by Marc Bastow | August 17, 2012 7:10 am
Wal-Mart (NYSE:WMT) and Target (NYSE:TGT) are America’s premier retailing names. And the name of the game in the U.S. is slow growth — but growth nonetheless.
Indeed, the most recent reports suggest a rise in retail spending, as the Commerce Department showed a 0.8% uptick in sales for July, a nice surprise for everyone. The numbers might not have screamed “bullish,” but recent results from Macy’s (NYSE:M), Michael Kors (NYSE:KORS), Nordstrom (NYSE:JWN) and Abercrombie and Fitch (NYSE:ANF) suggest the buying is broadening along the retail spectrum.
So it goes for Wal-Mart and Target, both of whom delivered earnings this week that suggest the uptick also is alive and well in the discount space. They go about it in different ways, and with newly updated numbers at our fingertips, it’s a good time to see how both are doing, and how investors should view each of the retailers.
(In the interest of full disclosure: As a consumer, I don’t care for either company, but I have to admire their success. If nothing else, that bodes well for an unbiased basis for comparison.)
Wal-Mart might not be the author of the big-box model, but it is the name most associated with the term. Its strategy has not changed since Sam Walton founded the company: lowest prices all the time — period.
Now, understand that beneath that mantra is some serious retailing insight and creativity, including starting Sam’s Club, introducing groceries into the stores, and in-store “banking” for consumers.
But at the end of the day, Wal-Mart is about discounting — that means squeezing every price point along the supply chain to drive down costs, then passing the savings along to its loyal customers. Wal-Mart has made that model work for 50 years, as it evolved from a local Arkansas operation to a $240 billion market-cap operation.
Wal-Mart is one of InvestorPlace‘s Dependable Dividend Stocks, and why not? The company has paid a dividend since 1973 — one that it has steadily increased to a current quarterly payout of 40 cents, good for a 2.2% yield. And in terms of an investment, WMT shares are up more than 40% in the past two years — and they have improved more than a thousand-fold since going public! WMT shares are trading near all-time highs, yet its respective trailing and forward P/E’s of 15.5 and 13.5 are perfectly reasonable.
Also, the stock represents nearly 4% of Warren Buffett’s Berkshire Hathaway (NYSE:BRK.A, BRK.B) portfolio — a ringing endorsement.
Wal-Mart’s second-quarter results showed nice 6% growth from last year, coming in at 1 cent per share better than analyst estimates. It grew revenues 3.8% to $113.5 billion, though that number came up shy of forecasts — but it did so on comparable-store sales growth of 2.2%, the fourth consecutive improvement against that measure.
But what about future growth? Well, WMT will continue to add stores throughout the U.S. And if you think Wal-Mart doesn’t have many more places to expand, take my word for it: If it can put a store outside of Denton, Md., it can find space for one anywhere. The company always has room to grow profits, too, though Thursday’s bump in forward-looking earnings and revenues represent very small improvements, and performance might be helped more by the company’s continued share repurchase program.
My concern: All the company talks about is how it continues to stress price as its main competitive advantage. “Lowest price” for the customer base in a difficult economy is about all Wal-Mart has to offer. Don’t get me wrong — it’s a tried-and-true model, but …
… well, let’s take a look at another model and get back to that.
Target actually got its start as a department store retailer in the early 1900s, but changed its format to discount retailing in 1962. The model worked, and today the company is a growing multinational chain whose customers are just as brand-loyal as Wal-Mart’s.
But the companies have some subtle differences: Target is much smaller in scale — at roughly 2,000 locations across the U.S. and Canada vs. Wal-Mart’s 8,500 in 15 countries, which doesn’t count its Sam’s Club stores — and in market cap, as its value of $42 billion is roughly a sixth of WMT’s. And although it offers discounted merchandise by the cartload, the pitch is more upscale in terms of shopping experience and what consumers can expect in the stores.
Being smaller also helps Target turn the ship in different directions: It is nimble and innovative. Being late to the party (as opposed to Wal-Mart) in bringing groceries and produce to its stores didn’t stop Target from introducing the “PFresh” initiative, which today is the company’s fastest growing segment.
More innovative thinking: With bricks and mortar costing a lot of money, and e-tailers like Amazon (NASDAQ:AMZN) cutting into sales, Target introduced smaller stores in city locations. The TargetCity concept was rolled out in Chicago and Los Angeles to great reviews, and at half the size of a typical Target store, the price is right. Discounts through the company’s “REDcard” program are bringing new customers into stores.
All of which leads to a great Q2: Although earnings were flat for the quarter, they came in ahead of estimates, and the company raised its earnings outlook on both the top and bottom lines. Same-store sales rose 3%, and the number of shoppers using the REDcard for purchases increased from 8.7% to 12.8% — though the discounting did weigh on margins.
Like Wal-Mart, Target is trading near 52-week highs, and the dividend yield of 2.26% is also close. Target has paid a dividend since 1965 and is a Dependable Dividend Stock, and that won’t change anytime soon. It’s a little cheaper on a price-to-earnings basis, at 14.5 times trailing earnings and 13 times fiscal 2014 earnings.
TGT shares haven’t been nearly as explosive as WMT, gaining just 20% in the past couple years, but the company is expected to keep growing profits at double digits, which would be a faster rate than Wal-Mart.
Going ahead, Target’s expansion into Canada is an important undertaking. The move started in 2011, with store locations to include every province in the country, and a headquarters in Ontario. The expansion costs hurt in the short term, but the venture is expected to be a prime driver of earnings into the future, starting as early as next year.
Great thinking, eh?
Yes, these guys compete head-to-head, but on a more different scale and for more different consumers than many might realize. Like I said up front, you won’t find me in either anytime soon, but I like Target’s long-term potential, particularly if the economy picks up any kind of consistent steam.
Marc Bastow is an Assistant Editor at InvestorPlace.com. As of this writing he did not hold any of the aforementioned securities.
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