Stock Market Clearance: Buy Target now

Objective‘S (TGT -0.26%) shares are down about 30% this year as investors worried about slowing retailer growth, declining operating margins and rising inventory levels. The broader sell-off in the market, driven by inflation, rate hikes, and other macro headwinds, exacerbated that pain.

However, I believe the sell-off has created a good buying opportunity for investors who can rule out the noise in the short term. Let’s take a fresh look at Target’s key corporate strategies, growth rates, dividends and valuations to understand why it’s still a compelling buy in this bear market.

A Target store in Richmond, Virginia.

Image source: destination.

How Target became a retail survivor

A decade ago, Target struggled to keep up Amazon And Walmart in the busy commercial space. But in 2014, Brian Cornell took the helm as CEO of Target and focused on renovating its stores, expanding its private label brands, strengthening its ecommerce ecosystem, offering more delivery options and leveraging its existing network of brick-and-mortar stores to fulfill their online orders. He has also opened smaller size stores for densely populated urban areas.

Cornell’s tactics breathed new life into the old retailer, and its comparable in-store sales growth accelerated during the pandemic in fiscal 2020 (ended January 2021). During the pandemic, more shoppers flocked to Target’s e-commerce site and brick-and-mortar stores to stock up on home goods and groceries, and it continued to grow even as lockdown-induced favorable winds waned in the year. fiscal year 2021.

Period YEAR 2018 YEAR 2019 YEAR 2020 YEAR 2021
Comparable in-store sales growth 5% 3.4% 19.3% 12.7%
Revenue growth 3.6% 3.7% 19.8% 13.3%

Data source: destination. Graphic by author.

Target also continued to open new stores as other retailers closed their weaker locations. Between the end of fiscal 2018 and fiscal year 2021, Target’s total number of stores increased from 1,844 to 1,926 locations.

Expanding margins and increasing profits

Target’s gross margin has also remained stable above 28% in recent years, and its operating margins have steadily increased as it has fulfilled more online orders through its physical locations. It now fulfills over 95% of its total sales, both offline and online, through its stores.

Period YEAR 2018 YEAR 2019 YEAR 2020 YEAR 2021
Gross margin 28.4% 28.9% 28.4% 28.3%
Operating margin 5.5% 6% 7% 8.4%
Adjusted EPS growth 15.1% 18.4% 47.4% 44%

Data source: destination. Graphic by author. EPS = earnings per share.

The expansion of Target’s operating margins enabled it to generate double-digit earnings growth. Those profits ensured that he could continue to pay his annual dividend, which was recently increased for the 51st consecutive year, retaining his place as the Dividend King of the S&P 500. He currently pays a forward dividend yield of 2.6%, significantly higher than Walmart’s forward yield of 1.7%.

So why did investors abandon Target this year?

Target’s steady growth, steady profits, and high dividend seem to make it a good defensive stock for a bear market. But for fiscal year 2022, Target expects its revenue to grow by only low to medium figures, as it completely avoids stimulus controls and pandemic-induced buying. Analysts expect its revenue to increase by less than 4% for the full year.

That sharp slowdown meant that Target ran out of stock too many, especially in bulkier products like kitchen appliances, televisions, and outdoor furniture, by the end of Q1 2022. As a result, it now needs to reduce those inventory with reductions. by crushing the margins.

These reductions, coupled with higher supply chain costs and wages, caused Target’s operating margin to slide to 5.3% in the first quarter of 2022. This pressure is expected to reduce its full-year operating margin to about 6%, while analysts expect it to be full-adjusted profit for the year down 36%.

Target expects its operating margins to stabilize in the second half of the year as it gradually reduces its stocks, but its bleak near-term outlook has led many investors to aim for exit.

Why investors shouldn’t give up on Target

Target clearly miscalculated the impact of the post-stimulus slowdown, but its core business is still healthy. Its Target Circle loyalty program has already grown from 35 million members in 2019 to over 100 million members today and continues to expand its same-day delivery and collection services. Target’s store-in-store partnerships with The ultimate beauty And Disney they are also bringing more shoppers back to its stores, and its digital sales continue to grow.

Analysts predict that Target’s revenue and adjusted earnings per share will increase by 4% and 42% respectively in 2023. We should take these estimates with a grain of salt because the current headwinds are unpredictable. But Target has traditionally been a resilient retailer during both recessions and inflationary cycles, as it constantly attracts bargain-seekers with its low prices.

Based on these expectations, Target trades with forward earnings of just 17x. In comparison, Walmart is trading at 23x forward earnings. Target’s stock won’t explode anytime soon, but I believe its low valuation, high dividend and promising growth prospects make it a great stock to buy as short-sighted investors only focus on short-term challenges.

John Mackey, CEO of Whole Foods Market, a subsidiary of Amazon, is a board member of The Motley Fool. Leo Sun has positions in Amazon and Walt Disney. The Motley Fool has locations and recommends Amazon, Target, Ulta Beauty, Walmart Inc., and Walt Disney. The Motley Fool recommends the following options: January 2024 long calls $ 145 on Walt Disney and January 2024 short calls $ 155 on Walt Disney. The Motley Fool has a disclosure policy.

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