Target Corporation (NYSE:TGT) is making several moves that seem questionable at this point in time. Amidst a challenging retail environment, Target plans on raising its minimum wage, cutting prices on many items and investing billions into store upgrades. It appears that the company has decided to aggressively try and compete in a world that is increasingly moving away from brick and mortar. Will the strategy make TGT stock more attractive?
Let’s take a look…
Slashing Prices
The risk with department stores and retailers like Target, that ultimately determines how TGT stock will perform, is that they essentially deal in commodities. There is nothing unique or special to the things one can buy at a Target store. They can be purchased anywhere.
Therefore, TGT stock is impacted by only two things related to what it sells: price and convenience. The two are linked. If a consumer needs something right away, the availability of a Target store — and the shopping experience while there — will be a big factor in determining if the product is purchased there or not. That’s the convenience factor.
There’s a Target store right down the street for me, so if my kids or I need something straight away, that’s the default choice. However, if anything can wait two days, we just order it through Amazon.com Inc. (NASDAQ:AMZN) and its Prime service.
And a Target store will always be preferable over Wal-Mart Stores, Inc. (NYSE:WMT), because the size and general state of the local store dissuades visits.
However, in order to compete on price with WMT and AMZN, and immediately after the latter’s Whole Foods purchase, Target announced price cuts on thousands of products. The result will undoubtedly be lower margins. TGT stock is already suffering there, as operating margins got destroyed in the second quarter, falling to 6.8% from 7.7% on the back of multiple quarters of same-store sales declines.
Even worse, analysts had been expecting TGT stock to deliver $5 per share in diluted earnings per share this year. Management has since warned EPS will be closer to $4.45.
The idea is that the lower prices will drive volume… time will tell.
Higher Wages
Target has announced it will raise its minimum wage to $11 per hour, up from $10, and head towards $15/hour by 2020. There are some mixed benefits and downsides to this increase. The lower the minimum wage, the more turnover is likely to occur, which can reduce productivity, as new workers must be constantly retrained.
A higher minimum wage can also attract slightly more dedicated workers. The hourly workforce will switch jobs for even a small increase in pay.
However, it seems unlikely that Target’s move was due to a tightening labor market, given that the labor force participation rate remains near a 40-year low. Hence, a 10% wage increase will impact margins even further — and that’s not good for TGT stock.
Capex
Back in March, Target said it would spend $7 billion to remodel and revamp its stores. When the move was announced, TGT stock fell 12%.
As it should have.
While hardly a scientific sampling, I’ve been to Target stores all over the country and they have all shown remarkable consistency — bright interiors, clean aisles, neatly stocked shelves. I don’t personally see the purpose here — and I certainly don’t see the value.
All retail stores should stay ahead of the curve, but there’s no curve that I can see with Target’s experience. You know things are bad when stores turn into dumpsters, which was what was happening with Sears Holdings Corporation (NASDAQ:SHLD).
Target did say the move would cost a billion dollars in operating profit. But with a chain that has shown $1.62 billion in operating losses in the trailing twelve months, this seems like a dumb course of action.
Final Word on TGT Stock
TGT stock is way overvalued at present.
Given the items detailed above, I would sell and move on.
As of this writing, Lawrence Meyers has no positions in any securities mentioned.
