We'd suggest investors remain on the sidelines of this no-moat retailer as we expect to shave around $1 from our $72 fair value estimate.
By Erin Lash, CFA | 01-18-17 | 08:55 AM | Email Article

Lackluster sales plagued  Target  in the all-important holiday season, as the firm posted a 1.3% comparable-store sales decline in November/December. And as a result, management now expects fourth-quarter comps to fall 1%-1.5%, down from its prior outlook of down 1% to up 1%. Further, commentary from the firm suggests margins also took a hit as promotional activity was necessary to drive traffic, similar to other retailers. We had been skeptical that Target’s optimistic expectations for the holiday season (after a solid back-to-school season) would be realized, given competitive pressures, and we think the road ahead could be bumpy. In light of recent results and persistent challenges, management lowered its fiscal 2016 adjusted EPS guidance to $5.00-$5.10 from $5.10-$5.30 (below our $5.17 estimate). We plan to adjust our near-term outlook but only expect to shave around $1 from our $72 fair value estimate. Despite this, we don’t anticipate making any changes to our long-term forecast, which calls for 3% annual sales growth and average operating margins just north of 7% over the next decade. Even with the mid-single-digit slide in the stock, we’d suggest investors remain on the sidelines.

Erin Lash, CFA, is a director of consumer sector equity research for Morningstar.

We still believe Target operates with a well-known brand, convenient locations, and scale, but given its mix of offerings (particularly apparel and home), we expect it to be challenged as it looks to expand its digital commerce business (which soared more than 30% in November/December). In our view, the firm has failed to amass a cost edge to defend itself against established online competitors, such as Wal-Mart, which generates more than $13 billion in online sales, and Amazon, which generates around $75 billion domestically and $300 billion globally. These figures far outweigh the mere $2.5 billion Target generates through this channel (3.5% of total sales), supporting our no-moat rating.

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Erin Lash, CFA does not own shares in any of the securities mentioned above. Find out about Morningstar's editorial policies.
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