Despite a very challenging retail environment, Target (TGT) is moving full steam ahead with its store expansion plans. They are scheduled to open 26 new stores on October 11th, a move that will reportedly create some 5,000 jobs. Five of the stores will be SuperTarget stores, meaning they will have a full-grocery offering, the rest are general merchandise stores.
Target is hoping to take a large portion of holiday shopping, and they are optimistic that shopping trends at Target are starting to firm after consecutive monthly declines. August same store sales showed a decline of 2.9%, but that was far better than the 5.1% projections. Store traffic was flat for the month of August, which is encouraging compared to dismal second quarter results.
Target stock was downgraded by UBS (UBS) to "neutral" recently based on what the analyst termed a "tarnished image" and "long-term concerns over Target's perception amongst consumers." In order to back up what seems to be subjective reasoning, they cited studies showing that Target has lost 14% of its customers over the last several years and of those shopping at Target 31% are spending less. At Ockham, we find these data points to be a reasonable, but a little bit flimsy as justification of a downgrade. With consumer spending on the decline for a number of quarters, we would be interested to see these numbers compared to an industry benchmark. The analyst does concede that September same store sales should benefit from the Labor Day shift, and the stock may get a boost from it.
We believe that the all important holiday quarter could be a good one for Target. They are trying to become more aggressive on prices to make them more competitive with Walmart (WMT), and the two retailers have already started a price war on toys. Target is never going to be able to beat out Walmart on pricing alone, but Target is known to consumers as a higher- end discounter. Consumers subconsciously evaluate stores for the best price-value combination, and Target can use its higher perception of quality to its advantage.
As of this week's report, we are maintaining our Undervalued rating on Target. Even though the stock has appreciated massively, 87.5% since the market's March nadir, we think that there is further potential there. The new store openings and the aggressive pricing is a signal to the market that Target is doing everything it can to turn the corner and earn an even bigger slice of holiday shopping. Based on the current fundamentals, Target is trading slightly below its established historically normal price-to-cash earnings and price-to-sales metrics. We think that even with a slower recovery than many are expecting, Target could trade in the low $50's in the next year.
