Walmart: U.K. Withdrawal Underlines Its Strengths

Walmart (WMT) has announced the sale of its U.K subsidiary ASDA, effectively ending its two decades long foray into the British retailing space. Arguably, the exit marks a failure, sparking headlines such as How Walmart’s UK invasion fizzled out. In fact, I think the opposite is true: the company’s time in the U.K. and its retrenchment from that market underline a lot of what is attractive about Walmart as a stock.

Walmart Capital Allocation is Ruthless

The U.K. is a highly developed retail market with a brutally competitive retailing sector. Walmart has largely been able to hold its own in this market. However, returns are constrained by factors including competition.

In the 1990s, the U.K. may have made some sense to Walmart as an expansion opportunity. That was particularly so as Asda had been built in the image of Walmart right down to its everyday low pricing language, so integration was perceived to be easy.

Now, there are more attractively perceived opportunities in which Walmart can expend its capital, whether growth markets like India with its Flipkart brand, new markets for the company like health, or just building out further its core U.S. business, growing fast relative to Asda which has lost market share in recent years. Some of these may end up being good decisions, some may not: I don’t see many foreign companies doing exceptionally well in India. Nonetheless, the point remains that Walmart is a careful, ruthless, calculating allocator of capital.

Walmart Continues to Learn Its Strengths

The U.K. wasn’t the first European market Walmart had tried to crack. It had previously set up shop in Germany, in 1997, just a couple of years before the Asda deal. It left in less than a decade, with around $1 billion of losses to show for it. For a good summary of its rather error-prone experience there, read this article.

The company misjudged the German retail landscape, from the conservative nature of shopping hours to the role of labor in the marketplace. It was a better cultural fit in the U.K., but even there is made some mistakes as any retailer is bound to do. Having decided to venture into foreign markets, it is to its credit that Walmart despite its long, successful history at home does not simply insist on doing things its own way but adapts to local situations. Indeed, there was a two-way learning street, with senior Asda management working in Walmart and Asda success stories like the “George” clothing brand trialed in Walmart. This is a positive sign of the mindset Amazon has, to keep learning about the market, which explains its dramatic improvement in online after a slowish start versus Amazon.

The U.K. sojourn also offered practical understanding of how to fight German hard discounters. One of the existential challenges to Walmart in its home market in coming decades will likely be the rise of German hard discounters Aldi and Lidl. If you are not familiar with them already, it is worth learning about them as they are very successful operators and have had a seismic effect on the European retail scene (I detailed an example in the U.K. context in Tesco: Its Aldi Fight Is As Hard As Ever).

Aldi now has over 2,000 stores in the U.S., after four decades in the market. Lidl was slower off the mark, expecting around 127 stores at the end of this year. Over time I expect they will pose a large threat to U.S. retailers as they have in other scale markets in Europe and elsewhere.

Having been in the trenches while that pair have tripled their U.K. market share in the past decade, Walmart has a clear sense of how best to compete with them. That can only help it in its core U.S. market.

Walmart Can Make Money Even in Tough Markets

With its withdrawal from the U.K. it could seem like Walmart failed in the market. Some comments on Seeking Alpha refer to the investment as offering a negative return. That is not fully correct. In fact, Walmart made money during its stay in the U.K.

First off, the business was sold for £3.8 billion. The purchase price had been £3.7 billion in the late nineties, so nominally there is a £100 million profit. That is not much but it definitely beats the German experience. Over twenty years, however, that capital gain wouldn’t have kept up with inflation by far, so in reality it is a loss. But during the Walmart ownership period, Asda paid substantial dividends to Bentonville. The exact size of these dividends is hard to pin down due to the way in which they were paid, through intermediate companies. However, the numbers suggest meaty dividends. £450 million was reported for 2016, £230m in 2009, £1.4 billion in 2003. Those dividends alone – there may have been more – equate to 56% of the purchase price. Just those three dividends equate to an annual yield during the twenty years of Walmart’s ownership of 2.8%.

Secondly, in addition to dividends, Asda reportedly paid royalties to the parent company for various rights. The details are vague, but in one year alone (2010) there was a £137m increase in these royalties, so clearly they were substantial. Indeed, they were so substantial that Asda got into a £115m dispute with the U.K. tax authorities about them. The Sunday Times pegged seven years of the royalties at £780m; that is just over a third of the time in which the company has owned Asda. That’s all on top of the dividends.

Conclusion: Walmart Remains a Best in Breed Retailer

Walmart isn’t running away from the U.K., or slinking away with its tail behind its legs. It is leaving with a little bit more in its pocket (in 2020 terms) than it paid (in 1999 terms), having extracted substantial money from the business in the interim. It can then reallocate that money to more promising markets. Meanwhile, it has learnt important information about competing with some core competitors of the coming decades. Asda isn’t its proudest chapter, but it underlines why Walmart continues to thrive: it allocates money efficiently, it makes money even when that’s difficult, and it learns and adapts.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Business, Investment Ideas

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