has performed a near miracle in the last few years: It's made it chic to be cheap. The discount retailer has enjoyed stellar sales growth by appealing to both the price-conscious and the terminally hip.
But Target's shares are 26% off their highs and have fallen 20% in the past month alone. While other retailers' shares have also slumped in recent months, some investors are concerned that, ironically enough, the discount store success story may be particularly sensitive to the consumer-spending slowdown that may be emerging. While no one is saying that Target's format has lost its buzz, some say economic trends and merchandise mix may conspire to hurt second-quarter earnings. And at a relatively rich multiple of 22 times trailing earnings, that could mean trouble for the stock.
Target, for its part, says that while recent sales have been weak, its format has weathered slowdowns before quite nicely, thanks, and there's no reason it can't do it again.
On the face of it, the concerns about Target sound absurd. After all, when consumers get concerned about overspending, they often trade down to less expensive stores. Target, with its witty ad campaigns, brand-name goods and low prices would seem to be the perfect beneficiary of increased thrift.
But Target's sales rose a weak 2.6% in May (1.5% including its department stores) and were below plan in the first week of June. The store gets a smaller percentage of its business from consumables than other discounters like
. And consumables -- food, drugstore supplies, anything you use up and have to replace -- are what drive shopping frequency higher, says Emme Kozloff, an analyst with
. Even during bad economic times, you've got to eat and brush your teeth, and that will keep you coming back to stores -- twice a week, on average, to food-related stores, she says. If you don't sell food and toothpaste, consumers won't be coming in so often (just twice a month). Target relies more on sales of goods like appliances and apparel. (It also has an economically sensitive department store unit, though Target stores contribute about 80% of profit and sales.)
Based on Target's recent weakness, Kozloff downgraded the company's shares to market perform from buy and cut her earnings estimates for the second quarter to 54 cents from 58 cents a share (
consensus is for 57 cents a share) and for the year to $2.90 from $2.99 (consensus is $2.96). Jeffrey Edelman, an analyst with
, said in a recent research note that "there is an increasing probability that our earnings estimate for Target could come down slightly for the second quarter," depending on sales over the next few weeks. His current estimates are in line with those of consensus. (Edelman rates Target shares a buy, saying that the company is well-positioned for the longer term, and his firm hasn't done recent underwriting for the company.)
"It's pretty clear that their business is more economically sensitive than Wal-Mart," said one investor whose firm has sold all its Target shares in the past month. "We've definitely seen a slowing of their business, and there's some risk to earnings."
Taking the High Road
Target has a tough act to follow in its own stellar performance over the years. CFO Douglas Scovanner says that in 25 years, the company has never seen annual same-store sales growth of less than 3% -- even during economic bad times. "That resilience over time is largely a result of our underpinnings as a discount store concept," he says. (On Thursday, Target set a 2-for-1 stock split and said it would boost its quarterly dividend, boosting its shares 1 13/16 to 59 13/16.)
With that kind of track record, a few weeks of bad sales do not a disaster make. And some analysts are blaming Target's slump, as well as generally weak retail sales seen in April and May, on weather, that old whipping boy for disappointed retailers. "I hate using weather as an excuse, and you hate hearing it, but the way I read it, it's weather-related," says Wayne Hood, an analyst with
. (He rates Target a strong buy, and his firm hasn't done recent underwriting for the company.) Scovanner says Target's sales varied by region, which doesn't indicate a broad-based slump. Nor does evidence from the overall retail sector definitively point to an imminent drop in demand. "It's premature to characterize a slowdown of sales as some sort of fundamental turn in the economy," he says.
Hood notes that Target's average sale size hasn't shrunk and credit-card delinquency trends have actually improved. Instead, weakness has been in sales of seasonal, weather-dependent goods, he says. Unless comparable sales are flat in June and July, Hood doesn't see much risk to earnings estimates for the second quarter.
'Kind of a Bind'
But the next few months don't look particularly rosy for retailers. The first two weeks of June remained below plan for most retailers as well as Target, according to
. Again, it's hard to tell if that's because of the funky weather or because consumer demand is slowing. July is one of the least consequential months of the year for retail sales. Everyone's waiting for the back-to-school shopping season to get any kind of a read on spending trends. With uncertainty in the air -- and the
game plan still unclear -- it could be a rocky summer for retailers in general, and, if sales weakness persists, for Target in particular.
"While I think it's a great story bigger picture, longer term, it's in kind of a bind here with the economy slowing," says the investor who pulled out of Target in May. "And when you're comparing against great numbers, there's a lot of room for downside."