Retailer Target (NYSE:TGT) has offered its own branded credit cards since 1995. The company first launched a store credit card, followed by a branded Visa card six years later. Target started using the REDcard brand for its credit products in 2004.

The REDcard, available as a credit card or a debit card linked to an existing bank account, offers a collection of benefits to Target shoppers, including a 5% discount both in store and online and an extra 30 days to return items. Prior to early March, the REDcard also provided free shipping for online orders, although the shipping speed wasn't guaranteed.

A Target REDcard.

Image source: Target.

Upping the ante

The free shipping benefits tied to the REDcard got an upgrade when Target announced its free two-day shipping initiative during the company's most recent earnings call. Those without a REDcard can now receive free two-day shipping on eligible items with a minimum order of $35. That's the same deal offered by Walmart. REDcard holders get an extra perk: They don't need to meet that minimum threshold.

In other words, the core feature of Amazon (NASDAQ:AMZN) Prime -- free two-day shipping with few strings attached -- is now available without a membership fee to REDcard holders. To be fair, Target's selection of eligible products is minuscule compared to Amazon Prime. Around 100 million items are eligible for Prime shipping benefits on Amazon, while Target boasts of "hundreds of thousands" of eligible items. And Prime comes with other benefits, including video streaming, music streaming, and free e-book rentals.

But Prime costs $99 each year. Target's free two-day shipping costs nothing.

Leveraging the stores

Providing free two-day shipping is not cheap, especially when order minimums are thrown to the wind. Amazon spent a whopping $21.7 billion on shipping costs in 2017. Prime membership fees partially offset those costs, but the company's North American retail operations only managed an operating margin of 2.7% last year. Target mustered an operating margin of 6%, while Walmart produced a margin of 4.1%.

One advantage Target enjoys as it expands its free two-day shipping program is its base of stores. During the fourth-quarter conference call, COO John Mulligan explained that the majority of online orders with free two-day shipping will be delivered from a store. "We know that's the fastest place that can be delivered from," he said.

Using stores as mini fulfillment centers accomplishes two things. First, it allows Target to avoid needing to build out an extensive network of online fulfillment centers to mimic Amazon's network. Second, it brings the products closer to customers, which should result in lower shipping costs compared to shipping from a faraway fulfillment center.

An expensive, necessary move

Offering free two-day shipping will still probably take a bite out of Target's margins. Walmart had some trouble during the fourth quarter on the profitability front, thanks in part to the costs associated with its e-commerce business. Target may run into the same problems as it ramps up its efforts to compete with Amazon.

Target's REDcard has long been a way to build customer loyalty. The retailer is now doubling down on that strategy, adding one of the more aggressive free shipping offers among traditional retailers. Amazon Prime is still bigger and better in every way. But those who don't want to shell out $99 a year for fast shipping now have a viable alternative.

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