Target shows progress, but turnaround still has a way to go

Key Points

Here's what the company reported vs. what the Street was expecting:

  • Earnings per share: $1.21, excluding items, vs. forecast of 91 cents, according to Thomson Reuters analysts' consensus estimates.
  • Revenue: $16.02 billion vs. $15.62 billion estimate, analysts said.
  • Same-store sales: 1.3 percent drop vs. forecast of a 3.7 percent decline, according to FactSet.
Target beats on top and bottom lines
Target beats on top and bottom lines

Target's revenue and comparable sales are falling less than some had feared, giving investors hope that the retailer's turnaround efforts will pay off in the long run.

This year, the company began its plan to invest more than $7 billion in capital over the next three years, or about $1 billion in annual operating profits, in order to "evolve" to meet consumer preferences.

Target shares spiked in premarket trading Wednesday following the discount retailer's first-quarter earnings report. But the stock fell from those highs shortly after, last trading up around 2 percent.

"We're not doing any high-fives in the room here today," Target CEO Brian Cornell told analysts and investors on the company's earnings conference call. "Our first-quarter performance is not what we expect to deliver over time."

However, Cornell expressed confidence in the company's turnaround strategy.

Target reported its same-store sales fell 1.3 percent, a narrower decline than the 3.7 percent forecast by analysts in a FactSet survey.

Target's net income rose to $681 million, or $1.23 a share, in the first quarter, from $632 million, or $1.05 a share a year ago.

Excluding items in the latest period, Target earned $1.21 a share, outpacing Thomson Reuters analysts' estimate of 91 cents per share. Meanwhile, revenue fell 1.1 percent, to $16.02 billion, which was higher than the $15.62 billion in sales that analysts were expecting.

Cornell said the company showed "strong execution" in a "very choppy environment."

"After starting the quarter with very soft trends, we saw improvement later in the quarter, particularly in March," he said in a statement.

Target saw a 2.2 percent drop in same-store sales at brick-and-mortar locations, which it attributed to a decline in customer visits, with shoppers picking up fewer items on average, the company said. Sales in its food and beverage business were also down.

The declining traffic and smaller checkout tickets showed that progress still needs to be made.

"The foremost issue is the quality of Target's stores," Neil Saunders, managing director of GlobalData Retail, wrote in a Wednesday research note.

"These are far too functional, change too infrequently, and offer very little in the way of inspiration. Such a position means that Target struggles to pull in customers — something our data shows is getting worse over time, especially among younger millennial consumers."

The big-box retailer hopes that by rolling out 12 original brands over the next two years — building on the success of its Cat & Jack children's line — this will drive more shoppers back to its stores. The first of the 12 brands, called Cloud Island, will roll out later in May and features home decor, bedding and bath items, Target said.

In addition to improving Target's merchandise mix, the company plans to grow its footprint of smaller-format stores, which Cornell has said contribute more than double the per-foot sales productivity of bigger locations.

"While we're happy with the performance of these smaller stores when they open, what's most encouraging is the continued growth we're seeing when the stores become mature," Target COO John Mulligan said on Wednesday's earnings conference call. "Specifically, for our 10 mature small-format stores, we are seeing double-digit comp increases on average so far this year."

Target said it will open 30 small-format stores by the end of the year, having opened four during the latest period. In addition, the retailer said it will complete 100 remodels of its larger locations before 2017 is over.

Real estate aside, Target continues to grow its presence online — comparable digital channel sales rose 22 percent for the latest quarter, contributing 0.8 percentage points to overall same-store sales growth.

"For digital shopping, the challenge is to make it more experiential, delivering more of the inspiration you can find in a physical store," Target's Mulligan told analysts and investors.

When shoppers make purchases online they often are more focused on the items they need to buy and are less likely to make impulse purchases.

Target is still trying to play catch-up with its online business. Big-box retail rival Wal-Mart has been bulking up its online operations by acquiring e-commerce platform Jet.com last year and recently rolling out free two-day shipping to compete with Amazon.

Target has so far been on the sidelines as far as deals go.

"You cannot deny the power of Amazon," Oliver Chen, a retail analyst for Cowen and Company, told CNBC during an interview. "It's a big war, and we do prefer Wal-Mart ... it's all about linking bricks and clicks."

With the first quarter behind it, Cornell reaffirmed its expectation for a low-single digit decline in same-store sales this year.

And while Target didn't update it outlook for its adjusted earnings per share, it did say that given the better-than-expected performance, the company expects there is an "increased probability" that it will finish the year above the midpoint of its earlier forecast.

That forecast called for 2017 earnings to be between $3.80 and $4.20 per share.

For the second quarter, Target said it also expects a low-single digit decline in comparable sales, and adjusted earnings per share of between 95 cents to $1.15.

Analyst: Target is not out of the woods yet
Analyst: Target is not out of the woods yet

"Target's not out of the woods, yet," Michael Lasser, a retail analyst for UBS, told CNBC Wednesday morning. "The road to improvement will be long."

Looking ahead, Target's top area of focus must be on lowering prices in order for the retailer to stay competitive, Lasser went on. The analyst said he's paying particularly close attention to Target's gross margin, to watch how the company's expenses are changing.

The company has vowed to work on lowering its prices further to stay competitive with peers, while beefing up its grocery department and expanding its presence online.

This, as more retailers are shuttering stores and presenting an opportunity for Target or Wal-Mart to swoop in and steal market share.

"We will clearly benefit short term and long term... we recognize over the next three years, $45 billion to $60 billion of retail market share is up for grabs."

With department store chains like Macy's and J.C. Penney shutting down stores in droves, Target said it's picking up new shoppers and seeing lifts in its comps.

Target quarterly same-store sales history

Source: Target

"Target's [first-quarter] performance ... reinforces our view that its strategic shift will take time, and therefore potential progress is difficult to view through a short-term lens," Moody's retail analyst Charlie O'Shea wrote in an email.

"Given the scope of this transition, year-over-year comparisons will be difficult, though we believe online sales growth and operating cash flow levels will be meaningful data points. At present, Target's strong balance sheet, excellent liquidity, and flexible financial policy regarding shareholder returns provide the company with sufficient credit support to execute its [turnaround] plan."

As of Wednesday's close, shares of Target have tumbled nearly 26 percent over the past 12 months and are down about 24 percent for the year-to-date period.

TGT 12-month performance 

Source: FactSet