Why Walmart Stock May Face Setbacks

Walmart (WMT) stock is up 16.5% in 2016, as investors respond to the company's turnaround efforts. But can the shares continue to rise?

Walmart reports third-quarter results on Thursday.

Last month, Walmart held an analyst meeting. CEO Doug McMillon outlined four key areas of focus for the company: to make everyday life easier for families; to operate with discipline, including a continued focus on expense management; to be the most trusted retailer; and to deliver results and position the company to win.

All of those focus areas sound expensive.

I was left with the impression the company would continue to make investments in itself, which would limit earnings growth and pressure margins. For example, management plans to continue spending heavily on training for its associates. It plans to better manage inventory levels to increase in-stock performance. It plans to improve freshness in its grocery departments. And management also plans to expand online grocery shopping to 600 stores and 100 markets by the end of fiscal 2017.

Last year, selling, general and administrative expenses rose to 4.2% of revenue from 1.9% the year before, as management pumped billions back into the business. The spending wrecked operating margins, which fell from 5.7% to 5.0%. With the continued heavy spending, operating margins are expected to end fiscal 2017 at just 4.8%, and 4.6% next year. That means operating income is expected to fall from $27.5 billion in fiscal 2015 to $22.9 billion by 2018. That's a big drop!

Walmart plans to open between 331 and 351 new stores in fiscal 2017 and 249 to 279 new stores next year. In fiscal 2018, Walmart expects to open 35 new Supercenters and 20 new neighborhood markets, and to remodel 500 stores.

Management plans to spend $11 billion in 2018 and 2019 to fund its growth. Instead of adding new stores, the company will spend more on logistics and e-commerce growth.

Analysts are looking for third-quarter earnings of 96 cents per share on revenue of $117.86 billion, up 1.1%. For the full year, the consensus sees earnings of $4.35 per share and revenue of $498.8 billion. But, because of the heavy spending, analysts anticipate just $4.30 next year.

And that's my problem with the stock. Walmart will have no earnings growth next year, even with a $12 billion share repurchase program. At the current price, the stock is trading at 16.5 times forward estimates, which is higher than its usual range of 12 to 15 times.

While it's likely the stock will continue to drift within a tight range, without meaningful growth, I would avoid it.

This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.

More from Stocks

9 Stocks Goldman Sachs Thinks Will Blow Wall Street's Performance Away in 2019

9 Stocks Goldman Sachs Thinks Will Blow Wall Street's Performance Away in 2019

Video: Athens Stock Exchange CEO on What's Next for Greece's Debt Woes

Video: Athens Stock Exchange CEO on What's Next for Greece's Debt Woes

AMD Shares Are Soaring, But How Long Can the Good Times Last?

AMD Shares Are Soaring, But How Long Can the Good Times Last?

Ford CEO Jim Hackett Driving Future of Mobility in Detroit - Ford Jr. Cheers

Ford CEO Jim Hackett Driving Future of Mobility in Detroit - Ford Jr. Cheers

What Angela Merkel's Uncertain Political Future Means for Greece's Debt Woes

What Angela Merkel's Uncertain Political Future Means for Greece's Debt Woes