Should I Buy Target? 3 Pros, 3 Cons

by Tom Taulli | September 13, 2012 1:54 pm

darts target diversify Should I Buy Target? 3 Pros, 3 Cons[1]While it’s been a standout year for Target (NYSE:TGT[2]) — with gains of about 27% — this shouldn’t come as a surpirse.

After all, the company has a knack for producing strong results for shareholders. Consider, for example, that the annual average return for the past three years is 12% — pretty good for a company of Target’s size, with annual revenues of about $70 billion.

So going forward, can the company keep up the good times? Or should investors be cautious? To decide, let’s take a look at the pros and cons:

Pros

Differentiated. It’s not easy to stand out in the crowded discount retail space. But Target has found a way — that is, by having higher-quality brands. A few are Smith & Hawken, Wine Cube, Michael Graves Design, Mossimo and Simply Shabby Chic. Some of its brands are also exclusive, including Market Pantry, up & up, Target Home and Merona. These products, which account for a third of overall sales, are a big help in boosting margins.

Efficient Operation. Target has a top-notch infrastructure. The company has invested significantly in its inventory management, for example, which has been key for lowering costs. Target has also been savvy in maximizing its floor space. To this end, it has in-store amenities like Target Pharmacy and Target Photo as well as licensed departments for Pizza Hut and Starbucks (NASDAQ:SBUX[3]).

Financials. They are solid. In the latest quarter, Target raised its 2012 guidance for earnings per share to between $4.65 and $4.85, while the Wall Street consensus was $4.30 a share. Target has also been aggressive with its share buybacks, which came to $1.15 billion for the first half of 2012.

Cons

Competition. Of course, Target faces mega-rivals like Wal-Mart (NYSE:WMT[4]), Costco (NASDAQ:COST[5]) and privately-held BJ’s Wholesale Club, among others. Plus, there is also intense competition from the dollar stores, such as Dollar General (NYSE:DG[6]), Dollar Tree (NASDAQ:DLTR[7]) and Family Dollar (NYSE:FDO[8]).

Grocery Segment. Target has been moving into this area over the years. And while it’s a smart way to increase foot traffic, it has its risks. One issue is the heavy costs of building the systems. What’s more, the margins in the grocery business are low and the competition is intense, with players like Kroger (NYSE:KR[9]), Safeway (NYSE:SWY[10]) and yes, even Wal-Mart.

Macroeconomy. It continues to lag, as seen with the sluggish growth in GDP and the persistent unemployment rate. If these conditions continue, it could take a toll on Target.

Verdict

Again, Target is a top-notch operation. Besides having a differentiated strategy — focusing on high-quality brands — the company has also been wise to invest in its infrastructure.

Even with the run-up in the stock price, Target’s valuation is still reasonable. The price-to-earnings ratio is 15 and the dividend yield is a decent 2.2%.

Besides, the long-term prospects for the company are promising. Keep in mind that the company’s goal is to reach more than $100 billion in sales and over $8 in earnings per share as of 2017, and it is even looking to expand to Canada[11].

In other words, for investors looking for a solid retailer, Target is certainly a good choice.

Tom Taulli runs the InvestorPlace blog IPOPlaybook[12], a site dedicated to the hottest news and rumors about initial public offerings. He also is the author of “All About Short Selling”[13] and “All About Commodities.”[14] Follow him on Twitter at @ttaulli[15]. As of this writing, he did not own a position in any of the aforementioned securities.

Endnotes:
  1. [Image]: http://investorplace.com/wp-content/uploads/2012/01/darts-target-diversify.jpg
  2. TGT: http://studio-5.financialcontent.com/investplace/quote?Symbol=TGT
  3. SBUX: http://studio-5.financialcontent.com/investplace/quote?Symbol=SBUX
  4. WMT: http://studio-5.financialcontent.com/investplace/quote?Symbol=WMT
  5. COST: http://studio-5.financialcontent.com/investplace/quote?Symbol=COST
  6. DG: http://studio-5.financialcontent.com/investplace/quote?Symbol=DG
  7. DLTR: http://studio-5.financialcontent.com/investplace/quote?Symbol=DLTR
  8. FDO: http://studio-5.financialcontent.com/investplace/quote?Symbol=FDO
  9. KR: http://studio-5.financialcontent.com/investplace/quote?Symbol=KR
  10. SWY: http://studio-5.financialcontent.com/investplace/quote?Symbol=SWY
  11. looking to expand to Canada: http://investorplace.com/2012/08/tgt-target-is-due-north/
  12. IPOPlaybook: http://investorplace.com/ipo-playbook/
  13. “All About Short Selling”: http://www.amazon.com/All-About-Short-Selling/dp/0071759344/ref=sr_1_1?s=books&ie=UTF8&qid=1302184310&sr=1-1
  14. “All About Commodities.”: http://www.amazon.com/All-About-Commodities/dp/0071769986/ref=ntt_at_ep_dpi_10
  15. @ttaulli: https://twitter.com/ttaulli

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