Cash Burning a Hole in Wal-Mart's Pocket?
After selling off its McLane distribution business to
Berkshire Hathaway
(BRK.A) - Get Report
,
Wal-Mart
(WMT) - Get Report
itself may go shopping.
Dropping the distributor will allow Wal-Mart to focus on its core retail operations. Meanwhile, Berkshire would be getting a growing company with plenty of bottom-line potential.
Some also speculate that the company's sale of McLane could pave the way for a retail-related acquisition, either here in the U.S. or overseas.
Wal-Mart is already
making a play for Safeway U.K., a rival of its British subsidiary Asda. The company might also be looking at other international deals, which conceivably would grow faster than McLane and allow Wal-Mart to extend its business into areas where it doesn't yet have a presence.
"All signs point to them getting cash together for an international acquisition," said one fund manager, who asked not to be named.
Meanwhile, the company also may have its eyes on targets closer to home. Rumors swirled recently that Wal-Mart was taking a close look at BJ's Wholesale Club. While some have dismissed those rumors, the company may well try to pick up a regional grocery chain to help jump-start its new neighborhood market store concept, suggested Patrick McKeaver, an analyst with SunTrust Robinson Humphrey.
"They've been growing (the neighborhood markets concept) pretty aggressively, but it's still a small piece of their overall business," said McKeaver. "At some point or other, they're going have to do some sort of acquisition." His firm has no banking relationship with Wal-Mart.
But the company didn't need to sell McLane to make an acquisition, noted Todd Slater, who covers the company for Lazard Freres. The proceeds from the sale won't help much with most acquisitions, Slater noted. Meanwhile, the company generates enough cash from its operations that it didn't necessarily need to sell McLane to purchase something else.
"Wal-Mart's management is looking at every piece of their business to make sure nothing is dragging them behind," said Richard Hastings, a retail analyst with credit agency Bernard Sands. But he added, "Berkshire wouldn't be interested in McLane unless they saw it fitting into their long-term investment strategy."
Back to Basics
Wal-Mart
agreed on Friday to sell McLane to Warren Buffett's conglomerate for about $1.45 billion. The deal, which is subject to regulatory approval, is expected to close within 30 days.
Wal-Mart originally acquired Temple, Texas-based McLane in 1990 for about $300 million in cash. Since then the company has grown its sales from $3 billion to about $14.9 billion in Wal-Mart's just-completed fiscal year. McLane also sells about $7.2 billion worth of services to Wal-Mart.
Wal-Mart generally does not break out McLane's bottom line, but Wal-Mart spokesman Tom Williams said McLane has posted has posted profits ranging from $190 million to $250 million over the "last few years." The sale of McLane will depress Wal-Mart's earnings by 1 cent per share in the current fiscal year and by 2 cents per share in fiscal 2005, Wal-Mart estimated.
In announcing the deal on Friday, Wal-Mart said the sale of McLane would allow it to focus on its core retail business. Wal-Mart will continue to operate its own distribution business once it sells McLane. But unlike McLane, which serves thousands of third-party stores, Wal-Mart's distribution system only serves its own discount stores, supercenters and warehouse clubs.
"As we grow as a company, our leadership has always focused on what we do," said Williams. "We run stores. This will allow us to focus on what our business is."
That renewed focus on its retail operations may not be a bad thing, especially because the retail giant has posted slowing same-store sales growth in recent months. Wal-Mart's same-store sales, which compare results at outlets open for more than one year, slowed to 0.7% growth in March and have routinely come in below 3% in the last six months, far below the company's historical results.
Meanwhile, the company has struggled making in-roads overseas, especially in its German and Asian operations, notes Hastings.
As Wal-Mart's same-store sales slow, the company is "looking at a different expense and growth structure long term" than it had in the past, Hastings said.
"They're going to need to spend more money changing existing stores," he said. "Wal-Mart needs to concentrate on pure retail right now."
Slater takes the company at face value when it says it sold off McLane to help it focus on retail. While McLane helped Wal-Mart set up its grocery operations in its supercenters in the 1990s, Wal-Mart has the ability to serve those grocery operations without McLane now, he said.
"The need for McLane was low. It was likely more of a distraction than a need at this point," Slater said.
But while McLane may have been a distraction for Wal-Mart, Adam Fein, president of Pembroke Consulting, thinks Berkshire got a diamond in the rough.
Although distributors get a bad rap for being in low-margin businesses, that charge doesn't necessarily apply to McLane, Fein said. McLane's core business, other than serving Wal-Mart, is distributing goods to thousands of small retail operators. Those companies are willing to pay for services such as warehousing, stocking and credit for which Wal-Mart had little need, he said.
Meanwhile, once McLane gets out from under Wal-Mart's roof, it likely will have better opportunities. Many retailers were likely reluctant to deal with a distributor owned by their biggest competitor, Fein said.
"I think Warren Buffett got a great buy," Fein said.
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