Critical Earnings Showdown For Walmart, Target (WMT, TGT)

We’re heading into the heart of the winter holiday season, typically a time of both rest and reflection. While there will be a significant portion of reflection, big-box retailers Walmart (WMT) and Target (TGT) hardly seem poised for respite from recent volatility.

Both WMT stock and TGT stock will be releasing earnings results later this week, and the trail of red ink left in the markets is a worrisome sign for investors.

For the week ending Nov. 13, WMT stock was down 4% while TGT stock plummeted nearly 7%. Contrarian traders banking on a reversal are starkly fighting against poor economic conditions that suggest more pain to come.

The retail sector last Friday weighed heavily on the broader markets, with October sales data rising only 0.1% — vs. forecasts of 0.3%. However, a majority of economists believe that a strong boost in jobs growth last month will offset the negative implications from the retailers, thus affirming the very real possibility of an interest rate hike by the U.S. Federal Reserve.

Should the widely anticipated interest rate hike occur, it would potentially create unwanted headwinds for both WMT stock and TGT stock — as if they needed more problems.

The combination of a rate hike, along with disappointing economic data from the euro zone all but assuring further monetary stimulus by the European Central Bank, will likely drive strength in the U.S. Dollar Index. A stronger greenback would make WMT and TGT far less competitive internationally.

WMT, TGT Turn to Black Friday

But the biggest challenge for Walmart and Target is in the domestic front. As the second largest big-box retailer in the U.S., TGT drew first blood in the race for holiday sales, recently announcing that its stores will open at 6 p.m. on Thanksgiving day — the earliest Black Friday promotion in the company’s history.

One of the reasons cited for the earlier opening — according to a TGT spokesperson — is a bid to stay competitive in the make-it-or-break-it season for virtually all retailers. The company is still rebuilding after broad troubles, including a massive credit card security breach and the embarrassing failure of its Canadian expansion strategy.

On the other hand, while Walmart may not have made the bizarre missteps of its chief rival, it also faces a sharply uphill battle. Management’s concession that WMT stock earnings will decrease anywhere from 6% to 12% for FY2017 was a slap in the face to analysts’ prediction of a 4% growth curve.

To address the fiercely competitive consumer landscape, Walmart has reshaped its Black Friday strategy, eschewing so-called doorbusters in favor of simultaneously running deals in-store and online. Though the efforts may be noble, the strategy ultimately comes across as desperate.

For WMT in particular, the primary concern is profitability. While its current net margin of 3% is significantly higher than the average for retailers, this is a figure that has been steadily slowing on a quarterly and annual basis. Revenue growth has also been decelerating conspicuously over the past three years.

WMT stock, revenue chart
Source: Source: JYE Financial, unless otherwise indicated

Investors in TGT stock face an arguably greater challenge. Revenue for the No. 2 retailer peaked in FY2013, with a total of $73.3 billion, and the next two years averaged just $72.6 billion. Recent quarterly revenues fail to convincingly demonstrate that this bearish trend will reverse any time soon.

Worse, Target’s Q4 sales last year were down 5% from the year-ago period. Opening stores two hours earlier may not be enough to substantially overcome the deficit for the upcoming Black Friday holiday.

TGT stock, revenue chart
Source: Source: JYE Financial, unless otherwise indicated

Sentiment towards the big-box retailers’ upcoming Q3 earnings reports is mixed. The consensus target for WMT stock is 98 cents per share, near the lower end of the range of estimates. It also happens to be about 13% below the year-ago EPS target of $1.12.

TGT stock, on the other hand, faces an EPS consensus forecast of 86 cents, well above its year-ago estimate of 47 cents. Improved operating margins since Q3 FY2015 — thanks in part to lower business expenses — should make TGT stock’s forecast reachable.

Bottom Line for TGT, WMT Stock

With that said, the future for discount retailers isn’t pretty. Year-to-date, WMT stock has lost more than 34%, with most of the volatility incurred over the past 90 days. Walmart shares show no signs of life — their performance in the markets this year a dramatic contrast to the steady growth seen previously.

On the flip-side, TGT stock is a better investment, but only in comparison. While its YTD loss is relatively pedestrian at -5.3%, TGT stock is down almost 15% from its July 16 peak of $83.75. Since then, the bulls have failed to push past, or even meet, this threshold, thereby forming a declining trend channel.

While it’s too early to call for the end of the big-box retailers, both Walmart and Target face extraordinary challenges convincing their shareholders to stick with them during a period of prolonged tumult in the markets. WMT stock has has an enormous crater to bounce back from, whereas TGT stock is likely to continue dragging from a mixture of external headwinds and internal incompetence.

As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.

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