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Wal-Mart Stores (WMTFree Wal-Mart Stock Report), the world's largest retailer and a Dow-30 staple, has reported results for the fiscal first quarter (ended May 2nd). Consolidated net sales increased by 80 basis points, and the measure came in 2.1% higher when excluding the effect of foreign currency exchange. However, gross profits were down 17 basis points, as the company continues to "invest'' in price reductions to garner customer loyalty. Although Wal-Mart's performance was largely in line with guidance, investors were somewhat disappointed, and the shares declined following the earnings release, amid a sharply lower stock market.

Unseasonably cold winter weather hurt U.S. sales and drove operating expenses up. That factor, along with a higher-than-expected tax rate, resulted in earnings per share of $1.10, a nickel shy of our call. Management cited poor weather as the cause of missed sales opportunities, inflated utility expenses, supply chain disruptions, and elevated snow removal costs. Altogether, those factors hindered the bottom line by $0.03 a share. Additionally, healthcare expenses increased at a double-digit rate.

As expected, Wal-Mart U.S. posted flat comps in the most recent period. The first two weeks of the quarter were hurt by inclement weather, but this trend reversed course during the subsequent 11 weeks of the period. The overall impact was 20 basis points. A reduction in the U.S. government's food stamp program caused a 50-basis-point comp headwind, and won't be anniversaried until the end of the fiscal third quarter.

Management acknowledged that 10% of its supercenters need special attention to improve traffic and customer approval ratings, and plans to invest in additional managers and staff. We think this would go a long way toward resolving alleged shelf stocking and customer service complaints.

Inflation on grocery items came in at a relatively high 120 basis points. Although consumables were down low single digits, the food business had a positive comp. Sales of health and wellness products jumped 150 basis points thanks to prescriptions. General merchandise remained soft, due to unfavorable weather conditions and weak entertainment sales. On the plus side, Apparel and Home were bright spots, owing to strong performances from national brands.

Elsewhere, small format stores continued to outperform. Specifically, Neighborhood Markets delivered a 5% comp on a 4% rise in traffic. Wal-Mart is on track to open between 180 and 200 of these locations this year, as well as 90 to 100 Wal-Mart Express stores. The supercenter footprint is on pace to rise by 155 units in fiscal 2014. E-commerce sales were up a solid 27%. The company continues to invest in the budding platform to improve customer satisfaction.

Sam's Club had a tough quarter, with sales coming in below expectations. On a positive note, membership income increased as a result of last year's membership fee increase.

Wal-Mart international grew sales a solid 3.4% (on a constant-currency basis). This, combined with operational efficiencies, drove operating income up 5%. Nonetheless, the company still has much work to do to right-size its operations in China, Brazil, and Mexico. We think more-disciplined store expansion and local merchandise sourcing should help.

Given the "challenging retail environment,'' Wal-Mart expects domestic comp sales to remain flat in the July period. Earnings per share are forecast to range between $1.15 and $1.25, in line with our $1.20 estimate.

Although the quarter left something to be desired, it was largely in line with both our and management's expectations. We view the earnings shortfall as mostly outside the company's control. Nonetheless, we doubt demand conditions will improve much in the near term. Therefore, we only recommend the modest-yielding shares to investors looking for stability, or solid risk-adjusted total return potential.

About The Company:Wal-Mart Stores, Inc. is the world’s largest retailer, operating 3,288 supercenters (includes sizable grocery departments), 508 discount stores, 632 Sam’s Clubs, and 407 Neighborhood Markets in the U.S., plus 6,107 foreign stores (mainly in Latin America, with the balance in Asia, Canada, and the U.K.) for total square footage of 1.101 billion (as of 1/31/14). Most stores are owned and are within 400 miles of an expanding network of distribution centers. Groceries accounted for 55% U.S. sales, while sales per square foot were about $437.

At the time of this article’s writing, the author did not have positions in any of the companies mentioned.