Despite declining monthly sales gains that have whittled back their stock prices, the two major U.S. discount retail chains,
, are expected to post solid earnings gains Thursday, as usual.
But with upscale, luxury retailers continuing to enjoy the sweet spot in consumer spending, investors aren't likely to show much love for these discount stalwarts. Analysts say Wall Street will be focused on their second-quarter guidance on Thursday, and if any changes are in store, they'll probably come on the downside.
"No one's looking for these guys to raise guidance," says Patrick McKeever, an analyst with SunTrust Robinson Humphrey. "Will they lower their numbers? That's the big question."
Wal-Mart, the world's largest retailer, has presided over a long-term downtrend in its same-store sales growth, a key retail metric that gauges sales at stores open at least a year. The stock stalled in 2004, reflecting those declines, even while its earnings rose an impressive 19% to $10.3 billion.
This year, the company's earnings growth is projected to slow to 13%, and shares of Wal-Mart have shed 7%, recently setting a new 52-week low of $46.20.
Meanwhile, after showing some resurgence in same-store sales in the early part of the year, Wal-Mart ended its first quarter with another hit to comps growth. It posted a year-over-year gain of 4.1% in February, followed by 4.8% in March, but then its comps were barely positive in April.
Wal-Mart's April comps rose just 0.1% at its Wal-Mart discount stores, while its Sam's Club warehouse division posted a 4.9% increase, thanks in part to high gas prices. Excluding gas, Sam's Club's gain was 3.4%.
The results have raised concerns about whether the company will be able to raise its comps above the 3% level, which McKeever thinks is necessary to sustain the company's growth model.
Wal-Mart is expected to report earnings of 56 cents a share, up 12% from last year's 50 cents a share. Its same-store sales in May are expected to track within a range from 2% to 4%.
Despite the discouraging news of late, McKeever says monthly sales reports have weighed too heavily on Wal-Mart's stock price.
"This stock is subject to considerable headline risk," he says, referring to the almost weekly bouts of bad news surrounding the company's community and worker relations.
It was hurt by recent allegations that Tom Coughlin, Wal-Mart's former vice chairman and longtime board member, had abused his expense account and told Wal-Mart employees to help him cover it up. Also, a series of lawsuits charging discrimination and unfair treatment of workers has led to widespread criticism.
Target, Wal-Mart's chief rival, has kept its name out of the news. A lone star among discounters in 2004, with its stock gaining 36% on strong sales gains, Target showed an ability to consistently steal market share from its larger rival. The performance was attributed to a smarter product mix, but now even Target has fallen prey to the falling sales phenomenon that has long infected its discount counterparts.
Target's earnings growth was slower than Wal-Mart's last year, at roughly 5%, but this year, its earnings are expected to grow by 24%.
The No. 2 discounter posted same-store sales growth of just 1.3% for April, but comps for the whole first quarter were more impressive at 6.2%. That longer-term figure provides hope that the company's disappointing April was only a temporary blip, especially considering that Target posted same-store sales growth of 7.3% in the comparable quarter last year.
"The market reacted to Target's April sales report as if its business fell off a cliff," says McKeever, who doesn't own a position in Wal-Mart or Target and whose firm has no investment banking relationship with either company. "They didn't."
So far in 2005, shares of Target have sold down 8%. Now, the retailer is expected to report first-quarter earnings of 53 cents a share Thursday, up 10.4% from last year's 48 cents a share. For May, Target recently forecast a same-store sales gain in the range of a 3% to 5% increase.
McKeever rates both stocks a buy, based on his theory that perceptions of the chains' headwinds are exaggerated. With dependable earnings growth, great management and heavy cash flow, he thinks these retailers will eventually prove to be good investments.
On the other hand, Candace Corlett, a principal with WSL Strategic Retail, says weakness in discount retail is likely to continue.
"The crash of retirement savings and pension funds that happened all the way back in 1999 was a big blow to people's wallets, and they're still feeling it," Corlett says. "The job market hasn't fully come back for these people, and these high fuel costs are taking a big bite out of people's budgets."
"Wal-Mart thrives at selling commodities at great prices and shoppers need that, but the extra revenue is from the extra item in the basket," she adds. "People have cut back on those extra items, and that's the thing that's being impacted right now."