The retailer has delivered a robust holiday quarter, with two-year stacked comps of 7% only beginning to tell the story. Children's and men's continued to lead the pack, contributing the most to the company's sales growth, as they did in the third quarter.
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Sportswear and active brands, including Nike (NKE - Get Report) and Fitbit (FIT - Get Report) , appear to have played an important role in enabling top line growth -- robust earnings reported recently by sports retailers, including Foot Locker (FL - Get Report) , already suggested that this would likely be the case. It was also encouraging to see the company's digital channel grow by a double-digit percentage over a Q417 that had already seen e-commerce perform very well.
But perhaps what impressed me the most about Kohl's fourth-quarter results came further down the income statement (see summarized, non-GAAP P&L below). Gross margins of 33.5%, flat year-over-year, suggests that the company has been doing a good job of retaining pricing power, despite the competitive nature of the business and the company's efforts to capture market share following competitors' store closures.
Further indication can be found in modest merchandise inventory levels, at 27.9% of total assets and down 140 basis points year-over-year. Operating expenses increased slightly on a percentage-of-sales basis, but this was not surprising given investments in the digital channel and wage pressures that have been a sector-wide norm.
Looking forward, I expect margins to improve further as a result of key initiatives that include store closures (a sensible move, given the evolution in e-commerce), overhead consolidation and a voluntary retirement program. I also welcome Kohl's initiative to use its cash reserves to retire some of its debt, a move that the company expects will save $45 million a year in interest expense. I estimate that these savings alone will have a sizable, annual positive impact of about 20 cents on Kohl's EPS going forward.
When put together, the solid comparable sales figures and margin-boosting initiatives help to explain why 2019 is starting to look very promising for the Wisconsin-based department store chain. At the same time, traffic growth challenges, particularly among millennial shoppers, and a slow-to-recover women's segment are two key items worth keeping an eye on over the next few quarters. On the whole, Kohl's delivered a consensus-beating, full-year EPS guidance of $5.97 at the mid-point of the guidance range, representing a respectable 7% increase year-over-year that I find encouraging.
The Bottom Line
Considering sales momentum, the company's resilient margin profile, a balance sheet with decreasing leverage and an attention-grabbing dividend yield of 3.6%, I would have expected Kohl's stock to trade at rather rich valuation multiples. Instead, shares are currently valued at a forward P/E of only 12.2x and PEG of 1.2x that are largely on par with the peer group average (the PEG assumes consensus long-term EPS growth expectations of 10%).
For this reason, I believe that KSS remains an enticing name in the retail space, combining strong fundamentals and a reasonably-priced stock in a "value package" that is worth some serious consideration.