Target (TGT +0.85%), the popular retail chain famous for its red bullseye logo, has been a stomach-churning investment for several years. The stock has been on a steady slide since late 2021 and sits 55% off its former high today. The S&P 500 index has risen over 20% since then, so Target's struggles jump off the page at you.
Even more head-scratching is that Target is a blue chip company with a popular brand and a long track record of success, not some unprofitable, high-risk moonshot bet. It's a Dividend King with 58 consecutive annual dividend increases! That doesn't happen by accident.
So why is Target stock performing so poorly, and is there enough value here to justify buying the stock in March?
Explaining Target's struggles
A stock's price action influences a company's narrative. Glance at Target's slide over the past few years, and you might assume the business is doing terribly. The reality is that Target's business fundamentals are pretty solid (more on that soon). So why has Target's stock fallen off so hard?
NYSE: TGT
Key Data Points
It boils down to Target being a more cyclical retail company than its competitors.
When people go shopping, their spending tends to fall into two categories: discretionary (wants) and staples (needs). You need things like groceries and household products (e.g., toothpaste and soap). You may want things like furniture, electronics, and new clothes, but most people don't need them to get by.
Target sells groceries and household staples, but those categories represented only about 40% of merchandise sales last year. Walmart, for one, sells more staples; grocery alone made up 60% of its U.S. store sales last year. In other words, Walmart tends to hold up better when consumers cut back.
In 2020-2021, when the U.S. government sent out stimulus checks to consumers, discretionary spending in the economy was boosted because not everyone who got the stimulus needed it. Then, as that money dried up and inflation tightened budgets for many Americans, discretionary spending dropped. You can see below how Target's revenue growth fell off a cliff following the pandemic:
TGT Operating Revenue (Quarterly YoY Growth) data by YCharts
The bottom line? Target's business is in a slump and may remain so until discretionary spending recovers.
The company still sits on a strong financial foundation
But there's a difference between a slumping company and a broken business. It doesn't seem that Target is in terminal decline, and it goes beyond the company's decades-long track record.
The business is financially solid in several ways. For example, that famous dividend yields 3.9% today, approaching an all-time high. Abnormally high yields can be a red flag, but Target's dividend payout ratio is only 45% of cash flow. Beyond that, the company is leveraged to only 1.8 times its earnings before interest, taxes, depreciation, and amortization (EBITDA), has $4.7 billion in cash, and enjoys an "A" credit rating. Target's dividend is in great shape despite the company's lack of growth.
Target is working through a sizable slump because the COVID-19 stimulus created a colossal spending boost. There's a good chance that consumers will eventually bounce back, and so should Target. Until then, the stock will pay you to own shares, and investors shouldn't lose much sleep over the company's stability.
Should investors buy the stock now?
To be fair, the stock still isn't some generational bargain due to its decline.
Target currently trades at a price-to-earnings ratio of just under 13. Analysts expect earnings to grow by an average of just over 6% annually over the next three to five years. The resulting PEG ratio (2.1) signals that the stock's valuation is reasonable for its anticipated growth. In other words, one might argue that Target was overvalued coming out of the pandemic, and its decline, as painful as it was, has repriced the stock more appropriately.
Could shares go lower? Of course! Remember, the stock may struggle until discretionary spending picks up again. That said, the stock could deliver solid total returns (dividends and earnings growth) between 10% and 11% annually over time.
If that appeals to your investing goals, Target is a solid buying idea to consider this month.
