Analysts weigh in on Target before earnings, Walmart challenge

Target  (TGT)  shares moved lower Monday but remain on track to match the market's broader rally, as investors look to the retailer's fourth-quarter earnings report for clues as to how it can rebound from last year's sales slump. 

Last year Target faced both a right-wing led backlash to its decision to highlight Pride merchandise tied to LGBTQ awareness, as well as a surge in organized theft. That's likely to mean the group will post an overall decline in both same-store sales and full-year revenue when it reports December-quarter earnings before trading starts on Tuesday.

Analysts, however, are warming to group's broader prospects, and they see better profitability, as well as improving store traffic and a boost to online sales, over the coming months. 

That could put a lot of pressure on Chief Executive Brian Cornell to outline the group's near-term plans to win back shoppers and offset the impact of a likely slowdown in spending while growing profit margins.

Bloomberg reported earlier this month in fact that Target was mulling the launch of a membership program, similar to those offered by rivals Walmart  (WMT)  and Amazon  (AMZN) , that could support the group's effort to expand its wider-margin online sales.

Target prepping for membership reveal?

That could explain the transition of Target veteran Michael Fiddelke, the group's chief financial officer since 2019, to the role of chief operating officer earlier this month.

Target said the new role will put Fiddelke in charge of the retailer's "nearly 2,000 stores, its global supply chain network (and) fulfillment services, including same-day delivery with Shipt."

The plan, known internally as Project Trident, would differ from the group's free Target Circle loyalty program and likely would include inducements such as free shipping and broader price discounts.

The latter could prove crucial in Target's effort to build on its recent gains in discretionary spending, as shoppers transition from its higher-end merchandise. That effort is now benefiting from the continued decline in headline inflation.

Walmart, in fact, noted earlier this month that Walmart+ members, who pay an annual fee of $98, "spend nearly twice as much with us as non-members, and they buy more over the course of a year." 

Walmart also said it saw membership fees and advertising sales comprising around 20% of its overall operating income next year. 

"Although Target is still likely losing share (to lower-priced rivals like Walmart), a rebound should be on the way as disinflation in other categories might ‘crowd in’ spending on discretionary products,” D.A. Davidson analyst Michael Baker said in a recent client note.

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Still, the group's operating margins, a key profitability metric, are likely to remain pressured, with analysts expecting a rate of 4.8%, narrower from both the prior quarter and the 5.1% tally recorded over the pre-pandemic holiday period.

At the headline level, analysts expect Target to post an adjusted bottom line of $2.41 a share, up 28% from the year-earlier quarter, with revenue edging 1.4% higher to $31.83 billion.

Goldman Sachs analyst Kate McShane, who recently added Target stock to the bank's highly regarded Conviction Buy list, also sees profitability improving over the coming year. That's amid an uptick in discretionary spending tied to the economy's prospects for a soft landing — lower inflation and no recession.

"With top-line growth that should translate into margins eventually recovering to 6% (give or take), and all comes at an undemanding valuation," her team wrote. 

Target: Efforts toward shrinking shrinkage 

Analysts will also be focused on commentary from Cornell related to store theft, which clipped the group's gross-profit margin by 0.4 percentage point over the three months ended in November. 

Last autumn, Target closed nine stores across four major U.S. cities, including New York and San Francisco, following losses due to organized crime and theft. Those thefts could cost the retailer more than $500 million this year.

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Cornell told investors in August that Target faced a more than doubling of theft — the industry term is shrinkage — over the first five months of the year. He warned that the group continued to face unacceptable levels of risk linked to organized crime.

"Shrink hurt Target early in the first and second quarters, but had a reduced impact in the third quarter," said D.A. Davidson's Baker. "Shrinkage was part of the retail media craze last year, but will likely benefit margins as retailers cycle this issue."

Target shares were marked 3% lower at last check Monday, to change hands at $150.62 each. Such a move would trim the stock's six-month gain to around 20.4%.

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