Target: A Well-Positioned Retailer
Damaged by weak consumer spending, this company has made moves to minimize the pain.
Investors have, by and large, written off retailers for dead. They fear that consumers are reining in spending because of rising food and gasoline prices, declining home values, the credit crunch and economic uncertainty. But there are signs that the pessimism is overdone.
Although most retailers reported lower earnings in the first quarter, they frequently beat Wall Street's subdued expectations. Wal-Mart (symbol WMT), Kohl's (KSS) and J.C. Penney (JCP) were among those that topped analysts' estimates when they reported results the week of May 12. Expect no less of a showing from discount retailer Target (TGT) when it reports first-quarter results May 20.
Target specializes in selling affordable and fashionable goods to the mass affluent. While Wal-Mart's sales are six times higher than Target's, the Minneapolis-based retailer manages to charge rock-bottom prices and attract higher-end consumers. More than half of Target shoppers are college graduates, and the median household income of its customers is $60,000 per year.
In the face of a stormy outlook for consumer spending, Target has battened down the hatches. To reduce its exposure to shaky credit markets, the company plans to sell 47% of its credit-card business to JPMorgan Chase for $3.6 billion. "This deal partners Target with another highly experienced credit-card issuer and allows Target to retain full control of all of its credit-card operations," says William Blair & Co. analyst Mark Miller, who rates Target's shares "outperform." Target will use the proceeds from the JPMorgan deal to buy back shares and fund new store openings.
An aggressive buyback program is charging ahead. Last November 20, Target announced plans to repurchase $10 billion in stock within three years. It has since bought $1.5 billion worth of shares.
The company says it wants to complete "a significant portion" of the program in the 2008 fiscal year, which ends January 31, 2009. Buybacks will keep Target's earnings per share growing at a decent rate even if net income increases at a more modest clip.
Target wants to add 90 to 100 stores per year through 2012. In fiscal 2008, the company plans to open about 95 new locations. It now has 1,395 discount stores in 46 states and Washington, D.C., and 218 SuperTarget stores, which are much larger than the typical store.
Unlike Wal-Mart, Target has no presence overseas. That means Target has growth opportunities abroad but can't use overseas operations to compensate for the slowdown in the U.S.
Despite some savvy moves, Target is running uphill. The retailer has tilted its mix from discretionary products with high mark-ups, such as home furnishings, to lower-margin consumer staples, such as clothing. The merchandise shift will make it harder for Target to keep pace with last year's net income, which totaled $2.9 billion.
Target has forecast that sales will grow 8% to 9% range in the current fiscal year. That reflects big contributions from new stores and a two-to-three-percentage-point boost from same-stores sales, or sales at stores opened more than a year.
The company expects much better sales growth in the second half of the fiscal year. That outlook may change on May 20. Wal-Mart and Kohl's gave cautious forecasts when they reported results.
Target's shares have been under pressure for much of the past year. The stock, which closed May 16 at $54.88, has sunk 22% from its July 2007 high. The stock trades at 15 times the $3.49 per share that analysts estimate the company will earn in fiscal 2008. That's a discount to Target's historical five-year average price-to-earnings ratios of 18. Credit Suisse analyst Michael Exstein rates the stock an "outperform" and has a 12-month target price of $60.