Leading American retailer Target Corp. (TGT +1.32%) is going through a rough patch with sales slowing in the U.S. and its Canadian expansion plans not going as expected. At this juncture, it becomes crucial for the company to identify the right avenues and invest prudently to usher in growth. A closer look at the company's future capex plan could give a fair idea of whether Target's spending the money in the right direction or not.
Past trends
Analysis of the past three years' capital spending pattern shows that Target has been investing in three main areas -- store additions, store modernizations, and information technology. For the first time in its history, the company decided to set up stores outside the U.S. in Canada and in the last couple of years, it has invested heavily there. In fiscal year 2011, capex more than doubled to $4.4 billion as the company acquired leasehold interest in 220 retail chains of Canadian discounter Zellers for $1.86 billion. Target spent close to a billion dollars in Canada in 2012 and more than $1.5 billion in 2013.
Source: 2013 Annual Report
However, in the past 12 months, the retailer has scaled down its capital spending to around $2.6 billion, or a prudent 3.5% of revenue. For the current year, management plans to spend between $2.4 billion and $2.7 billion, with the U.S. accounting for $2.1 billion to $2.3 billion. Canada could absorb another $300 million to $400 million in investments.
Chart by author, Data source: Morningstar
Current initiatives
While Target hasn't detailed the initiatives it's investing in this year, it's not difficult to see where the focus would be. In the U.S., the company has added 15 net stores in the last two years and remodeled 252 stores in 2012 and 100 in 2013. So we could see some more activity in these areas. But one area that could surely draw big investments is information technology.
Despite massive prospects in e-commerce, digital sales are an insignificant part of the retailer's total revenue -- 2.5% for Target to be precise. However, online sales are increasing at a strong pace and the long-term growth prospect is a big attraction. According to eMarketer, global e-commerce sales should increase by nearly 20% to $1.47 trillion in 2014 and rise to $2.35 trillion in 2018. Forrester Research predicts U.S. online sales to grow at a CAGR of 9% through 2017. As more and more people opt for online purchases, developing an e-commerce platform is crucial for future growth.
Toward this cause, Target is investing in enhancing the online shopping experience, widening exclusive product mix through acquisitions, and leveraging social media through its Cartwheel app to attract greater web traffic. The company is trying to improve product information, search relevance, speed, and guest checkout. In 2013, Target acquired CHEFS Catalog, Cooking.com, and DermStore Beauty Group to expand its e-commerce reach and penetrate into kitchenware and beauty businesses.
Source: Target
Also, as mobile is becoming a strong channel facilitating e-commerce and more than 50% of Target's online customers use their mobile devices for buying products, the company's working to capitalize on this. Target has also embraced Apple's new offering Apple Pay, which is a secured platform that enables users to make payments for their purchases directly from their phone. Fellow peer Wal-Mart is yet to adopt this. Other initiatives and programs such as buy online, pick up in store are bearing fruits for the company. About 30% of the customers who bought online and went to pick up the item at the stores ended up purchasing other items, too. The company intends to expand this initiative further this year.
In Canada, Target's concentrating on making better product assortment, while stressing its signature categories to drive traffic. By year's end, the company aims to have 133 stores and increase to 150 in 2017.
What's the takeaway for investors?
Target is lining up its strategies and focusing its investments in growth areas like omnichannel selling and international expansion, but the question is whether it's returning value to investors. In the first-quarter 2014 earnings call, company CFO and executive VP John Mulligan said Target would invest in its core business and on programs that would fetch "superior returns" and maintain the four-decade record of increasing dividend payments.
Target had double-digit return on invested capital (ROIC) between 2010 and 2012, though there was a drop in 2013 as the company incurred a $941 million loss (EBIT) in Canada. But this could change once Target sets things right in Canada. The company is currently engaged in fixing the complicated distribution network and stock issues, and is chalking out attractive pricing policies to attract buyers. The e-commerce expansion across the board should also help Target pick up pace in the future.
Chart by author, Data source: Morningstar
Summing up
Target has its eyes set on maximizing returns for investors. Now that the company has made the initial investments in Canada and set up stores, it will divert more attention to its core U.S. operations and concentrate its resources there. Among growth initiatives, e-commerce remains a big area of focus and Target is likely to strengthen its capabilities as time goes on.
