After Earnings, Is Target Stock a Buy, a Sell, or Fairly Valued?

Target TGT released its third-quarter earnings report on Nov. 20. Here’s Morningstar’s take on Target’s earnings and stock.

Key Morningstar Metrics for Target

What We Thought of Target’s Q3 Earnings

• Target’s financial marks underperformed our expectations, as demand for discretionary products remained under pressure. Comparable sales expanded a mere 0.3% in the quarter. Modest growth in higher-frequency categories, such as beauty, food, and essentials, was largely offset by weakness in home and hardlines. About half of Target’s sales are tied to discretionary categories, such as apparel, hardlines, and home furnishings, exposing the retailer to cyclical swings in demand.
• Operating margin suffered a 60-basis-point drop to 4.6% amid an unfavorable sales mix, higher digital fulfillment costs, and expense deleverage from anemic sales growth. However, over the longer term, we still think the retailer can post an operating margin in the low 6% range, consistent with its 10-year average.
• Shares plunged 20% on the day of Target’s earnings release. We thought the stock looked a bit rich before the report, and shares now trade in a range we consider fairly valued relative to our fair value estimate of $135 per share.

Fair Value Estimate for Target

With its 3-star rating, we believe Target’s stock is fairly valued compared with our long-term fair value estimate of $135 per share. Results were underwhelming, as comparable sales growth of 0.3% landed below our 2% forecast and EPS of $1.85 declined 12% from the prior year. In light of weakening demand across discretionary product categories, management cut its EPS guidance for the full year to a range of $8.30-$8.90 from $9.00-$9.70. As such, we made a downward revision to our fiscal 2024 forecast, now calling for a slight decline in comparable sales (from a 0.5% gain previously) and EPS of $8.58 (from $9.31). Our fair value estimate implies a forward fiscal 2025 adjusted P/E of about 15 times.

Read more about Target’s fair value estimate.

Economic Moat Rating

We do not believe Target warrants an economic moat. Despite its iconic and trendy brand, we view its position in the hyper-competitive retail environment as rather ambiguous, which dilutes our confidence in the durability of its brand to drive consistent store traffic. Furthermore, we don’t see sufficient evidence to award Target a cost advantage. Although it is the nation’s seventh-largest retailer, we do not believe it exhibits an irreplicable scale across its product categories that would suggest it has amassed negotiating prowess over its supplier partners.

Read more about Target’s economic moat.

Financial Strength

After three years in which it saw its top line balloon by nearly 40%, Target finds itself in a strong financial position with a conservative debt ratio (net debt/2023 EBITDA stood at 1.2 times) and ample liquidity. At the end of its 2023 fiscal year, the retailer had about $16 billion in debt and held $3.4 billion in cash (plus $4 billion in an untapped revolving facility). This is consistent with its past mantra, as the company has prioritized operating with a strong balance sheet for more than two decades (net debt/EBITDA has averaged 1.6 times since 2000).

Target’s debt maturities do not appear particularly burdensome, as two-thirds of outstanding debt doesn’t come due until 2028 or later, and nearly one-third is due after 2032. Furthermore, the retailer owns nearly 80% of its stores and land (87% including owned buildings on leased land). We think Target’s vast underlying real estate portfolio may allow the firm to seamlessly raise capital at cheap rates via a sales leaseback or by collateralizing debt with its owned properties in the future.

Read more about Target’s financial strength.

Risk and Uncertainty

We assign Target a Medium Morningstar Uncertainty Rating. The rise of digital penetration serves as a formidable threat to Target’s traditional brick-and-mortar retail model. Price shopping has become rather seamless as consumers increasingly begin their product searches via digital channels, making Target susceptible to price competition amid an industry where consumers face virtually no switching costs. The retail industry’s preemptive leaders, Walmart WMT and Amazon AMZN, boast an unrivaled scale and an impressive ability to invest in supply chain automation to mitigate costs. We expect Walmart and Amazon to serve as disinflationary forces in the industry for years to come, putting pressure on retailers that lack a differentiated product offering, vast scale, or a concentrated geographic focus.

Read more about Target’s risk and uncertainty.

TGT Bulls Say

• Given its iconic brand, which attracts consumers with the promise of a more gratifying experience than other low-cost retailers, we are confident in Target’s ability to drive recurring foot traffic.
• Based on its performance during the covid-19 pandemic, we view Target as a formidable online retailer, putting to rest many concerns about its ability to compete in a digital retail environment.
• Target is poised to benefit from the continued decline of mall-based competition and department stores, which will drive strong growth in comparable sales.

TGT Bears Say

• Target lacks the scale and differentiation to drive significant market share across its product categories since its offerings lack a clear value proposition.
• Despite being the nation’s seventh-largest retailer, Target must constantly invest in cost-saving initiatives, product innovation, and store renovations to keep up with behemoths Walmart and Amazon.
• Target’s higher-margin discretionary product categories, such as apparel and home furnishings, are susceptible to losing market share via digital retail penetration, which could weaken margins.

This article was compiled by Sokhoeun Noeut.