Things are changing at Target (TGT). The company hasn't been meeting its sales forecasts in Canada and in the US the bulk of its sales are coming from discounted merchandise, hence the lower than expected margins. In addition, Target's data breach issues were more costly, fewer people were maintaining interest bearing balances on credit cards, smaller sales means less than can be spent to develop land, and retirement costs were up.
In other words, the company's demographic is changing. Customers are focusing on sale merchandise or not buying at all. Either Target will have to re-establish itself as a higher quality, style-forward alternative to Wal-Mart (NYSE:WMT), introduce convenient ways to deliver products to its customers like Amazon (NASDAQ:AMZN), or it will need to reorient its sales plan to compete against even lower priced stores, like Family Dollar (NYSE:FDO) or Dollar General (NYSE:DG).
Target has been trading down this week since the company lowered its outlook for 2Q14 Tuesday. The company had closed at $60.70 Monday, but has hovered around $58 since announcing that its adjusted earnings per share will be roughly 78 cents per share, down from prior guidance of 85 cents to $1 per share. The company is expected to announce 2Q14 earnings on August 20.
Target cited several reasons for the lower outlook, including flat comparable sales with lower than expected margins in the US and softer than expected sales in Canada. The company also said that its 2Q14 GAAP EPS is expected to be 41 cents lower than its Adjusted EPS for the quarter thanks to data breach expenses, pre-tax early debt retirement losses, expected reduction of the beneficial interest asset related to the sale of the company's credit card portfolio, and pre-tax impairment losses on undeveloped US land.
Target remains hopeful. "While the environment in both the U.S. and Canada continues to be challenging, and results aren't yet where they need to be, we are making progress in our efforts to drive U.S. traffic and sales, improve our Canadian operations and advance Target's digital transformation," said John Mulligan, Interim President and CEO, CFO of Target Corporation. "With last week's announcement that the Board has chosen Brian Cornell as Target's next Chairman and CEO, we are excited to welcome Brian to the team and committed to working together to accelerate Target's transformation and become a leading omnichannel retailer."
Cornell joins Target as the first CEO to be hired from outside the company, and brings decades of experience - primarily from PepsiCo (NYSE:PEP), Wal-Mart's Sam's Club, Michaels Stores (NASDAQ:MIK), and Safeway (NYSE:SWY).
Omnichannel retailing involves creating a seamless shopping experience between retail channels. This type of "smart retail" means combining online shopping with brick and mortar stores and mobile shopping, making one an extension of the other. It gives the retailer the opportunity to actively manage the retail experience, introduce smart discount instead of blanket promotions, and price match, but it also comes with an important caveat - smart retail requires secure systems and Target has struggled with that.
If Target's aim is to compete against Wal-Mart, but its prices run just a tad higher, consumers won't have much of a reason to choose Target over Wal-Mart unless they have strong preferences for a particular store brand or product styles. But at the same time, Target can't really afford to compete on price against Wal-Mart. Target, a $36.56 billion market cap company, to compete on price against Wal-Mart's $238.29 billion market cap. There are economies of scale that Target simply could not harness.
As Target focuses more on online sales, a similar problem emerges. On the one hand, Wal-Mart has a strong presence online and has been expanding that presence, offering services like Wal-Mart To Go, which allows customers to order online and pickup at the store or have the items delivered, including grocery items. On the other hand, Amazon has free two-day shipping for Prime members. That service may cost $99 a year but for those who already subscribe to Prime services, Amazon is likely to be the first place they look and if they can get the item quicker or cheaper than Target, there will be little reason for an alternative.
For the strictly price-conscious consumer, Target has to face stores like Family Dollar and Dollar General. They may not have online presences or be as fashion-forward, but they offer low price points. Whether Dollar Tree (NASDAQ:DLTR) or Dollar General buys Family Dollar, the result will be a low-cost retailer with more power than before. That might translate to more locations, lower prices, or greater product selection - either way, Target could lose some price-conscious consumers as a result.
The fact that Target is pushing promotions and still not really enjoying the traffic that usually comes with them is not encouraging. It could signal that the company is not effectively harnessing its demographic. That said, Target does have a new CEO in place and Cornell has experience from outside the company. He might be able to turn things around. I wouldn't recommend buying in until Cornell's had a chance to address these issues and implement appropriate strategies.
The fact that Target has been missing its sales forecasts is troubling and Cornell will need to show that Target understands its customer base and is appropriately orienting its strategy towards them. So far, that has not been the case. Cornell is focusing on developing Target's presence as omnichannel. This strategy has merits but requires a good understanding of the company's consumers as well as very strong IT and security - an area where Target has been lacking.
Cornell has his work cut out for him if he is going to make Target into an omnichannel brand. Stay away until you can see something on how Target intends to identify its core customer under Cornell and how the company is delivering enough value to justify its price points.
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