In utilizing the fundamental data provided by the 2010 Richard Ivey School of Business Foundation article titled Valuing Wal-Mart - 2010, I have made the following conclusions regarding the value of Wal-Mart (WMT) stock as of February 2012. * Utilizing the constant growth dividend discount model (DDM), the value of Wal-Mart’s stock price is $60.20. The most recent closing price of Wal-Mart stock was $53.48. Given this information, the constant growth DDM valuation suggests that the Wal-Mart stock is currently undervalued. * Utilizing the two-stage DDM approach, the value of Wal-Mart’s stock price is $83.95. Similar to the constant growth DDM valuation conclusion, the Wal-Mart stock is currently undervalued. * The capital asset pricing model (CAPM) was used to determine the appropriate required rate of return on Walm-Mart’s stock. The required rate of return for Wal-Mart is 7.01% * In following the concepts of the price/earnings (P/E) multiple approach, Wal-Mart’s intrinsic value based upon the P/E multiple approach is $55.03. Given the current stock price of Wal-mart of $53.48, this valuation would support that Wal-Mart’s stock is undervalued. *Several assumptions were made within the various valuation methods. The assumptions are noted and defined within each of the following sections.
In summary, in employing the dividend discount valuation methods and price/earnings multiple approach, the Wal-Mart stock would be a “buy” given the current close price of $53.48. Wal-mart is the largest retailer in the world with more than $400 billion in annual revenues across more than 8,000 stores. Since the firm’s inception in 1974, the firm has consistently grown their sales, earnings, dividends, and dividend payout ratio. Although the DDM valuations incorporate general assumptions around the dividend growth rates, I believe the assumptions used in the DDM valuation methods are in-line with Wal-Mart’s peers and its historical averages. Alternatively, the price/earnings multiple approach incorporates numerous assumptions and given the lack of further in-depth material surrounding Wal-Mart, it would be difficult to use this method stand-alone as a means of recommendation for investors.
Dividend Discount Model (DDM) Valuations for Wal-Mart
Dividends in Perpetuity
Under the constant growth dividend discount model, the current stock price of Wal-Mart stock is $60.20. One general assumption was made for the required rate of return (Ke) to be 7.01%. This was a general assumption calculated from the Capital Asset Pricing Model (CAPM) below. The given variables were D1 ($1.21) and g (5%). The $60.20 value for Wal-Mart is in-line with analysts’ projected value of $60.50. P0 = D1/(Ke – g)
$60.20 = $1.21 / (7.01% - 5.00%)
Terminal Value Approach
Since Wal-Mart is more of a mature, stable firm with various growth prospects on the horizon, it might be helpful for investors to utilize a multi-stage dividend discount model approach. This two-stage approach assumes Wal-Mart will experience a period of high-growth followed by a decline in a stable growth period. Utilizing the below assumptions, the value of Wal-Mart stock is $83.95. There were a fair amount of assumptions in utilizing the multi-stage terminal value approach. Assumptions and Calculations:
* Estimated Growth Rate (g) = Retention Rate1 x ROE2
g = 70.7 x 21.57% = 15.25%
1Wal-Mart’s 2010 retention rate (1-Payout Ratio2010) = (1-29.3) = 70.7 2ROE estimation for Wal-Mart was based off of Wal-Mart’s ROE average over the past five years. * Required Rate of Return (k) =
CAPM = E(R) = Rf + β[E(RM) – Rf] =
CAPM = E(R) = 3.68% + 0.66(5.05%)
k = 7.01%
* Stable Growth Period Dividend = 5%
* Growth Period = 5 years (D1 – D5)
I didn’t find it beneficial to utilize the three-stage approach to value Wal-Mart stock due to the fact that Wal-Mart is already in its mature phase of its business...