ASTRAY ON LAYAWAY

On August 9, 2000, Wal-Mart Stores reported a 28% year-over-year in­crease in net income for its fiscal second quarter ending July 31. At $0.36, earnings per share (diluted) were up by 29%.

In light of these results, which one analyst characterized as “a very good quarter,” the discount chain’s share price might have been expected to rise. At the very least, investors would have expected the stock to hold steady, given that the EPS increase was in line with Wall Street analysts’ con­sensus forecast, as reported by First Call/Thomson Financial. As it turned out, however, Wal-Mart’s shares fell by $4.375 to $53.125. That repre­sented an 8% decline on a day on which the Dow Jones Industrial Average changed only modestly (down 0.6%).

Both the Wall Street Journal¹⁷ and the Bloomberg newswire¹⁸ linked the paradoxical drop in Wal-Mart’s stock to an accounting change that was ex­pected to reduce the following (third) quarter’s earnings. The retailer’s man­agement advised analysts to lower their earnings per share estimates for the August-to-October period by one-and-a-half to two cents, to reflect a shift in the company’s method of accounting for layaway sales. In such transac­tions, customers reserve goods with down payments, then make additional payments over a specified period, receiving their merchandise when they have paid in full. Prior to the change in accounting practice, which FAS 101 made mandatory, Wal-Mart booked layaway sales as soon as it placed the merchandise on layaway. Under the new and more conservative method, the company began to recognize the sales only when customers completed the required payments and took possession of the goods.

According to one analyst, Wal-Mart’s 8% stock price decline repre­sented “somewhat of an overreaction.” In reality, the price drop was an overreaction in its entirety. Changing the accounting method altered neither the amount of cash ultimately received by the retailer nor the timing of its receipt.

An institutional portfolio manager spoke truly when he called the mar­ket’s reaction to the supposed news “more confusion than anything else.” If taken at face value, the press reports indicate that investors bid the shares down on “news” that was both dated and irrelevant. Alternatively, investors may have had other reasons for driving down the shares. For one thing, store traffic declined in the three months ended July 31 from the preceding quarter’s level. Additionally, German operations posted a larger loss than management had forecast. If these events were the true causes of Wal­Mart’s slide, then the Wall Street Journal and the Bloomberg newswire erred in attributing the sell-off to an accounting change with no real eco­nomic impact. Either way, confusion reigned; the only question is whether it was the investors or the journalists who were confused.