In our previous article on Target (TGT), we had recommended the company as a sustainable dividend paying stock, which has cheap valuations relative to its peers. The stock is up 2.8% due to the news that TGT will match online retailers' prices during the holiday season (1st November to 16th December) in its stores. The online retailers that it plans to match are Amazon (AMZN), Wal-Mart (WMT), Best Buy (BBY) and Toys "R" Us. This news comes days after Best Buy had announced that it would match the prices at Amazon. As competition heats up for the key holiday season, we expect TGT, one of the largest discount chains, to come out as a winner. We reiterate our buy rating for TGT.
The company had posted a same store sales gain of 4.2% in August and 2.1% in September, showing that it was in favor during the back to school shopping season. The company had also beaten analyst estimates for EPS in the last quarter (Q2) by 5 cents and had raised its full year guidance. The trailing twelve months operating margin for TGT is 7.4% as compared to Costco's (COST) 2.78% and Wal-Mart's 5.9%. These margins would be under pressure due to matching the lower prices of online retailers. But as online sales are expected to be one-fifth of the holiday season sales, this is an important step to remain competitive. The price matching offering comes with some other incentives as well, like REDcard holders getting 30 days more for returning purchases in the holiday season.
TGT is also taking several other initiatives. It is opening a standalone store for its C9 line, which has been a hit for the company over the years. The trend towards active wear that has favored Lululemon (LULU) (57% stock appreciation this year) would go in favor of TGT's C9 line too. The company also unveiled its collaboration for the holiday season with Neiman Marcus, which makes its holiday season offerings more attractive, as the items will be under $60 mostly. The company plans to concentrate on target.com and mobile sales by working on making store pickup options available for online orders in 2013, and by partnering with eBay (EBAY) for same day delivery (pilot program was started last week in San Francisco). TGT is also running a pilot of an app to guide customers to items within stores. City Target stores are also being opened. These are smaller stores similar to WMT.
The 2.3% dividend is well supported by the free cash flow yield (trailing twelve months) of 2.9%. The payout ratio is a low 27%. Peers like Wal-Mart have a dividend yield of 2.1% and Costco has a dividend yield of 1.1%.
TGT trades at a forward P/E of 13x as compared to Costco's 19x and Wal-Mart's 15x. The 5-year average P/E for Target is 14x. Below are the valuations for Target:
*2014 EPS is calculated by applying 12% long term growth rate for TGT on 2013 consensus EPS estimate.
Piper Jaffray reiterated its overweight rating for the stock with a $71 price target. S&P Capital IQ analysts reiterated their strong buy rating for TGT with a $78 price target. The consensus target price for TGT at the moment is $69, with the 52-week high of $65 that the company recently reached in September. To reiterate, we recommend buying TGT based on its competitive moves and cheap valuation.