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The back-to-school shopping season is in the books, and the critical holiday period is coming up shortly. Needless to say, the next few weeks will be very important for the nation's discount retailers. Since Americans still hold onto their purse strings with an ironclad grip, retailers who cater to those with more modest budgets, including Wal-Mart Stores (NYSE: WMT ) , Target (NYSE: TGT ) , and Costco Wholesale (NASDAQ: COST ) , should be in prime position to excel.
But that hasn't happened so far in 2013, which has to be a concern for investors. Major retailer Target (NYSE: TGT ) came up short in its third quarter, and you have to wonder if a miss is coming next quarter as well. Should investors take Target's disappointing results as a one-off? Or, does Target's dour outlook spell trouble for discount retailers as a whole?
Missing the target
A major culprit for Target's disappointing quarter was costs associated with its aggressive expansion efforts into Canada. Previously, Target was exclusive to the United States, but it's looking to grow north of the border. Of the 32 new locations Target opened during the third quarter, 23 were in Canada. In all, Target wants to have 124 open stores in Canada by the end of the year.
Even excluding this factor to focus on adjusted earnings, which Target believes is a pure measure of its U.S. performance, the results were ugly. Adjusted earnings fell 6% year over year. Moreover, same-store sales, which measure sales at locations open at least one year, increased just 0.9% in the third quarter. Target also handed in a weak fourth-quarter outlook, which is why its shares fell 4% after releasing results.
Weak comparable sales performance is a troubling trend for retail, one that was echoed by Wal-Mart (NYSE: WMT ) in its own third-quarter report. Wal-Mart's U.S. same-store-sales fell 0.3% in both the third quarter and the first three quarters as opposed to the same periods in 2012. Even when including contributions from Sam's Club, Wal-Mart's total U.S. same-store sales are down 0.4% through the first three-quarters of the year.
One discount retailer bucking the trend is Costco (NASDAQ: COST ) , which continues to amaze amid such a difficult backdrop. Costco's same-store-sales increased 5% in the fourth-quarter and 6% in its recently concluded fiscal 2013. Growth was spread evenly between its U.S. and international operations. The results were the same even when accounting for unfavorable currency fluctuations. Meanwhile, Costco's earnings-per-share jumped 19% this year.
Consumers are still hurting
Target's and Wal-Mart's poor U.S. performance is due to the troubles facing the consumer, which unfortunately persist. Even though we're officially five years out from the financial crisis, Americans are struggling to dig themselves out of the wreckage caused by the worst recession in decades. Hiring is still tepid, and budget constraints are hurting consumers at the least opportune time.
Retail sales increased just 0.5% in October, following a 0.3% gain in September, according to the U.S. Commerce Department. While this might alleviate some concerns over what the holiday shopping season has in store, there are important caveats to consider.
First, spending over the past two months was boosted by falling gas prices and strong momentum in the housing market, both of which may not be able to support spending for long. The National Association of Realtors reported that existing home sales fell 3.2% in October, as rising mortgage rates crimp home-buying.
And consumer confidence, a key barometer of whether Americans might tighten or loosen spending going forward, doesn't paint a bright picture either. U.S. consumer sentiment unexpectedly dropped in November to a near two-year low, signaling that Americans are still very concerned over their job prospects and financial outlooks.
As a result, consumers might have some of the wind taken out of their sails at the wrong time for retailers. It's reasonable to be cautiously optimistic heading into the holiday shopping season, just keep a close eye on results.
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