Wal-Mart To Invest More In Mexico This Year, But Its Expansion Will Be Slow

Retail giant Wal-Mart (NYSE:WMT) recently unveiled plans to invest close to 15 billion pesos ($1.1 billion) in its second largest market, Mexico, in fiscal 2015. ^[1] While the company has increased its investment by 7% this year, it will be opening fewer stores in Mexico as compared to fiscal 2014. Instead, Wal-Mart is planning to spend more on remodeling stores and developing e-commerce channel, which indicates its focus on improving comparable store sales. ^[2]

For the past several quarters, the company has been struggling to achieve positive comparable store sales growth in Mexico due to its weakening economy. However, it makes sense for Wal-Mart to continue investing in the region, given its substantial presence and the huge market potential. Since aggressive expansion will result in self-cannibalization, Wal-Mart is laying a greater emphasis improving its store productivity. The company expanded its floor space in Mexico and Central America by 7.1% last year and will increase it by only 5.2% this year. ^[2]

Our price estimate for Wal-Mart stands at $78, implying a premium of about 5% to the market price.

See our complete analysis for Wal-Mart

Sluggish Economic Growth Has Troubled Wal-Mart Mexico

Although Mexico’s retail sales have grown steadily for the past few years, they remained weak in 2013 due to low consumer confidence and an overall slowdown in the economy. Mexico’s economy expanded by just 1.1% in 2013 on account of lower government spending, weak demand for exports and sluggish consumption. ^[2] This marked the region’s slowest economic growth rate in the last four years. Also, consumer confidence index declined to 89.7 in December 2013, reaching its lowest level in the last two and a half years. ^[3] The index fell further to 84.5 in January due to increased taxes that prevented consumers from spending freely. ^[4]

Owing to Mexico’s weak economic environment and Wal-Mart’s continued expansion, the retailer’s comparable store sales in the region have declined by 2.2% on average for seven consecutive quarters. In almost all of these quarterly results, Wal-Mart cited low store traffic as the primary reason for its comparable sales decline. Weak consumer spending in Mexico has even forced Comercial Mexicana (fourth-largest supermarket chain in Mexico) to consider the sale of its business. ^[3]

However, It Still Remains An Important Market For The Company

Out of its 10,000 stores across the globe, Wal-Mart operates about 2,300 stores in Mexico, making it the second biggest market for the retailer after the U.S. Historically, Mexico’s retail market has remained strong as the region has sustained its economic growth and kept inflation under control. Moreover, financing and consumer credits have played an important part in boosting retail sales. Several retailers are evolving into financing bodies by providing the option of deferred payment at a cash price. “Meses sin intereses,” or monthly payments with no interest, has become a common practice in the market. In 2012, the market growth exceeded GDP growth with strong performance from department stores and specialty retailers. ^[5] During 2007-2012, retail sales in Mexico grew at a compound annual growth rate of 3.5%. ^[6]

Although Mexico’s same-store sales increased by just 0.1% in 2013, due to the weak economic environment and natural calamities, it is expected to improve in 2014. ANTAD, Mexico’s biggest retail trade body, expects the country’s same-store sales to increase by 1.7% this year. ^[3] While Mexico’s economic growth was slow in 2013, its GDP is expected to grow by about 4% this year, backed by increased government spending and U.S. economic recovery. ^[4]

However, the new tax structure can continue to weigh on the region’s consumer confidence. This year, the Mexican government introduced an 8% tax on junk food and increased sales taxes in regions near the U.S. border from 11% to 16%. ^[4] One the other hand, the exclusion of sales tax on essential items such food and medicine might positively impact the consumer sentiment in Mexico. ^[7]

Therefore, Wal-Mart Is Slowing Its Expansion To Improve Store Productivity

Considering the aforementioned factors, we conclude that the Mexican retail market, although lucrative, is going through a rough phase. Wal-Mart’s rapid expansion in the region will only lead to store traffic decline and low productivity. Therefore back in 2012, the retailer decided to slow down its expansion in Mexico (along with China and Brazil), and work on improving its existing store sales instead. Wal-Mart is still persisting with this strategy which is evident from its recent plans of opening fewer stores in Mexico this year.

The company is making significant investments in remodeling and maintenance of its existing stores, that can help in enhancing the shopping experience. Wal-Mart is also developing its e-commerce channel that directly complements its store sales. Given that online sales account for just 3% of the retailer’s revenues, there is a huge scope for the channel’s growth.

In addition to Mexico, we believe that the company will follow a similar strategy in the long term in Brazil and China as well. Hence, we forecast Wal-Mart’s international revenue per square feet to start improving this year, following a slump in 2012 and 2013. We currently estimate the figure to rise to $436 over the course of next five-six years from $387 in 2013. However, if the retailer’s international revenue per square feet rises to $500 instead, driven by industry growth and high store productivity in Mexico, Brazil and China, there can be about 5% upside to our price estimate for Wal-Mart.

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1. Walmart de México y Centroamérica Will Invest $15.0 Billion Pesos During 2014 to Increase Its Sales Floor and Enhance Technology, Walmart, Feb 24 2014 [↩]
2. Mexico’s Walmex to open fewer stores in 2014, focus on remodeling, Reuters, Feb 24 2014 [↩] [↩] [↩]
3. Mexico’s same-store sales seen slightly up in 2014-trade body, Reuters, Jan 21 2014 [↩] [↩] [↩]
4. Mexico Consumer Confidence Falls to Lowest Since 2010 on Taxes, Bloomberg, Feb 5 2014 [↩] [↩] [↩]
5. Retailing in Mexico, Euromonitor International, Feb 2013 [↩]
6. The Future of Retailing in Mexico to 2017, Report Linker, Aug 2013 [↩]
7. Diluted Mexico tax reform gives retailers relief but no panacea, Reuters, Sept 11 2013 [↩]