Target: Beyond the Numbers

Does Target present an investment opportunity right now, or is Wal-Mart or Amazon a better option? You might be surprised by the answer.

Jun 30, 2014 at 12:30PM
Target Canada

Target (NYSE:TGT) has been a mess of late. The data breach and poor performance in Canada has led to management changes, and the company still doesn't know the total future costs for the data breach. Aside from lululemon athletica, it would be difficult to find a retailer with so much drama surrounding it. The tricky part is that drama at a strong retailer often presents a buying opportunity because that drama is a short-term headwind that temporarily suppresses the stock price. The key question: Is Target a strong retailer?

Reading numbers
One quarter's results don't mean much when we're taking a big-picture look at a company for investment consideration. However, in this case, it's important that you're not fooled by what recently took place.

In the first quarter, Target reported adjusted earnings per share of $0.70, which was above the midpoint of prior guidance of $0.60-$0.75. If you only read this news, then you would likely think the data breach concerns were over, the Canadian segment was turning around, and all is well at Target. Unfortunately, that would be untrue. In fact, an adjusted earnings per share of $0.70 represents a 13.9% decline from the year-ago quarter.

Canadian sales increased to $393 million from $86 million in the year-ago quarter, but once again, you need to look beyond the numbers. The primary reason for this massive leap was because Target opened 124 stores in Canada in 2013.

More stores equals more sales. That's why it's important to look at comps sales, which are sales at stores open at least one year. This excludes sales made at new stores. However, it's too early to measure comps sales for Target Canada. That being the case, you should know that domestic comps slid 0.3% in the first quarter year over year. But, as stated earlier, it's about the big picture. Therefore, let's see what Target expects in the future.

Future expectations
For fiscal-year 2014, Target expects adjusted earnings per share to come in at $3.60-$3.90. That's a solid range, but it's still lower than what Target had previously expected: $3.85-$4.15. This is simply a negative. It might not be a big-picture look at Target for five to 10 years down the road, but it's one clue as to where the company might be headed. However, might is a key word. Target is highly focused on its REDcard growth (drives more traffic to stores), new store growth, and e-commerce growth (setting itself up for future consumer trends). Therefore, potential exists.

Unfortunately, it's impossible to predict the future with absolute certainty. That's why we must look at the past in order to increase our odds of success. Take a look at the chart below, which shows Target's revenue as well as selling, general, and administrative expenses and net income growth (or lack thereof):

TGT Revenue (TTM) Chart

Target Revenue (trailing-12 months) data by YCharts

Forget the data breach. Target's selling, general, and administrative expenses have been outpacing revenue for years. This is a bad sign. Net income also took a dive. Target is in a management transformation stage, which could turn things around, but until that happens, this is a negative.

Better options
Target also must compete with Wal-Mart Stores (NYSE:WMT) and (NASDAQ:AMZN), which is like going up against Holyfield and Tyson. That's a tough spot. In the investing world, if you want long-term rewards, then you don't want to bet on the underdog. If you want to be a long-term winner, go with the companies that are winning. It's really that simple. Therefore, you might want to dig deeper on Wal-Mart and/or Amazon. But there's a key difference between these two massive retailers, and it's something you might not expect.

First take a look at the chart for Amazon:

AMZN Revenue (TTM) Chart

Amazon Revenue (trailing-12 months) data by YCharts

Revenue has consistently outpaced selling, general, and administrative expenses for years -- a sign of quality management and efficiency. However, net income has struggled. Amazon recently increased its annual Amazon Prime membership fee from $79 to $99 to aid in this regard, and logically, this should help net income growth. There have been no reports of membership declines since the fee increase. This could be a long-term positive.

If you would prefer to invest in a retailer that has consistently delivered in all three aforementioned areas, then you might want to consider Wal-Mart instead. Evidence:

WMT Revenue (TTM) Chart

Wal-Mart Revenue (trailing-12 months) data by YCharts

Revenue has outpaced selling, general, and administrative expenses since early 2010, and while there have been short-term hiccups in net income, it never fails on the bottom line over the long haul. This is to go along with a 2.5% dividend yield. Don't be too concerned with Wal-Mart's target consumer suffering from reductions in government benefits. Wal-Mart is innovating in many ways to drive small-box store and e-commerce growth, and it's opening stores in higher growth markets abroad.  

The Foolish conclusion
Target might turn itself around, but there's no reason to gamble when Amazon and Wal-Mart are available options. While Amazon is growing much faster than Wal-Mart on the top line, Wal-Mart consistently delivers profitable growth over the long haul. This isn't to say Amazon should be deleted from your radar. If Amazon can drive net income higher while maintaining its current pace on the top line and keeping expenses low, then it's a home run.

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