by Will Ashworth | March 1, 2013 1:45 pm
Target (NYSE:TGT[1]) will open its first store north of the border in Canada in less than a month … and there are big expectations for the launch. While many believe Canadian consumers are financially tapped out — scaling back non-essential purchases at the moment — it’s also true that Target will take market share from Walmart (NYSE:WMT[2]) and some of the established Canadian retailers.
The company announced earnings on Wednesday and, excluding costs associated with its Canadian expansion, bested analyst expectations by 18 cents per share. By the time Target announces its fiscal 2014 earnings two years from now, its Canadian operations will be a $6 billion business.
If you’re a Target shareholder, ignore any noise you might be hearing about the Canadian economy slowing. That has little bearing on Target’s ability to hit a home run north of the border and you can believe the company’s $3.5 billion investment will be repaid many times over. Here’s why:
How many Americans can say they’ve actually been inside — or even heard of — a Zellers store? I would guess very few, save those who live on the Canadian border. If you have been unlucky enough to be inside one, you’ll know that they are a dump. Walmart bought 39 of the old Zellers locations that Target didn’t want, slapped a coat of paint on the walls and opened them for business. The world’s biggest retailer boasted[3] in The Toronto Star last summer that it was taking possession of some of these stores and reopening them in as little as 65 days.
That’s great if all you’re concerned about is controlling costs. However, Canadian consumers want more than that … and being able to buy clothing and merchandise that’s relatively inexpensive in a shopping environment that’s bright and airy[4] is part of Target’s allure.
There’s a Target store opening at East York Town Centre in Toronto, for example (less than five minutes from my house) and it’s much more attractive looking (I’ve only seen the outside because it’s not yet open) than many of the Hudson’s Bay Co. (PINK:HBAYF[5]) stores in the area … and they’re supposed to be competing with places like Nordstrom (NYSE:JWN[6]). When people realize they can get a better shopping experience for less, they’re going to bid farewell to Canada’s longest operated business.
To play devil’s advocate, it does seem like a lot will have to get right in order to get to $6 billion in revenue by the end of fiscal 2014. Target’s own Canadian website suggests that it will generate $6 billion in revenue[7] thanks to the 200 stores it plans to add over the course of 10 years.
So why am I so optimistic?
From a gut-level perspective, I see a huge opportunity to improve retail in Canada. While Hudson’s Bay has taken large steps to spruce up its major stores in its downtown locations in Toronto, Montreal and Vancouver, its suburban locations still leave much to be desired. The same holds true for Sears Canada (PINK:SEARF[8]), just as Canadian Tire (PINK:CDNAF[9]) — an institution in this country — lacks retail creativity.
Still, these three companies generated approximately $20 billion in revenue in 2012. Add Walmart Canada’s $22.3 billion in revenue to the mix and we’re talking about a little more than $42 billion up for grabs. Clearly much of that will remain with those retailers, but if Target snags 10%, it’s more than halfway to my aggressive estimate.
That’s the easier part of the equation. The tough part is going to be average store size. Target’s stores in the U.S. average 130,000 square feet while the converted Zellers locations will be around 90,000 square feet — 30% smaller. This means it will have to reduce the amount of grocery produce it can offer in its stores … but that’s not such a terrible thing. Loblaw Companies (PINK:LBLCF[10]) is currently witnessing shrinking revenues at its grocery stores while its Joe Fresh clothing brand is doing quite well. With grocery margins much thinner than apparel and general merchandise, I don’t think the smaller store size will hinder its success.
The average Target in the U.S. generates $302 per square foot, backing out revenues from its now-sold credit-card portfolio. According to the International Council of Shopping Centers, the average Canadian mall generates $596 in sales per square foot[11] — almost 50% higher than in the U.S. In fact, the West Edmonton Mall in Edmonton, Alberta — owned by the same company that owns the Mall of America in Minneapolis — predicts the mall will generate $1,000 per square foot by 2016. This suggests a further renaissance in Canadian retail in the coming years, which also plays into Target’s favor.
If the Target stores in Canada do 50% better than in the U.S. in terms of sales per square foot, the revenue per store would be about the same and maybe slightly higher. If Target opens 124 stores in 2013 and another 62 in 2014, I estimate that in the second year of store openings it will generate $6.3 billion based on $450 per square foot for the first 124 and $225 for the next 62, since they won’t have a full year of sales. If it opens more than 62 in 2014 or does better in terms of sales per square foot, it could conceivably make it to $7 billion.
With that in mind, Target’s $6 billion projection over 10 years actually seems incredibly conservative. Investors and experts alike simply don’t seem to realize how big Target’s opportunity really is up north. I’d go shopping for some shares — especially while the verdict on the expansion is still out — so you can take the company’s huge investment straight to the bank.
As of this writing, Will Ashworth did not own a position in any of the aforementioned securities.
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