A Target for the bears

The retailer's growth is slowing and management is missing the mark.

By TheStreet Staff Jun 14, 2013 2:57PM

thstreet logoTarget store in San Bruno, California , Justin Sullivan, Getty Images By Richard Saintvilus

 

Retailers across all sectors are finding it increasingly difficult to get customers to come in their stores. When customers do arrive, there is also the challenge of getting them to spend money.

 

Unfortunately, Target (TGT) has fallen short in both categories.

 

Although rival Wal-Mart (WMT) has faced similar challenges, Wal-Mart has figured out ways to offset weakening sales and softer comps (TheStreet). Making matters worse, Target's management has issued meager guidance, which has resulted in several analyst downgrades.

 

At this point, Target investors are unsure of what to make of the stock. Management has not been able to quickly respond. But unless management figures out where Target's next leg of growth is going to come from, this stock may become target practice for the bears.

 

Target has always proven to be an extraordinarily smart company by the way it has been able to appeal to both the frugal shopper and those with an appetite for the "upscale high-end" category. This model has benefited the company, while enabling it to maintain its strategy of offering great products at discounted prices. 

 

It seems, however, that this advantage is now slowly evaporating. There wasn't much to like in the company's recent earnings report: Sales were up half of 1% to $16.6 billion. As with other large retail chains, such as Lowe's (LOW), which recently reported flat sales and weak comps, Target attributed the weaker sales (in part) to adverse weather.

 

Interestingly, rival Home Depot (HD), which posted 7% increase in sales to go along with a 4.3% growth in comps, reported no such concerns. While I do believe that weather can have an adverse impact of retail traffic, the relative performances of peers makes this reason hard to grasp.

 

Comps, or same-store-sales, is the metric that tracks the sales performance of stores that have been opened at least one year. Target posted a 60-basis-point decline in that category. It's not a great number. But I'm willing to give management credit here for outperforming Wal-Mart, which posted 1.4% decline.

 

Profitability was somewhat mixed at Target despite the 7.5% decline in operating income. Gross margins advanced by 50 basis points to 30.7%, while adjustments to vendor agreements contributed (in part) to a 20 basis-point improvement of that total.

 

Adjusted earnings per share looked worse than it really was -- falling 5% to $1.05 per share, which was below the company's target. But one-time items such as an early debt retirement absorbed 41 cents per share during the quarter.

 

The company's CEO Gregg Steinhafel was pleased with the performance. He said:

 

"Target's first-quarter earnings were below expectations as a result of softer-than-expected sales, particularly in apparel and other seasonable and weather-sensitive categories. While we are disappointing in our first-quarter performance, we remain confident in our strategy, and we continue to invest in initiatives, including Canada, our digital channels and CityTarget, that will drive Target's long-term growth." 

 

Those were certainly encouraging words, but management still cut Target's full-year fiscal 2013 outlook. The company is now projecting earnings between $4.70 and $4.90 per share, down from its prior EPS guidance of $4.85 to $5.05. Management does not seem confident that comps will get back up at any point this year.

 

Analysts responded by issuing "sell" recommendations on the stock. But I wouldn't overreact here just yet. As with the struggles that are affecting Lowe's, I still see long-term success here for Target especially given the fact that we're still in an economic climate that has yet to fully recover. The fact that management has margins trending in the right direction is also a positive sign.

 

That said, management's main challenge is, among many, is to figure out ways to restore growth and position the company to compete for effectively not only against Wal-Mart, but also against the likes of Costco (COST) and Kohl's (KSS).

 

I believe shares of Target are fairly priced today. That's not to be interpreted as a bad thing. But to the extent that Canadian store expansion and the company's CityTarget initiative can post "decent" growth numbers while also expanding margins, I believe patient investors will be rewarded.

 

That's a tall task. Investors should not expect these improvements to happen overnight. But I believe the company has the management in place to do it.

 

At the time of publication the author had no position in any of the stocks mentioned.

 

 

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