Wal-Mart Harvard Case Solution & Analysis

INTRODUCTION

Wal-Mart, the world’s largest Super market aims to servepeople in consuming goods. Wal-Mart is operating with more than thousands of retail stores across the globe by their association in several countries with millions of customers worldwide.

Wal-Mart’s strategy was to provide better quality products and services to its customers at low prices and generally known as discounted stores. Wal-Mart deals in variety of consuming goods that include;electric appliances, electronic goods, hardware, grocery and many more at discounted price. Sears, Target, Gap and a few others are competitors of Wal-Mart. Since the Wal-Mart operates with the cost leadership strategy and able to provide a quality goods to customers at a reasonable low prices thus made it one of the top most leading retailers in the world.The unserved segment it has to now approach is China because China. There is no doubt that Wal-Mart has proved to be the benchmark in Retail industry through its customer driven marketing strategies, cost effectiveness and best quality standards across the industry.

Wal-Mart initially starts its business privately later  in 1970 it became a publicly traded firm with an initial public offering (IPO) of $16.50 per share and after approx. four years Wal-Mart declares its first cash dividend of $0.05 per share. Wal-Mart devises share split strategies to increase its floating shares. The latest stock price of Wal-Mart is $53.48 but analysts predicted that its target price is of $60 and generated a total return of 9.69%, above the market return.

Sabrina Gupta, an investment advisor to major brokerage house, examining the Wal-Mart stock valuation for its clients by using different valuation methods, including perpetual dividend approach, forecasted future dividends, three stage approach, price earnings ratio (P/E) multiple approach and noticed that Wal-Mart shares had a price-to-trailing earnings (P/E) ratio of 14.40 times, earning growth forecast of 10.4%.

PROBLEMS STATEMENT:

There are various approaches and methods to value the stock price of the firm. Which one of them could be accurately used to compute the stock price?Was the only problem Sabrina Gupta faced? and he has an option to adopt one of the stock pricing model for valuation from the following; I-e dividend discount model, the capital asset pricing model (CAPM) or price/earningmultiples (P/E ratio)

ANALYSIS:

The analysis is carried out from the all valuation methods mentioned above and the results are then computed, manipulated and recommended.

Valuation Method:

Capital Assets Pricing Model:

Sabrina Gupta uses the capital asset pricing model to calculate the cost of equity, which would be usedfor discounting Wal-Mart.

Therefore the cost of capital calculated by using the above equation equals 7.01%, which will use to discount the Wal-Mart. As shown in Exhibit 1.

Assumptions:

The capital asset pricing model can be calculated on following assumptions that:

  • Risk free rate of return is 3.68%.
  • Beta of Wal-Mart is 0.66
  • The market risk premium will be 5.05%.
  • Securities markets are very competitive and efficient.
  • Rational and risk averse investors.

Dividend in Perpetuity

The stock price can also be calculated by Dividend growth model in perpetuity.

Wal-Mart last closing stock price was $53.48 per share and the calculated stock price of Wal-Mart is $60.11 per share. So this is the best investment opportunity for Sabrina Gupta as the stock price of Wal-Mart is slightly undervalued.As shown in Exhibit 2.

Assumptions:

The following assumption undertaken to calculate the current stock price of Wal-Mart:

  • The annual dividend for the year 2011 will be of $1.21.
  • Cost of equity will be 7.01% as calculated by the capital asset pricing model.
  • Growth assumes at a constant rate of 5% annually.

Forecasted Dividends Approach:

Under the valuation method ofForecasted dividends for the next several years plus sales of the stock in the future Gupta can calculate the intrinsic value stock price of Wal-Mart as dividing the sum of first year dividend and price by adding one to the investor’s required rate of return (Ke)

Calculation of stock price shows that $57.30 per share will be the stock price of Wal-Mart. As shown in Exhibit 3.

Assumptions:

The following assumption are undertaken to calculate the current stock price of Wal-Mart while applying forecasted dividends for the next several years together with sales of the stock:

  • The annual dividend for the year 2011 will be of $1.21.
  • Cost of equity will be 7.01% as calculated by the capital asset pricing model.
  • Growth assumes at a constant rate of 5% annually.
  • Price of year 1 (P1) will be calculated by using the dividend valuation model.

Three Stage Approach:

Under the three stage approach, future dividends, Earnings and price earning ratioincreases with different ratios per year as well aspayout ratio will also vary with the same rise and fall in future fluctuations in dividends and earnings. Normally organizations show rapid growth in starting years known................

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