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Why Investors Should Worry About Target's Weak Holiday Sales

By Leo Sun - Updated Jan 19, 2020 at 12:03AM

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A few red flags just went up at the hottest retailer of 2019.

Target's (TGT -1.81%) stock nearly doubled in 2019 as the retailer's robust comps growth, double-digit digital comps growth, and expanding margin dazzled investors. However, the stock recently pulled back after its holiday sales missed expectations.

Target's comparable store sales rose 1.4% in November and December, compared with its 5.7% comps growth a year earlier. Its digital comps grew 19%, compared with 29% growth last year. Analysts had expected its total comps to improve 3.8%.

A man with a bow and arrow repeatedly misses the target board.

Image source: Getty Images.

That's a big miss, and it might be the tip of a bigger iceberg. Let's take a closer look at the numbers to understand why investors shouldn't gloss over Target's weak holiday numbers.

What happened during the holidays?

To understand why Target's holiday numbers were so disappointing, we should look back at its total and digital comps growth over the past year:

Period

Q3 2018

Q4 2018

Q1 2019

Q2 2019

Q3 2019

Total comps

5.1%

5.3%

4.8%

3.4%

4.5%

Digital comps

49%

31%

42%

34%

31%

Data source: Target quarterly reports.

Target previously expected its fourth-quarter comps to rise 3%-4%. However, it reduced that forecast to be in line with its holiday comps growth of 1.4%, which trails behind the average 4.1% growth in holiday sales that the National Retail Federation recorded.

During the holiday season, Target generated positive comps growth in apparel, essentials, beauty products, food, and beverages. However, its 5% comps growth in apparel marked a significant slowdown from the category's 10% growth in the third quarter.

That growth was partly offset by declines in Target's home goods and hardline products, which featured flat growth in toys and a 6% drop in consumer electronics. Its decline in home goods was also disappointing, since the category squeezed out low-single-digit comps growth in the third quarter.

The steep deceleration in Target's digital comps growth is also troubling, since Amazon.com (AMZN 4.11%) recently claimed that it generated "record" sales during the holidays. That slowdown indicates that Target might need to ramp up its e-commerce investments again -- which could throttle its earnings growth.

What does the CEO think?

Target CEO Brian Cornell attributed the company's slowdown to "challenges throughout November and December in key seasonal merchandise categories."

Specifically, Cornell noted that the weak sales of electronics, toys, and specific home goods products -- which generate roughly a third of Target's holiday sales -- had "a larger impact on our overall sales growth as compared to the rest of the year."

On the bright side, Cornell noted that Target sold more higher-margin products than lower-margin ones, which should boost its fourth-quarter gross margin as its comps growth decelerates. He also noted that it continued to gain market share in toys, according to NPD Group's data, despite the segment's flat comps growth.

A Target store.

Image source: Target.

Cornell claims that Target also continued gaining market share in apparel, beauty, essentials, and food and beverage products -- which indicates that those categories are still well insulated from Amazon, its Whole Foods stores, and other competitors.

Cornell cut Target's full-year comps forecast from 4% growth to "more than 3%" growth but reiterated its adjusted EPS expectations for 7% growth in the fourth quarter at the midpoint and 18% growth for the full year. Cornell claimed that the "durability" of the company's business model would enable it to meet those expectations -- which suggests that it could keep selling higher-margin products, cut costs, or repurchase more shares to boost its earnings growth.

Cornell predicted that Target could "deliver another strong year in 2020" and that its long-term plans to "generate annual sales growth in the low single digits, mid-single-digit growth in operating income, and high-single-digit growth in earnings per share" remained intact.

Investors should worry, but they shouldn't panic

I was bullish on Target throughout most of 2019, but its abrupt holiday slowdown is worrisome. It underperformed the broader retail market, it lost momentum in key areas such as apparel and home goods, and its digital growth decelerated.

That being said, investors shouldn't panic and sell all their shares after a single bumpy holiday quarter. The stock still looks fairly cheap at 17 times forward earnings, and it pays a decent forward dividend yield of 2.3%. Investors who are sitting on some big gains can sell some shares to lock in their gains, but they shouldn't give up on Target unless its slowdown persists for a few more quarters.

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