Binary narratives are powerful, mostly due to their simplicity. Ultimately, there's something authoritative in believing one solution is clearly right and the other is definitively wrong. Unfortunately, this simplicity obscures the fact that binary narratives are often wrong, mostly owing to the fact that things are more nuanced than they initially appear.
In today's stock market, the biggest such narrative is the "stay-at-home trade" versus the "reopening trade." In the retail sector, this narrative is certainly not true. In fact, the winners during the COVID-19 pandemic will be the ones that will continue to win when we return to normal.
Therefore, COVID-proof companies that invested in the e-commerce channel, like Walmart (WMT -0.34%), Target (TGT -0.33%), and Amazon (AMZN 2.97%), will continue to win share.
Walmart's "failed" successful acquisition
It's been a good five-year run for Walmart under CEO Doug McMillon. Shares have advanced 140% during this period versus the S&P 500's return of 80%. The most recent catalyst was third-quarter earnings where the company increased comparable sales (same-store sales) by 6.4% and total revenue by 5.2%. However, the true standout figure was Walmart's U.S. e-commerce sales, which grew 79% year on year.
This sales channel was not built overnight; in fact, it's been years in the making. After taking over from prior CEO Mike Duke, who admitted the company moved too slowly on e-commerce, McMillon aggressively moved into the space by buying Jet.com for approximately $3 billion in 2016. At that time, I expressed concern about the difference in cultures between the two retailers and was not surprised when Walmart shut down the brand earlier this year.
However, Jet's acquisition came with more than just a website. Most importantly, it came with then-CEO Marc Lore, an e-commerce wizard whose first venture, Quidsi, was sold to Amazon for $500 million. The acquihire remains as President and CEO of Walmart U.S. e-commerce and will continue to innovate in this channel.
Target's just-in-time e-commerce buildout was rewarded
Not to be outdone by its bigger competitor, Target's earnings electrified the Street. The company grew both comparable sales and revenue by 21%, mostly on the back of 155% growth in digital comparable sales. This hasn't simply been a singular quarter for Target -- revenue for the first three quarters in 2020 is 19% higher than it was in the prior-year's corresponding period.
Like Walmart, Target is reaping the benefits of earlier investments in this channel after essentially being forced into investing in e-commerce. At the time, both wanted to continue to remain singularly focused on the brick-and-mortar format and treat e-commerce as a side project.
However, the tremendous growth at Amazon forced Walmart to adapt, and Walmart's success forced Target's CEO Brian Cornell to follow suit. Target's investments paid off in a major way, starting last year when Cornell was named CNN Business' CEO of the Year, and have continued to reward investors through the pandemic.
Target is still looking for ways to innovate in this space. Earlier this year the company was the first mass retailer to partner with Facebook's Instagram for shoppable posts.
Don't ignore Amazon's e-commerce business
As investors, we often ignore Amazon's e-commerce business and focus on the higher-margin Amazon Web Services businesses. That's unfortunate because Amazon's e-commerce business still has a long runway for growth.
Despite 37% growth from Amazon's North America segment (mostly e-commerce) through the first nine months of 2020 over the prior-year's corresponding period, segment operating income barely increased due to higher operating expenses, mostly owing to pandemic-related spending.
While the North American segment will never rival AWS's enviable margins, there's reason to believe it will increase in future years. First, pandemic-related spending will eventually ameliorate, but Amazon's e-commerce also fuels growth in services like subscription memberships (non-AWS), third-party selling services, and its rapidly growing other segment that includes high-margin advertising services.
The new normal is more of the same
If there's been anything positive about the pandemic, it's the fact that it has pushed forward existing trends and the adoption of new technologies. That's certainly true in e-commerce, as social distancing has created millions of new online shoppers. While it's likely they will eventually return to the storefront, many will adopt a hybrid model in the name of convenience. This will disproportionately reward retailers that invested in their online experience years ago.
However, for Target and Walmart, the pandemic will boost their fortunes in the physical space as well. Many smaller retailers will likely not make it out of this recession, and those that do will likely not have the assets to mount serious challenges to the major companies in any channel. The result is a return to normal looking more like the "new normal" in the retail sector.