Target Shares Attractive Despite Near-Term Pressures
Softening demand yet again hits results, but sentiment overly fixated on near-term woes.
Despite no-moat Target (TGT) shares’ low-teens percentage plunge in the wake of disappointing third-quarter earnings, our $167 per share valuation should not change materially, as we attribute the softness to near-term factors. Consequently, our long-term forecast remains intact (mid-single-digit yearly revenue growth, high-single-digit operating margins forecast on average). We see opportunity in the shares, as prevailing sentiment seems overly fixated on near-term woes.
Comparable sales rose 2.7%, near our estimate, but sales trends deteriorated as the quarter unfolded, with the last two weeks of the period (late October) especially soft. Target expects a low-single-digit percentage decline in fourth-quarter sales. The softening sales environment, intensifying consumer focus on promotions, and high levels of theft led profitability lower, to a 3.9% operating margin that trailed our 5% estimate. Management contemplates a wide range of margin outcomes for the fourth quarter, centered around 3%, and our 6.5% estimate should fall toward the new anchor point. A time value of money-related adjustment to our valuation should largely offset the impact of a softer near-term outlook.
Target saw sluggishness in its discretionary categories, with sales in home and hardlines categories down at mid-single-digit rates. By contrast, food and beverage rose at a low-double-digit rate and beauty and household essentials categories were up at a low-single-digit clip. We believe mix is a significant reason why Target’s results lagged those of wide-moat Walmart, which relies on essentials for a greater mix of sales. Around 60% of sales at Walmart’s U.S. namesake stores come from grocery with a sharp focus on everyday value (especially important to cash-strained consumers), while we believe roughly 40% of Target’s sales come from nondiscretionary categories. Encouragingly, Target saw unit market share gains in all its merchandising categories, which suggests its value proposition resonates.
Zain Akbari does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.