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We see that during its 2012 fiscal year, Wal-Mart stores had sales of $446,950,000,000. That is how much cash the company generated at its checkout lines when consumers walked up to the cash register and handed over currency, used a debit card, or paid by credit card. That is the money that went into Wal-Marts corporate bank account. Using that money, they had to pay the wholesale vendors for the products on the shelves. For example, Procter & Gamble makes Tide laundry detergent. Coca-Cola makes Coca-Cola and Diet Coke. PepsiCo makes Pepsi and Frito-Lay chips. Unilever makes Lipton tea and Ben & Jerrys ice cream. H.J. Heinz makes Heinz ketchup. Hershey Chocolate makes candy bars. Apple makes iPads and iPhones. Those businesses sell the products to Wal-Mart, either directly or indirectly. Wal-Mart needs to keep the store shelves stocked with things people want, otherwise they will have no customers or sales! Last year, Wal-Mart spent $335,127,000,000 of the $446,950,000,000 in cash it generated to pay those wholesale vendors. Wal-Mart also needs to build retail stores, pay for electricity and water, install shelving and display cases, buy computers to track inventory, maintain security cameras, and a host of other activities. These selling, general, and administrative expenses (SG&A expenses) totaled $85,265,000,000. After paying all of those expenses, Wal-Mart stores was left with operating income of $24,398,000,000. However, the business generated $162,000,000 in interest income on its spare cash (money sitting around in the bank or other cash equivalents), but it paid $2,034,000,000 in interest expense on its debt (money it borrowed from bond holders and banks) and $288,000,000 in interest expense on its leases, leaving a net interest expense of $2,160,000,000. Think of that like the interest you pay on your mortgage or a credit card. This left Wal-Mart with pre-tax income from continuing operations of $24,398,000,000. But the government still wants its cut. Wal-Mart had to pay an estimated $7,944,000,000 in taxes to various national, state, and local governments. There are a few other adjustments, but by the time all of the taxes and bills have been paid, the business is left with $15,699,000,000 in net income.

Understanding What All Of That Means On a Per Share Basis In other words, if you owned 100% of the Wal-Mart Stores company, you would have made $15.699 billion in after-tax profit last year. But there is no 100% owner of Wal-Mart. Instead, Wal-Mart is cut up into 3,474,000,000 pieces that we call shares. Each one of those pieces represents 1/3,474,000,000th ownership of the business. If you owned all 3,474,00,000 shares, you would get to keep all of the profit. What happens is that $15,699,000,000 in profit is divided by the 3,474,000,000 shares to get $4.52. Every piece of the business generated net profit of $4.52 last year. If you owned 100 pieces, or shares, your cut of the net profit was $452. If you owned 100,000 pieces, or shares, your cut was $452,000. That $4.52 figure is referred to as earnings per share, or EPS for short. A share of Wal-Mart Stores is not some mythical thing that fluctuates in value. It is a piece of a business. Right now, the company is split into 3,474,000,000 pieces, called shares, and with $15,699,000,000 in aftertax profits, each piece was entitled to $4.52 in earnings. If you owned all of the pieces, you would get to keep all of the profit. Why does the stock price fluctuate? The owners often offer to buy or sell their shares, among themselves, in an auction that we call the stock exchange. Believe it or not, there are people who actually buy or sell pieces of the businesses without even thinking about the total profit per share they are acquiring, or even thinking about the company at all! Just as you can overpay for a car or get a great deal on a new house, you can pay too much, or get a great bargain, on a piece of the business if you pay attention and only write checks when the shares are available at a price you consider reasonable relative to earnings and assets. A successful business doesnt just pay out all of its profits, though. It has to upgrade stores, keep fresh coats of paint on the outside of the buildings, expand to new locations, launch new products, pay down debt, hire new employees, etc. The people the shareholders elect to represent their best interests are called directors. The directors get together several times a year, and look over how well management has done managing the business. The directors have the power to fire the CEO and put someone new in place if they dont like how the business is being run. Here is the current board of directors for Wal-Mart stores:
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Those people got together last year and decided that of the $4.52 in net profit each of the 3,474,000,000 shares of the business generated, they were going to mail $1.46 back to the owners, and keep $3.06. The $1.46 that was mailed out is called a dividend. The $3.06 is added to retained earnings on the balance sheet. Wal-Mart follows the policy of paying dividends quarterly (4 times per year), so instead of mailing out $1.46 all at once, they mailed out 36.5 four times in the past twelve months, totaling $1.46. That way, the owners of Wal-Mart have money coming in all the time and dont have to wait an entire year before receiving more cash. The Back Door Dividends Wont Show Up Directly On the Dividend Line Sometimes, the board of directors decides to take some of the money it retained in this case, the $3.06 per share and pay what is sometimes called a back door dividend. They will go to a stock broker and use some of the cash to buy Wal-Mart stock, then destroy it. That way, the business has fewer shares outstanding. With the business being split into fewer shares, each remaining share represents a bigger ownership stake in the business. For example, back in 1998, Wal-Mart Stores was divided into 4,586,000,000 shares. This year, it was divided into only 3,474,000,000 shares. How did the total shares fall by 1,112,000,000? The board of directors kept buying back Wal-Mart stock and destroying it. If they hadnt done that, you would have had to split the $15,699,000,000 in profit by 4,586,000,000 and earnings per share would have been only $3.42, not the $4.52 it was! Each share represents 32% more ownership in the business than it did fifteen years ago. That is all due to stock buybacks. Sometimes, companies can overpay when they buy back stock. Wal-Mart has done a good job of only buying back and destroying shares when they are cheap, because the people who represent the company are very good at business. That means the stock buy backs, or backdoor dividends, have helped make the stockholders much richer than they otherwise would have been.

How Can Companies Pay Dividends In Years They Lose Money? In essence, this means that an ordinary, normal dividend is paid out of a portion of the net profit a business earns that year. Sometimes, you might see a business have a dividend, but negative earnings per share because it lost money that year. How is it possible? Most businesses have a lot of money put aside in savings, investments, and other assets. They know the owners rely on the income paid out to them, so even if there is a bad year, as long as the future looks bright and things should return to normal, the board of directors may dip into the savings and continue to pay out dividends using past profits to fund them. That cant go on forever. At some point the money will run out and the dividends will stop. Many analysts prefer to see a business that pays out less than 50% of its profits and reinvests the other 50% for growth. One trick people will use is to take the earnings per share and divide it by the dividend rate to calculate something known as the dividend coverage ratio. In the case of Wal-Mart, you had $4.52 in earnings per share, of which $1.46 was paid out as a cash dividend. That means you take $4.52 and divide it by $1.46 to get 3.096. That is a coverage ratio of 3. WalMarts dividend was covered three times. Even if profits were to fall by half, that would drop the coverage ratio down to 1.5, so the dividend would probably still be safe. How to Approach This From the Perspective of an Outside Investor When you think about investing in shares of Wal-Mart, what you are really doing is buying a piece of the business. Every share you buy gives you 1/3,474,000,000th of the corporation. As of last year, that meant you were entitled to $4.52 in after-tax net earnings (EPS), of which $1.46 was mailed to you as a dividend and $3.06 was retained by the board of directors to give to management for the purpose of growing the business, buying back stock, or doing other (you hope) intelligent things. That is why you cant answer the question, Is Wal-Mart a good investment?. The price you pay matters! You have to know enough about the business to look out in the future 5 or 10 years and reasonably come up with a guess as to what the earnings per share will be, then compare that to the price you are paying today. Sometimes, a stock that looks expensive now is really very cheap because profits are about to skyrocket. Other times, a stock that looks cheap is really very expensive because profits are about to plummet.

At current earnings levels, for someone thinking about holding for 10+ years, Wal-Mart might be a phenomenal investment at $25 a share and a poor investment at $150 per share. It might be a fair investment around $60 per share. That is because I am still getting the same thing $4.52 in profit in earnings now, plus all future years of profit on top of that. The less I pay for that profit, the higher my return. The more I pay for that profit, the lower my return. Human nature being what it is, from time to time typically every 10 to 20 years investors either panic, and sell all of their ownership stakes for ridiculously low prices, or get stupidly optimistic and keep buying at everhigher prices that are no longer attached to reality. Stocks are not lottery tickets. They are pieces of ownership in an enterprise. You want to buy a collection of assets that will be making more and more money with each passing year, even if the stock itself falls substantially. In the meantime, you sit back and collect the cash that gets mailed to you. I do not measure the success of my portfolio by the market liquidation value at any moment; I focus on making sure my share of the net earnings and cash dividends grows at a rate must faster than inflation, adjusting for new capital additions. I hope that helps.