Target CEO says retailer making $7 billion investment to 'win share not surrender it'

Target CEO: We're confident in our new direction

Target will pour $7 billion in capital into areas including its digital properties, its new and existing store base, and lower prices over the next three years, as it tries to adapt to consumers' changing shopping habits and turn around a sales slump that continued into the fiscal fourth quarter.

These investments will also take $1 billion out of the company's operating margin annually, but will better position the retailer for the long term, CEO Brian Cornell told analysts at an event in New York City on Tuesday.

Investors balked at the news, sending the company's shares 12 percent lower in midday trading. Target stock was on pace to record its biggest daily sell-off since 1998, with shares last trading hands at $58.35.

"Many of our competitors are aggressively rationalizing their assets. They're cutting costs just to keep their heads above water," Cornell said. "This contraction will create opportunities for Target to pick up market share over the long term."

In fiscal 2017, roughly $500 million of Target's operating profit investment will be allocated toward driving growth in its business. That includes upgrading more than 100 of its big-box stores; roughly doubling the number of small-format shops it has in college towns and urban areas; adding new brands to its portfolio; and investing in faster, more profitable delivery of online orders.

Another $400 million will be spent on lowering prices across the store, with an emphasis on staples like food and other household essentials. The retailer said it will lean on its historical reputation as a place where prices are low every day, instead of relying on promotions as it's recently done. That decision mimics a recent move by Wal-Mart, which has been gaining share in part by slashing prices.

As a result of these initiatives, Target expects fiscal 2017 and 2018 to be investment years. It should return to stability and growth in 2019, Cornell said.

"We're asking shareholders to make a meaningful investment," Cornell said. "We're investing to win share not surrender it."

Brian Cornell, CEO of Target
Ashlee Espinal | CNBC

While Macy's and J.C. Penney plan to close roughly 100 stores each this year, Target will stick to its historical strategy of closing roughly a dozen locations. To revitalize traffic and sales in its remaining established stores, which recorded their third straight quarterly sales decline in the holiday period, Target will improve their appearance and visual merchandising.

These updates will allow the retailer to better show customers how they can tie together an outfit, and will include more space for order pickup. The company expects its remodels, which were influenced by the results of its tests in L.A., to lift sales by 2 to 4 percent in each store.

By 2019, the retailer expects to have refurbished some 600 of its stores.

"They're old, they're tired and they haven't been updated in years," Cornell said. "Each store's going to look and feel like a totally new Target."

The CEO reiterated that having a massive fleet is a key competitive advantage for Target, with CFO Cathy Smith adding that its stores "universally" generate cash.

Meanwhile, Target will open roughly 30 small-format stores this year, and add a total of 100 over the next three years. These shops allow Target to enter more dense markets, and also serve as fulfillment centers. Even with their higher operating costs, they deliver two times the sales productivity of an average Target store, Cornell said.

Aside from its investments in stores, Target plans to continue pouring money into its supply chain so that it can deliver online orders more quickly and profitably. Though the retailer's 34 percent increase in online sales lifted its top line in the fiscal fourth quarter, it dented its margins.

The chain is also looking to capitalize on the popularity of its Cat & Jack children's brand by rolling out even more exclusive lines. The retailer plans to launch more than 12 new brands, representing more than $10 billion in sales, over the next two years.

Perhaps the most controversial piece of Target's plan is its decision to lower prices at the expense of gross margin. The retailer has struggled over the years to find the right balance between value and style, as competitor Wal-Mart has been taking down prices.

Yet while value is important to the Target consumer, winning a price war against Wal-Mart is a tough proposition. Its massive scale and relationships with vendors have made it hard for other retailers to compete.

"Part of [Target's strategy] is a sensible recognition of heightened price activity in the market," Neil Saunders, managing director of GlobalData Retail, told investors. "However, we would also caution that Target should not chase Wal-Mart on price, as it is a battle that cannot easily be won."

"We also believe that many of Target's issues are not solely price related," Saunders added.
Indeed, while Target touched on the changes it's made to its grocery division — namely, bringing in more local products, shipping produce more frequently and upping its focus on adult beverages — Cornell admitted that it still has more work to do in that department.

Food accounts for roughly 20 percent of Target's sales, and is often used in retail a means to drive repeat traffic from shoppers. However, Cornell reiterated on Tuesday that it is not a full-service grocer, and will continue to utilize its food department as a way to get shoppers to add extra items to their baskets.

"We're embracing who we are," Cornell said.

Target outlined its strategy for growth after reporting fiscal fourth-quarter sales and earnings that disappointed investors. The company's outlook for fiscal 2017 also came well short of analysts' expectations due to its aggressive investment plan.