to 12% drop it forecast on July 25.
“We’re pleased to see more customers choosing Walmart during this inflationary period,” said CEO Doug McMillon.
The stock rose, and that was after a good run recently. But look carefully, and the news does not appear to have been as good as all that. The (positive) revision in the profit warning was good news, but, to get that into perspective, profits are going to fall by less than expected. Good news, yes, but falling profits are still falling profits.
Dig into the numbers, and it becomes clear that what these numbers say about the economy is not quite so rosy as might be hoped.
The Wall Street Journal (my emphasis added):
The company’s value-price positioning is clearly paying off in today’s inflationary environment. More middle- and high-income consumers are frequenting its stores, while low-income customers continue to stay loyal, according to the company’s executives during the earnings call. Prices for food at home increased 13.1% in July from a year earlier, according to the Labor Department’s consumer-price index, an acceleration from June and the largest year-over-year increase since 1979. That has led to some trade downs within food: Walmart is seeing consumers opt for cheaper hot dogs, canned tuna or chicken instead of deli meats, for example.
So, squeezed consumers are basically trading down. That said, it’s interesting to see that low-income customers are “stay[ing] loyal,” given that Dollar Tree and Dollar General beat expectations in the first quarters as consumers put increased weight on value. Both companies report next week.
Target released its second-quarter results today. The story there was the hit that it took on inventories.
Target on Wednesday said its quarterly profit fell nearly 90% from a year ago, as the retailer followed through on its warning that steep markdowns on unwanted merchandise would weigh on its bottom line.
The big-box retailer missed Wall Street’s expectations by a wide margin, even after the company itself lowered guidance twice.
Yet the company reiterated its full-year forecast, saying it is now positioned for a rebound. It said it expects full-year revenue growth in the low to mid single digits. Target also said its operating margin rate will be in a range around 6% in the second half of the year. That would represent a jump from its operating margin rate of 1.2% in the fiscal second quarter.
Walmart, by contrast, appears to have had less of a clear-out.
Walmart’s inventories stood at $60bn at the end of July. That is up from $48bn a year ago, but down from the $61bn reported three months ago. The number still does not fully reflect a clear-out of excess merchandise. Inflation accounted for about 40 per cent of the $12bn year-on-year increase in the absolute value of inventory on hand. A chunk of inventory is “wanted” goods. These will cover spikes in demand when kids go back to school and around Halloween and Thanksgiving.
Those red reduced price stickers come at a cost. Gross margins fell 132 basis points in the quarter. But sometimes bitter medicine is the best kind. Walmart is now better placed to focus on selling products to which Americans have shifted their spending — groceries and essential goods.
Good times just around the corner? Not quite.