Target Earnings Preview: Growth May Remain Under Pressure; Exit From Canada In Focus

Target (NYSE:TGT) is scheduled to release its Q4 fiscal 2014 earnings on February 25th and we believe that its growth will once again feel the impact of falling foot traffic. Across the industry, buyers in numbers have switched to online shopping, that has impacted sales of retailers such as Target and Wal-Mart (NYSE:WMT), which rely on store sales for almost all the revenues. The cheap chic retailer operates close to 2,000 stores in the U.S. and, accordingly, it has lost more due to a decline in foot traffic than it has gained from incremental online sales. Considering Target’s weakness in the online channel, and the fact that weather conditions towards the end of the quarter were not favorable for store shopping, we believe that it might report only marginal growth in revenues.

Moreover, labor unrest at West Coast ports may well have hampered Target’s supply chain during the quarter, which would have had a small negative impact on its sales. While macro-economic environment during November-January quarter was somewhat conducive for retailers, overall retail market did not improve much, confirming the fact that despite the improvement in consumer affordability, U.S. consumers are not opening up their wallets. This is a big worry for Target because relative to Wal-Mart, it generates more of its revenues from discretionary products.

During the earnings call, we will look for updates and more details on Target’s exit from north of the border. It will be interesting to see where the company plans to invest its resources following its decision to end its operations in Canada. Target may look to ramp up its small store expansion and invest heavily towards the development of its omni-channel and online portfolio, now that it no longer has to worry about its botched up Canadian expansion. However, we may not see any immediate plans considering that the company may face constraints on cash mainly due to huge losses associated with its Canadian Business.

Our price estimate for Target stands at $70, implying a discount of less than 10% to the current market price. We will update our model after the company comes out with is new reporting structure at the end of Q4 fiscal 2014.

See our complete analysis for Target

Foot Traffic Continues To Go Down

Store traffic across the industry has declined significantly over the past couple of years, owing the the ongoing online shift. Due to growing Internet penetration, the proliferation of smartphones and tablets, and the convenience and incentives associated with web shopping, U.S. buyers have been purchasing more online, and are subsequently visiting fewer stores. During the holiday season, industry wide foot traffic fell a sizable 8.3% year over year, according to data compiled by RetailNext. ^[1] The decline seems even more intense considering that during the holiday season of 2013, adverse climate conditions had limited store visits considerably and buyers were forced to shop online. An 8.3% decline on top of those levels indicates that U.S. buyers are shunning stores and switching to web shopping at a rapid pace. In a separate report, RetailNext reported that store traffic across the U.S. retail market declined 7.7% in January, concluding another weak quarter for store-based retailers. ^[2]

West Coast Labor Unrest Adding To Problems

Increased incoming shipments at West Coast ports has resulted in congestion that is causing unwanted delays in the movement of containers. Amid this congestion, a tense labor situation has made things worse. Dockworkers and longshoremen have been working without a contract since July 2014 and productivity has suffered with the impass. There have been complete port shutdowns on several occasions, as the International Longshore and Warehouse Union (ILWU) is trying to retaliate against the Pacific Maritime Association (PMA), which represents the shippers. According to a PMA spokesman, terminals that usually saw 25-30 moves per hour are now seeing less than 10. ^[3] The lengthy dispute between ILWU and PMA has created gridlock at several ports.  Yet an agreement has been reached and full operations resumed over the weekend.  That said, there has been an accretion of several months backlog and the economic impact is likely sizable.  According to a Kurt Salmon analysis, retailers can lose up to $7 billion this year due to traffic jams at West Coast ports. ^[3] We believe that impact of inventory delays can be visible in Target’s upcoming results.

Better Consumer Affordability Not Transitioning To Sales Growth

Unemployment rate in the U.S. during the fourth quarter was significantly below what it was in the year ago period. In fact, jobless rate fell to a six year low of 5.6% in December, before ticking up to 5.7% in January. ^[4] With fewer jobless individuals in Q4 fiscal 2015 as compared to the same quarter last year, Target would have seen a rise in its customer base. Also, gasoline prices were significantly lower in Q4 this year, which means consumers will have saved a lot of money on fuel.

While these savings were expected to result in a rise in retail spending, it has not been the case. According to the United States Census Bureau, retail sales for the three month period ending January, increased just 2%. ^[5] While some of it can be attributed to fewer revenues from the same volume sales of gasoline, it does indicate continued weakness in consumer confidence. It appears that U.S. consumers are not spending their fuel savings elsewhere, or at least not at places that are included in the retail industry. For the quarter ended January 31, Target may well report its revenue growth inline with that of the industry, which would reflect continued under-performance.

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1. Holiday season U.S. store sales down 8 percent in 2014: RetailNext, Reuters, Jan 7 2015 [↩]
2. RetailNext: January store sales, traffic decline, Chain Store Age, February 6 2015 [↩]
3. West Coast ports: Retail’s $7 billion problem, CNBC, Feb 9 2015 [↩] [↩]
4. Unemployment rate, Bureau of Labor Statistics [↩]
5. Retail (excl. motor vehicle and parts dealers), United States Census Bureau [↩]