There's been quite a difference in share performance between the three major discount retailers. If you held Target Corporation (NYSE:TGT) over the past year, you'd be really impressed with the stock's 43% gain. Even Costco's (NASDAQ:COST) 20% rise would have given you more than the long-term average market gain, so thumbs up for that as well.
The underperformer of the three, Wal-Mart Stores (NYSE:WMT), finished the last 12 months 3% down. It also hit a 52-week low this week at $71.70. Since mid-January, the stock has been trending down.
Share Price Comparison: Target, Costco, Wal-Mart
Source: Google Finance
Just like shoppers in these stores, investors have to figure out where the bargains and good value among these three retailers are. In May, they all released quarterly results, with Target coming out with the most buoyant figures.
In the first quarter of 2015, the US economy grew slower than expected. GDP was just 0.2% higher with a cold winter, a worker strike at the west coast ports, as well as a much stronger dollar cutting into international revenues and earnings of US businesses.
In this environment, Target's quarterly diluted EPS shot up 49.7% to $0.98. It beat analyst estimated adjusted earnings by eight cents. Revenues were only up 2.8% for the quarter. Target was recovering from a tough year in which its share price was heavily impacted by the cyberattack data breach. (It has cost Target about $166 million in expenses to date.) Also, the sudden closure of all 133 Target Canada stores was preceded by a massive $5.4 billion write-down. With that no longer hanging over Target's head, the stock rebounded quickly last November from $62 to almost $84 in April. Since then it has pulled back about 6% to $78.90.
Costco and Wal-Mart had a less troublesome 2014, but their overseas revenues were being slashed by currency headwinds in the first three months of 2015. Costco had 6% comparable sales growth in constant currency, but -1% with the FX impact. In Wal-Mart's Q1 2026 results, its US stores only had 1.1% comparable sales growth. Its consolidated business operating income was down -8.3% with the FX impact, yet still down 6.1% in constant currency.
Changing in step with consumer preferences
The large warehouse style retailers like Wal-Mart and Costco are experiencing a recent trend in which younger shoppers are not as savings-mad as the older generation and are looking for more convenient shopping in smaller venues closer to urban areas rather than suburban shopping malls.
My money is on Costco to perform better than Wal-Mart. Costco's membership fee income allows the company to work on razor thin margins which translate into cheaper, more competitive prices than Wal-Mart. Wal-Mart is also in almost every town and suburb, so the company must rely on organic growth, which is still subdued in a slow growth economy.
I do have to commend Target for the way it's addressing this downsizing trend with a smaller scale City Target and even smaller Target Express. They have a much smaller footprint and can be set up in city areas. But what sets these stores apart from a Wal-Mart Neighborhood Market?
Target is innovating with these stores by tailoring the mix of goods and groceries that the local shoppers of its respective area prefer more. They can also be used as pick-up locations for Target online sales orders, adding another convenience for Millennial shoppers. Wal-Mart's Neighborhood Market stores may be of similar scale, but will they build a local identity similar to the way Target is attempting?
Dividends and valuations
Wal-Mart leads the three in dividends with a 2.71% yield. Target is slightly in second with 2.57%, and Costco comes in at 1.16%.
Currently, Wal-Mart is trading at 15 times forward earnings, Target at 17 times, and Costco is above both at 27 times forward earnings. Wal-Mart may have the smallest price multiple of the three, but it has more headwinds to battle, in my view. I would be looking to Costco and Target for better mid-term growth.
Analysts forecast about the same EPS growth over the next five years between Costco and Target- about an average 10%-11% annually. In the near term, though, Costco has a better growth profile- it has solid membership growth (which is the main source of profit for the company) and is expanding overseas.
Target, on one hand, has some interesting innovations, but the company is still recovering from the problems of 2013 and 2014. Target may at first look to be of better value, but in the case of discount retailers, the main long-term business driver is revenue growth.
Based on past and forward-looking growth trends, my final choice would be Costco. It's solid earnings growth and the strong competitive advantage that its business model gives versus Target and Wal-Mart make it my preferred stock of the three.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.