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The Commerce Department recently released its breakdown of July sales, which were better than what the economic situation had suggested. Sales for General Merchandise stores were up by 0.7%, clothing stores were up 0.8%, while electronics and household appliances were up 0.9%. Overall, retail sales were up 0.8% as compared to estimates of 0.3%. This increase follows a decrease of 0.7% in June 2012. Following the news, retailers like Target (NYSE:TGT) were up. TGT, a discount store chain with an online presence, was up 1.39% in intra-day trading and 0.11% in after-hours. It set a new 52-week high of $63.47; the company is scheduled to report today. We recommend buying TGT based on its July sales performance, expansion and remodeling plans, popularity of discount chains in general, and its online presence. The back to school/college spending season is also expected to be better this year.

Financial Performance:

Target has three segments of operations, namely U.S. Retail, U.S. Credit Card and Canadian. The retail segment includes the website (target.com), which enables customers to buy online or to locate products at a Target store. This online presence is a key advantage for Target, as there is a general trend towards online shopping. Customers are more tech savvy and prefer to indulge in comparison shopping online. Target, being a discount chain, will clearly benefit from the online presence that many retail chains still lack, or are in the process of developing, like TJX companies (NYSE:TJX). The U.S. Credit Card segment offers branded credit cards for guests to extend credit (Target Visa the Target Card). There is also a branded Target Debit Card available. The Canadian segment started in January 2012 with buying of leasehold interest from Zellers for 189 sites.

98% of revenues come from U.S. Retail, and 2% from the Credit Card segment. The Canadian segment is expected to start contributing soon. Revenues of around $7 billion are expected from the Canadian segment by 2017.

The company has a debt to equity ratio of 110%, with $2.5 billion in notes that mature in January 2013, and $1 billion that mature in July 2014. The company has total cash of $690 million and operating cash flow of $5.69 billion in the trailing twelve months. With the company's planned capital expenditure of $3.3 billion ($2.5 billion in U.S. and $800 million in Canada) for FY2013, $829 million of which has already been spent, these debt payments should be easily met. The interest coverage ratio is a safe 6.4 as well.

The company has a same store sales figure of 5.3% for the last quarter as compared to Cost Co. (NASDAQ:COST)'s 5%. This is more than double the amount in the same quarter last year. For July 2012, TGT posted 3.1% (vs. estimates of 2.7%) in same store sales, compared to COST's 5% (vs. estimates of 4.4%). The table below gives Target's same store sales figures compared to its peer Cost co. .


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Given the solid same store sales in July, and the fact that June saw its same store sales rise by 2.1%, narrowly missing analyst estimates of 2.4%, we might see an increase in the guidance for the current fiscal year 2013.

The gross margin for TGT was 30% as compared to COST's 12% and Wal-Mart (NYSE:WMT)'s 25%. The operating margin was 6% compared to COST's 3% and WMT's 6%. The net margin was 4.1% compared to 1.7% for COST and 3.7% for WMT.

The long term EPS growth rate for TGT is 11% as compared to COST's 13%, Kohl (NYSE:KSS)'s 11% and WMT's 8%.

Guidance and Surprise History:

The FY2013 EPS guidance issued in the previous quarter was $4.1-$4.3 per share. Analysts are expecting $4.3/share, while last year the figure was $4.27/share.

For 2Q2013, analysts expect approximately $1.01/share, while the company has given a guidance range of $0.94-$1.04/share with its June sales results.

The tables below give the revenue and earnings surprise history for TGT. On average, in the last eight quarters, TGT has given a revenue surprise of 0.01%, although in the last four quarters, the surprise range has been from 0.1%-0.7%. The average for earnings surprises comes out to be 3%.


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Valuation:

TGT has an attractive dividend yield of 2.3%. The 5-year dividend growth rate is 20%, while the payout ratio was 28% last quarter. The operating cash flow yield was 14.5% in 1Q FY2013, showing that dividends are sustainable. The dividend yield for COST is 1.15%.

The company also buys back shares. So far, in this fiscal year, the company has repurchased $592 million worth of shares. In FY2012, a total of $1.8 billion was repurchased.

Forward P/E

EV/EBITDA

P/S

Kohl's

10x

5

0.6x

Target

13x

7

0.5x

Home Depot (NYSE:HD)

16x

9x

1.1x

Walmart

14x

8

0.5x

Cost co.

21x

9

0.4x

The shares are trading near their 52-week high value. Based on the company's prospects, the stock can trade on higher multiples than 13x. The trailing P/E is 14.6x. The valuations are as follows, based on Reuters EPS estimates:

To reiterate, we recommend buying Target based on its dividend yield and growth, and because of its discount chain model and online presence.

Source: Target's July Sales Performance, Online Presence Among Reasons That Make It A Buy