After enduring several years of stagnant sales, Kohl's (NYSE:KSS) has returned to meaningful growth over the past year. On Tuesday, the No. 2 U.S. department store chain continued its momentum, reporting solid comp sales growth and a huge jump in earnings per share for the second quarter.
Kohl's stock has already more than doubled since June 2017 due to this rising sales and earnings momentum. However, Kohl's has plenty of catalysts to keep sales and earnings growing over the next few years, creating further potential upside for the stock.
Sales trends improve, and EPS surges again
In the fourth quarter of fiscal 2017, Kohl's posted a stellar 6.3% comp sales increase. However, it projected much more modest 0% to 2% comp sales growth for fiscal 2018.
In the first quarter, comp sales rose 3.6% year over year despite unfavorable weather, driving a 65% surge in EPS. This didn't silence the doubters, though, as Kohl's acknowledged that comp sales would have been up just 0.4% absent a shift in the retail calendar.
By contrast, there wasn't much to complain about in the second-quarter earnings report. Comp sales rose 4.3% year over year, or 3.1% excluding the calendar shift. Gross margin continued to rise, ticking up to 39.5% from 39.1% a year earlier. Meanwhile, operating expenses increased 4.3%: slightly less than management's forecast.
This led to another quarter of solid margin expansion. Pre-tax income rose 17% to $387 million. Including the benefit of a lower tax rate and share repurchases, Kohl's EPS surged 42% year over year to $1.76. Analysts had expected EPS of $1.64.
The second half of 2018 also looks promising
In conjunction with the earnings report, Kohl's raised its full-year guidance. It now expects comp sales to rise 0.5% to 2.0%. Gross margin is on track to increase more than previously expected, offsetting slightly higher projected operating expenses. The net result is that Kohl's boosted its adjusted EPS guidance range to $5.15-$5.55 from the prior range of $5.05-$5.50.
The updated guidance implies that Kohl's gross margin expansion and comp sales growth will slow in the second half of the year. This probably reflects some conservatism regarding the fourth quarter, following last year's tremendous performance.
However, management noted that Kohl's could see a big sales benefit in the second half of fiscal 2018 from the liquidation of Bon-Ton, which is just winding down. There is significant store overlap between the two companies.
Kohl's is also set to capitalize on the demise of Toys R Us by expanding its toy offerings this fall. Next month, the retailer will add product lines from iconic toy brands LEGO and FAO Schwarz. This is likely to drive a huge increase in toy sales at Kohl's during the 2018 holiday season -- and it could also help other departments by driving customer traffic.
Kohl's has more left in the tank
Looking even further ahead, Kohl's has huge opportunities to continue growing sales and EPS. For example, it recently began testing changes to its loyalty program meant to boost customer loyalty and sales. It plans a full national rollout next year.
Additionally, Kohl's has been steadily upgrading its merchandise selection in recent years. Next month, it will launch a new exclusive collection designed in collaboration with the millennial-focused POPSUGAR brand. And in June 2019, Kohl's will begin carrying a full collection of Nine West-branded shoes, handbags, outerwear, and apparel.
Finally, Kohl's is just beginning to take advantage of excess space in 500 stores that it hopes to lease to other high-traffic retailers. Over the next few years, this will create a new stable source of income, while also hopefully driving more traffic to these Kohl's stores.
Kohl's stock hit a new all-time high following the earnings report on Tuesday. It now trades for 15 times projected 2018 EPS, a premium relative to most department store stocks. However, this premium is well deserved in light of Kohl's strong cash flow and multiple upcoming sales and earnings growth drivers. As a result, there could be more highs in store for Kohl's shares.