Walmart can maintain its new price war with Amazon if…

Shrinking profit margins from a new e-commerce initiative will be worth it if the retailer starts to do more with customer data.

| More on:
a woman

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.

The world's biggest brick-and-mortar retailer just escalated its price war with the world's biggest e-commerce retailer. That is, Walmart (NYSE: WMT) is subsidizing price cuts it requested of some third-party sellers offering their goods at Walmart.com. The move, according to Bloomberg, appears to be a response to a similar price-lowering strategy Amazon.com (NASDAQ: AMZN) put in place in August.

It's clearly good news for shoppers, and it's not bad news for the merchants utilizing Walmart's e-commerce venue. It may even be good news for those vendors, as lower prices for consumers may improve their total sales volume. The losers in this paradigm are investors, who are supplying the subsidies in the form of thinner profit margins.

Even so, if Walmart handles the new strategy effectively, it might be well worth the added cost of doing business.

Walmart responds to Amazon's pricing pressure

Walmart hasn't detailed just how many vendors or items will be part of the so-called Competitive Price Adjustment program, and though it's meant to be a temporary initiative, some speculation has surfaced that Walmart could maintain the program as long as Amazon keeps its similar program in place.

The $64,000 question is, of course, "Where will the money to offset vendors' price cuts come from?"

Answer: Most likely, it will be added to the "cost of goods sold" line on the income statement, though it's conceivable the retailer could somehow work it in as a selling, general, and administrative expense. How much the program will cost the company is completely unknown, but against Amazon, it could be sizable enough to notice.

Either way, the subsidy will shave the company's total net income at a time when gross profit and net profit margins have been pressured by the growth of its e-commerce division and higher wages for its employees.

Another dent in overall profitability

The absolute change in Walmart's recent profitability measures is seemingly modest at first glance. In the highly competitive world of retail, where margins are usually paper-thin, though, every penny counts.

The chart below puts things in perspective. Last quarter's gross profit margins on goods sold rolled in at 25.1%, down from 25.35% a year earlier. A year from now, analysts anticipate Q2 gross margins of 24.4%.

Walmart profitability measures

Data source: Thomson Reuters.

Earnings before interest and taxes (EBIT) margins are clearly no better, trending lower since 2017 when Walmart turned up the heat on its e-commerce efforts and began funding higher hourly wages for store employees. The second quarter's EBIT came in at 4.28% versus 4.49% in Q2 of the prior year. Next year's second-quarter EBIT profit margins are projected at 4.24%. The deterioration of both measures is clearly part of a much bigger downtrend.

That's not to suggest better pay for hourly workers was ill-advised. Ditto for an expanded e-commerce initiative, which forces retail prices lower without lowering Walmart's wholesale costs. Although third-party vendors provide many of the goods sold via Walmart.com, much of the online inventory is Walmart's own, and it is often sold out of stores at a price lower than the store's tagged price. The company offsets thinner margins with more volume.

Still, investors reasonably expect the retailer to handle the trade-off attentively and thoughtfully. That's where questions remain.

Making lemonade

Walmart deserves credit for penetrating an e-commerce market that's clearly controlled by Amazon.com. Thinner margins were always going to be part of that paradigm. In the end, price competitiveness is the crux of the battle.

If Walmart is going to escalate the conflict on the price front of the retailing war, however, it may want to borrow a page from the Amazon playbook and start collecting and monetizing data about its customers.

What that might look like isn't entirely clear. Amazon uses customer information to sell several kinds of services in addition to physical goods, including Prime. Its planned grocery stores aren't just about groceries. It's another way of establishing a relationship with consumers and eventually selling them one or more of Amazon's private-label goods -- or, more recently, selling ad space. Walmart doesn't quite have a mechanism to apply the same kind of leverage. If the retailer expects investors to digest shrinking margins stemming from an extended price war, however, it may have to build one.

This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.

James Brumley has no position in any of the stocks mentioned. John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. The Motley Fool Australia's parent company Motley Fool Holdings Inc. owns shares of and recommends Amazon. The Motley Fool Australia has recommended Amazon. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

More on International Stock News

A male investor sits at his desk looking at his laptop screen holding his hand to his chin pondering whether to buy Macquarie shares
International Stock News

If you invested $10,000 in Nvidia stock the day ChatGPT came out, this is how much you'd have today

Buying Nvidia when the disruptive AI chatbot launched would have been a smart move.

Read more »

A Tesla car driving along a road at sunset
International Stock News

Why Tesla stock was climbing today

Investors were encouraged by news of a price hike on the Model Y.

Read more »

Plate with coloured wedges being parcelled out like a slice of pie representing a share split
International Stock News

Stock-split watch: Is Nvidia next?

Nvidia last split its stock when it traded for a pre-split $744 in 2021.

Read more »

A woman in jeans and a casual jumper leans on her car and looks seriously at her mobile phone while her vehicle is charged at an electic vehicle recharging station.
International Stock News

1 Wall Street analyst thinks Tesla stock is going to $125. Is it a sell?

Tesla is no longer a magnificent stock, according to a Wells Fargo analyst.

Read more »

A young man goes over his finances and investment portfolio at home.
International Stock News

Is Nvidia stock a buy?

The company's stock could rise 40% over the next two years and outperform the S&P 500.

Read more »

Man with hands in the middle of two items with money bags on them.
International Stock News

Is Nvidia headed for a stock split?

Nvidia stock has split five previous times in the company's history.

Read more »

Digital rocket on a laptop.
International Stock News

Nvidia shares surged (again) today. Is it too late to buy the red-hot artificial intelligence (AI) growth stock?

Nvidia stock has gained nearly 300% over the past year. Can investors still profit from this AI stock?

Read more »

A woman holds a soldering tool as she sits in front of a computer screen while working on the manufacturing of technology equipment in a laboratory environment.
International Stock News

Can you buy Nvidia shares on the ASX?

This stock has rocketed higher. How do we get access to it?

Read more »