[lbo-talk] "More pronounced paycheck cycle" hits Wal-Mart

[Steven L. Robinson]

Two Giant Retail Chains Say Sales Are Slumping

By Michael Barbaro
The New York Times
Published: August 15, 2007

The two companies, the nation's largest retailers and bellwethers for
consumer spending, reported earnings disappointments for the second quarter
and predicted an even bumpier year ahead because of higher energy costs and
a sagging housing market.

The sober forecasts reverberated across Wall Street, sending the Dow Jones
industrial average and the Standard & Poor's 500-stock index down by nearly
2 percent, with the Dow dropping more than 200 points. Shares of both
Wal-Mart and Home Depot fell around 5 percent.

Home Depot also said that the proposed sale of its supply business, for $11
billion, could fall through because of trouble in the credit markets,
potentially forcing the retailer to shrink a $23 billion stock buyback.

Economists said the sluggish performance of the chains - Wal-Mart missed its
profit forecast and Home Depot's earnings dropped - could signal broader
troubles in the economy.

"It's a red flag," said Jay Bryson, global economist at Wachovia. "If
consumer spending starts to weaken, the overall outlook for economic growth
will diminish."

That, Wal-Mart executives said, is precisely what has begun to happen in its
4,000 United States stores over the last three months - even after the chain
cut prices on 16,000 products this summer.

"Many customers are running out of money at the end of the month," said H.
Lee Scott Jr., the chief executive of Wal-Mart.

Home Depot's chief executive, Frank Blake, described a "tough selling
environment" and warned that the housing and home improvement markets would
remain weak into 2008.

But Wal-Mart also blamed itself, for poor clothing and home décor products.
And Home Depot has alienated customers with lackluster service, making it
difficult to discern how much of the slowdown was self-inflicted damage and
how much was tied to larger economic forces.

For the second quarter, which ended Aug. 3, Wal-Mart missed its profit
estimate and those of Wall Street analysts, a rarity for the company, whose
performance is generally the envy of the industry. Earnings from continuing
operations were 72 cents a share, below the company forecast of at least 75
cents. Even so, sales rose 8.8 percent, to $92 billion.

Net income rose 49 percent, to $3.1 billion, or 76 cents a share. But that
figure included 4 cents a share in one-time gains like lower workers'
compensation claims.

"Although some people will report that Wal-Mart has had record sales and
earnings, our underlying operating performance this quarter was not what we
expect of ourselves, and not what our shareholders expect of us," Mr. Scott
said.

For the year, Wal-Mart said it would earn $3.05 to $3.13 a share from
continuing operations, lower than its original forecast of $3.15 to $3.23.

Mr. Scott said Wal-Mart's shoppers, who generally earn less than $40,000 a
household, are "under difficult pressure economically."

He added that "the paycheck cycle is more pronounced now than ever before,"
meaning that customers are left with little cash by the end of the month.

Wal-Mart has lowered prices across its stores to appeal to such customers,
but the strategy has hurt its profit margins. Sales of grocery items,
electronics and pharmacy items rose in the second quarter, but clothing and
home products - which sell at a higher profit margin - did not.

Charles Grom, an analyst at JPMorgan, downgraded Wal-Mart stock yesterday,
saying its second-quarter earnings were "creating a slippery slope for
Wal-Mart to climb."

"Wal-Mart's lowered outlook," Mr. Grom wrote, "is more than just resetting
the bar this morning. Rather, the company and this management has suffered a
credibility blow that will take time to overcome."

Wal-Mart's shares fell $2.35, more than 5 percent, to close at $43.82
yesterday.

At Home Depot, second-quarter income fell 14.8 percent, to $1.6 billion, or
81 cents a share, compared with the quarter last year. Sales fell 1.8 percen
t, to $22.2 billion, while sales at stores open at least a year, a key
measure in retailing, fell 5.2 percent.

"The housing market remains difficult, and our performance reflects that,"
said Mr. Blake, the chief executive. He noted, for example, that housing
starts so far this year were down 22 percent, compared with a year ago, and
existing-home sales were down 12 percent.

Home Depot said its earnings for the year would fall 15 to 18 percent,
confirming an earlier forecast. Nevertheless, the company will invest in its
stores, giving employees bonuses and remodeling aging outlets to better
compete with Lowe's, its biggest rival.

Executives said they were restructuring the deal to sell Home Depot's supply
division, a $12 billion business, to three private equity groups, which
could result in a lower sales price. The original price for the division was
$10.3 billion. As the home construction market has slowed, the supply
business has suffered, which may explain why the buyers want to renegotiate
the price.

If the sale price is lowered or the deal for Home Depot Supply collapses,
Home Depot said it would most likely cut back its share repurchase program,
which calls for the company to buy $22.5 billion worth of company stock.

Home Depot's stock fell $1.72, or 4.9 percent, to $33.52.

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