What happened

Shares of Target (NYSE:TGT) plunged 15.2% last month, according to data provided by S&P Global Market Intelligence. The company produced a solid third-quarter earnings report on Nov. 20, but a disappointing outlook didn't sit well with market participants.

So what

As is the case with other retailers, Target has experienced strong traffic trends in 2018. The stock price was up more than 30% year to date through September, as investors were getting very enthusiastic about the company's momentum. Target reported its best comparable sales growth in 13 years in the second quarter.

Exterior of a Target store

IMAGE SOURCE: TARGET.

There was plenty to like about Target's third-quarter report as well. Comparable sales and traffic increased more than 5% year over year. What's more, online sales grew a robust 49% over the year-ago quarter. That placed Target's e-commerce growth in line with that of industry rivals. Target's digital sales made up just 6% of total sales in the third quarter, up from 4.2% a year ago.

The company reported strong growth in adjusted (non-GAAP) earnings per share of 20% year over year for the third quarter, but that was mainly due to a lower tax rate. Plus, gross margin ticked down to 28.7% compared to 29.6% in the year-ago quarter. This reflected higher costs to fulfill online orders and a greater investment in inventory ahead of the holiday quarter.

Some analysts wanted the company to show better margin performance and raise its holiday-quarter outlook, which calls for 5% comp sales growth. The company did neither, which explains the negative reaction following third-quarter results. 

Now what

Investors shouldn't be too concerned about the stock price's drop last month. Management has a different time horizon than near-sighted Wall Street does.

In addition to building out digital capabilities, Target is investing in more efficient means of restocking inventory, store remodeling, small-format stores near college campuses, and private-label brands. CEO Brian Cornell said, "Our work to optimize and automate inventory replenishment is in the very early stages, and we expect to realize the vast majority of potential savings from these efforts over the next few years." 

It should also be noted that analysts are not that sour on Target's prospects. Even after the so-called disappointing quarter, the consensus analyst estimate calls for Target to grow earnings 8% per year over the next five years. With the stock trading at just 12 times next year's earnings estimates, the stock is cheap enough that continued growth in comparable sales should move the stock higher over time.

John Ballard has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.