Last week, our very own Tom Taulli took a deeper, critical look at last quarter’s earnings report from Target Corporation (NYSE:TGT), concluding “… as for a growth story, there is little evidence here. Again, the CEO seems to be operating the company from an old playbook. In other words, do not expect many catalysts to get TGT stock back into gear.”
In other words, though the struggling retailer managed to top its third quarter earnings and revenue estimates, there’s just not a lot of hope being dished out here. The 10% pullback TGT stock recorded the day after those earnings were reported, confirms the market’s doubts.
There’s an overarching, more philosophical reason Target is struggling to remain relevant in its competition with rivals like Amazon.com, Inc. (NASDAQ:AMZN) and Wal-Mart Stores Inc (NYSE:WMT), though. Sooner or later, most competitions turn into a two-horse race.
There Is No ‘Third Fiddle’
The short version of a long story: While its Q3 numbers were “good” compared to expectations, as Taulli also noted, the earnings outlook for Q4 was less than thrilling. The fourth quarter outlook essentially confirms what the third quarter results pointed to, which, as Stifel’s analysts put it, “… indicates the company needs to spend more than anticipated to achieve similar comp sales growth, with management citing pressure on gross margin and SG&A [sales, general and administrative] expenses.”
Most analysts and investors agree that, between Amazon’s dominance of the e-commerce market and Wal-Mart’s stepped up efforts to slow Amazon down, Target is fighting an uphill battle.
To that end, current and would-be TGT stock owners shouldn’t be terribly surprised things are unraveling in slow motion. In the end, most business competitions turn into a contest between two key players, while the lower-tier combatants battle for scraps.
Case in point? The Coca-Cola Co (NYSE:KO) and PepsiCo, Inc. (NYSE:PEP) battle. The two beverage giants own about two-thirds of the non-alcoholic drinks market between them, with the next-nearest, Dr Pepper Snapple Group Inc. (NYSE:DPS), only controlling about 5% of the beverage market.
That’s a wide disparity, though it’s not disparity limited to beverages. The wireless telecom market is dominated by Verizon Communications Inc. (NYSE:VZ) and AT&T Inc. (NYSE:T). Taking the No. 3 spot is T-Mobile US Inc (NASDAQ:TMUS), but it boasts only a little more than half the customer base that AT&T has on board.
Certainly there are exceptions to this norm, though not many. And, as time passes, there are fewer and fewer exceptions, as competition is either eliminated or acquired. Two tend to survive rather than just one, as there is always an opportunity to beat a market leader. It takes a great deal of effort, savvy and money — not to mention size — to do so, however, which is often what a remaining No. 3 player lacks.
It’s certainly what Target lacks at this point.
To its credit, Target is showing growth on the one front where it needs to step up its game — online. Last quarter, its e-commerce sales were up 24% year-over-year, marking the strongest e-commerce Q3 growth for the retailer in years. Its fourth-quarter e-commerce revenue growth has also shown nice growth and should push into the mid-30% range for 2017. The bar is set pretty low though.
For example, Wal-Mart posted a 50% improvement in its online sales last quarter, and its e-commerce revenue was already a much bigger piece of the total revenue pie than Target’s. Meanwhile, of course, Amazon.com continues to run roughshod over any entity that isn’t Wal-Mart.
The difference here is simply that Wal-Mart has the money, name and clout to secure e-commerce growth that Target just can’t. The same is more or less true of its brick-and-mortar presence. It’s just hard for a third-tier player to catch up with two behemoths doing battle with one another. Between the two efforts, consumers can usually find something they like about one or the other, often forgetting about the third option.
That’s why Target is all too often left out of the discussion of which name owns retail… it’s not even close to being Target.
Bottom Line for TGT Stock
Don’t misread the message. Target is not going to be defunct in the foreseeable future, and TGT stock isn’t en route to zero. It’s a well-run company that, in many cases, meets a consumer need that neither Amazon nor Wal-Mart can, for whatever reason.
To the extent that Target has to compete with Wal-Mart and Amazon.com, though, the task is simply too big to overcome. That’s why margins have been slowly, but surely, whittled down. As Morningstar analyst John Brick, CFA, plainly said of TGT’s last quarter’s results: “We continue to think Target is stuck between larger wide-moat rivals Wal-Mart and Amazon, which will constrain profitability. We do not plan to make any material changes to our long-term assumptions (around 1% in average sales growth annually the next 10 years, with operating margins reaching 6.6% in 2026 versus 7.1% in 2016).”
In other words, TGT stock is tough to justify owning here until it distinctively differentiates itself from its two chief rivals — and proves that differentiation boosts the top and bottom lines.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities. You can follow him on Twitter.