Is Target Destined for Greatness?

Investors love stocks that consistently beat the Street without getting ahead of their fundamentals and risking a meltdown. The best stocks offer sustainable market-beating gains, with robust and improving financial metrics that support strong price growth. Does Target (NYSE: TGT  ) fit the bill? Let's look at what its recent results tell us about its potential for future gains.

What we're looking for
The graphs you're about to see tell Target's story, and we'll be grading the quality of that story in several ways:

  • Growth: Are profits, margins, and free cash flow all increasing?
  • Valuation: Is share price growing in line with earnings per share?
  • Opportunities: Is return on equity increasing while debt to equity declines?
  • Dividends: Are dividends consistently growing in a sustainable way?

What the numbers tell you
Now, let's look at Target's key statistics:

TGT Total Return Price Chart

TGT Total Return Price data by YCharts

Passing Criteria

3-Year* Change

Grade

Revenue growth > 30%

10.4%

Fail

Improving profit margin

(9.9%)

Fail

Free cash flow growth > Net income growth

(15.3%) vs. (0.6%)

Fail

Improving EPS

13.9%

Pass

Stock growth (+ 15%) < EPS growth

34% vs. 13.9%

Fail

Source: YCharts.
*Period begins at end of Q3 (July) 2010.

TGT Return on Equity Chart

TGT Return on Equity data by YCharts

Passing Criteria

3-Year* Change

Grade

Improving return on equity

(7.4%)

Fail

Declining debt to equity

(16.6%)

Pass

Dividend growth > 25%

72%

Pass

Free cash flow payout ratio < 50%

42.4%

Pass

Source: YCharts.
*Period begins at end of Q3 (July) 2010.

How we got here and where we're going
Target doesn't come through with flying colors, as its four passing grades (out of nine) were bolstered largely by dividend strength. However, Target's free cash flow has been falling over the past three years, which indicates potential difficulty ahead in maintaining a near-50% free cash flow payout ratio, should retail sales tank for any reason. Will Target be able to move past this weakness, or is the supersized retailer soon going to be luring investors with some deep discounts? Let's dig a little deeper to find out.

The retail sector has been facing many recent challenges that are not unique to Target. The increased payroll tax rates that took effect this year have combined with a shaky economy to produce tepid revenue growth for retail giants such as Target and Wal-Mart (NYSE: WMT  ) . However, Target is outpacing its larger rival at the moment. In its latest quarter, Target's sales increased by 4% year-over-year to $17.12 billion, while Wal-Mart's revenues were up by 2.4% to $116.2 billion. In addition, Target's comparable-store sales increased 1.2%, compared to a 0.3% decline in Wal-Mart's comp-store metric. Fool contributor Timothy Green notes that warehouse club Costco (NASDAQ: COST  ) remains evidently unaffected by this retail malaise, as its net sales increased by 7.9% to $24.08 billion, with 5% same-store sales growth. It appears evident that blaming economic trends is not enough to justify softness in either Target's or Wal-Mart's sales -- but Target's slightly more upscale branding seems to be working well in this low-gear recovery.

Over the past few quarters, Target has been aggressively expanding its geographical presence. The company has added 10 new stores in the United States, but a whopping 68 stores in Canada, and it has plans to open a total of 124 stores in Canada by the end of 2013. Timothy Green points out that Target's aggressive expansion in Canadian markets may result in the same short-term problems faced by Wal-Mart, with lower profitability as the outcome. On the other hand, Costco and Wal-Mart are also expanding their international footprints, but neither is anywhere near as focused on the Great White North. Costco has lofty plans to open 28 new overseas locations this year, and Wal-Mart has been attempting to capitalize on the Indian retail market, which offers more than 1.2 billion potential customers to any company able to penetrate it.

Target is also attempting to broaden its retail reach -- its intent to acquire skin-care company DermStore Beauty Group will give the company an in-house foothold on the $36 billion U.S. cosmetics segment. The company has also launched its PFresh grocery brand, which may help it to steal back some market share from Wal-Mart. It will also launch a new online video service that allows customers to buy and rent digital media, thus competing more directly with longtime online-retail foe Amazon.com. Target is clearly not content to rest on its successes, but will these bold efforts bring adequate rewards? The next few quarters will bear out the wisdom of these moves. I'd expect more out of PFresh than the other moves, as it's going to take a lot of energy, effort, and expense to crack the fiercely competitive online video market.

Putting the pieces together
Today, Target has some of the qualities that make up a great stock, but no stock is truly perfect. Digging deeper can help you uncover the answers you need to make a great buy -- or to stay away from a stock that's going nowhere.

Looking for some great retail stocks?
The retail space is in the midst of the biggest paradigm shift since mail order took off at the turn of last century. Only the most forward-looking and capable companies will survive, and they'll handsomely reward investors who understand the landscape. You can read about the 3 Companies Ready to Rule Retail in The Motley Fool's special report. Uncovering these top picks is free today; just click here to read more.


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  • Report this Comment On September 22, 2013, at 11:34 PM, redoctober90 wrote:

    I work for Sears right now, and we are in a mall that contains a Target (former bottom floor of a Kaufmann's Department Store) that is roughly the same square footage as our store. When they first moved in, we anticipated that it would lead to a severe decline in sales at our store (we live in an upscale part of the city) and would result in a prompt closing.

    Despite this, it is 6 months later and our sales have been good, if not great. We are not actually competitors in the mall; we do have people who will shop both stores and actually frequently send customers at our store to Target for items we may not immediately have, such as furniture, some toiletries, food, and such. I know I've encountered many customers who have been to Target and couldn't find what they were looking for, and because we have fewer departments, we often offer a greater selection.

    The key to the matter is that we try to offer consultative help with items - it is very seldom that you cannot get a Sears associate to help you select the items you need. Sometimes it is hard with Target and Walmart's "self serve" model to get that - and we take pride in offering that to our customers. I understand that not all of the Sears stores have been doing as well, but we've focused more on trying to bring our brand up rather than put theirs down. And I think in terms of a cooperative effort, we've done quite well (we are very frequently busy compared to the rest of the mall).

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Related Tickers

4/17/2014 4:02 PM
TGT $60.00 Up +0.09 +0.15%
Target CAPS Rating: ****
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WMT $77.66 Up +0.44 +0.57%
Wal-Mart Stores CAPS Rating: ***

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