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in whole or in part.
• More favorable purchase prices are a result of Walmart’s increased size
and bargaining power with suppliers. Walmart credits worldwide sourcing
through its distribution centers as part of the reason for the decreased cost
of goods sold to sales percentage.
Selling and Administrative Expense to Sales: The selling and administrative ex-
pense to sales percentage increased between fiscal 2006 and fiscal 2008. Possible
explanations include the following:
• Increased advertising and other promotion costs in an increasingly com-
petitive environment, especially as Walmart expands internationally. In
addition, utility costs have increased due to the continuing increases in
such costs. Indeed, in the 2008 10-K, Walmart attributes part of the in-
crease in operating expenses to higher utility costs.
• Increased compensation costs. Walmart has come under attack in the press
for its low wages, resulting in increased external efforts to unionize em–
ployees. Perhaps Walmart has responded to these pressures by increasing
compensation levels. In fact, 2008 includes a pretax charge of $352 mil-
lion for the settlement of 63 wage and hour class action lawsuits.
• Increased coordination costs as the company expands internationally. The
2008 10-K claims that “Corporate expenses have increased primarily due
Segment Data: Text Exhibit 4.48 indicates that the sales mix shifted away from
Walmart Stores and Sam’s Clubs toward the International segment during the last
three years. The mix shift away from Walmart Stores should decrease the overall
profit margin because this segment has the highest profit margin. The mix shift
ternational segment produced lower increases in net sales due to unfavorable fluc-
tuations in foreign currency exchange rates during 2008, which increases the
impact of recurring or fixed costs on operating profitability.
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in whole or in part.
Income Taxes: Income tax expense (excluding the tax effects of interest expense)
as a percentage of sales was a steady 1.8% in all three years. Because income taxes
are a tax on income and not sales, we obtain better insight by expressing income
taxes as a percentage of income before income taxes. Because ROA excludes any
Total Assets Turnover: The total assets turnover remained the same between
2006 and 2007 (at 2.4) and then increased slightly in 2008 (to 2.5).
The flat total assets turnover between 2006 and 2007 actually reflects a com-
bination of decreasing accounts receivable turnover, increasing inventory turnover,
although Text Exhibit 4.49 does not tabulate a cash turnover ratio, it should be
clear from the decreasing balance of cash on the balance sheet between 2006 and
2007 that the cash turnover also increased, presumably due to better cash man-
agement policies.
fixed assets turnover, which combines with the inventory turnover to produce the
overall slight increase in total assets turnover. Fixed assets (net of accumulated de-
preciation) actually decreased 1.25% during 2008. The investing section of the
statement of cash flows can give some insight into major activities that would have
Chapter 4
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4-31
in whole or in part.
activity during 2008, the curtailment of capital expenditures at previous levels is
not surprising.
It is of interest to observe that the accounts receivable turnover continually
decreased during the three years. Perhaps Walmart made a decreasing proportion
pliers for incentive and marketing programs, and receivables from real estate
transactions and property insurance claims.
b. Return on Common Shareholders’ Equity (ROCE)
capital structure leverage ratio.
The decline in profit margin for ROCE across the three years is consistent
with the declines in profit margin for ROA discussed above. Recall that COGS as
a percentage of sales steadily decreased, but was offset by steady increases in gen-
eral and administrative costs as a percentage of sales. In addition, note that the
3.9% in 2008. Thus, borrowing costs increase by similar amounts as operating
profit. So differential effects of borrowing costs do not appear to be a significant
incremental explanatory factor for the overall declines in profit margin for ROCE
(beyond the explanations for the overall declines in profit margin for ROA).
The slightly increased capital structure leverage ratios result from a combina-
tion of increased levels of borrowing, repurchases of common stock, and increased
dividends. The latter two actions offset to some extent the increases in retained
earnings from profitable operations.
c. Short-Term Liquidity Risk
Walmart’s short-term liquidity ratios suggest little change over the three-year
period. A current ratio around 1.0 and a quick ratio in the mid to high teens might
is not a major concern for Walmart.
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d. Long-Term Solvency Risk
Walmart’s total liabilities to total assets ratio increased slightly between 2006 and
benchmark for a healthy firm. Its interest coverage ratio is very high. Thus, long-
term solvency risk is low for Walmart.
Case 4.2: Profitability and Risk Analysis for Walmart Stores (Part B)
a. Walmart’s higher ROA is the result of a larger assets turnover that more than off-
sets Target’s higher profit margin for ROA.
Target’s Higher Profit Margin for ROA: Target’s higher profit margin results
from a higher percentage of other revenues, a lower cost of goods sold to sales
percentage offset by a higher selling and administrative expense to sales percen-
tage, and a slightly higher average income tax rate.
Other Revenues to Sales Percentage: Target offers its own credit card and gene-
rates interest revenue on unpaid balances. Walmart does not offer its own card.
Thus, Target has a higher other revenues to sales percentage.
Cost of Goods Sold to Sales Percentage: Target’s lower cost of goods sold to
sales percentage likely results from four factors:
1. Target places greater emphasis on selling trendy, name brand products, which
along the purchase price advantage to customers by way of a lower price.
2. Target offers a more pleasant shopping experience, which should increase cus-
tomers’ willingness to pay higher prices.
3. Target offers its own credit card, which increases customer loyalty to purchas-
ing from Target.
percentage.
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in whole or in part.
Selling and Administrative Expense Percentage: Target’s higher selling and
administrative expense to sales percentage likely results from four factors:
1. Target incurs more costs to staff its stores to make the shopping experience
2. Target is considerably smaller than Walmart, which does not allow Target to
same extent as Walmart.
3. Target incurs costs to administer its credit card operations, as well as expenses
to write off uncollectible accounts.
4. Another possible explanation for Target’s higher selling and administrative ex-
information on compensation to enable an assessment of this explanation.
Average Income Tax Rate: Income taxes as a percentage of net income before
taxes (excluding the tax savings from interest expense) are as follows:
Target
Walmart
pansion matures.
Walmart’s Higher Assets Turnover: Walmart’s higher asset turnover results
from higher asset turnovers for accounts receivable, inventories, and fixed assets.
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4-34
in whole or in part.
Inventory Turnover: Walmart’s faster inventory turnover might result from a
larger proportion of sales from grocery products. It also might result from more
effective inventory control systems.
numerator.
b. Walmart’s higher ROA over Carrefour results from higher profit margins for ROA
and a faster assets turnover. (Note: The increase in the value of the euro relative to
the dollar will substantially affect any conversion of euros to dollars for many of
Walmart’s Higher Profit Margin for ROA: Walmart’s higher profit margin for
ROA results primarily from a lower cost of goods sold to sales percentage (higher
gross margins). Walmart has slightly smaller other revenues to total revenues and a
higher effective income tax rate.
Selling and Administrative Expense Percentage: Carrefour’s disadvantage might
result from the following factors:
1. Carrefour’s smaller size does not permit it to realize the benefits of economies
2. This expense category includes depreciation expense. Text Exhibit 4.56 indi-
construction costs on a size-adjusted basis. Carrefour also tends to locate its
3. Carrefour has a wider variety of store concepts than Walmart does, which
likely increases marketing and administrative expenses.
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in whole or in part.
4. Another possibility is that compensation costs for Carrefour are larger than for
costs.
Average Income Tax Rate: The case does not provide information to identify the
reason for Carrefour’s lower average income tax rate.
Walmart’s Faster Total Assets Turnover: Walmart has a faster total asset turnover
than Carrefour, but slower accounts receivable, inventory, and fixed assets turnover.
Accounts Receivable Turnover: The case does not provide information to ex-
from the franchisees, which likely turn over at a slower rate.
Inventory Turnover: Carrefour’s faster inventory turnover results from a higher
proportion of its sales coming from grocery products and convenience stores.
Fixed Asset Turnover: Carrefour’s fixed asset turnover is slightly larger than that
of Walmart. Carrefour generates considerably more sales per square foot than
Walmart does, with a slightly higher cost of fixed assets per square foot. Carrefour
Other Asset Turnover: Because Carrefour has lower total assets turnover com-
pared to Walmart but has higher accounts receivable, inventory, and fixed asset
turnover, the explanation must be other assets. The case does not present a balance
sheet for Carrefour, but the company does have significant other assets, primarily
c. We can compute the ratio of ROCE to ROA to assess the success of financial
leverage.
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in whole or in part.
Carrefour
Target
Walmart
One would expect Walmart, with its higher ROA, to have a greater capacity to take
advantage of financial leverage. The higher ROA would likely provide it with a
d. Carrefour has the most short-term liquidity risk. Its current ratio is considerably
less than 1.0, and its cash flow from operations is much less than the 40% found
for healthy companies. It stretches out payments to suppliers to over 90 days,
which is much longer than either Target or Walmart. Its low cash flow from opera-
e. Carrefour also has the most long-term solvency risk. Its total liabilities to total as-
sets ratios are the highest of the three companies and its cash flow and interest