Can Target Turn Things Around?

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Target has really accomplished a lot in recent years, but something today feels like it's lacking. And so the real question here is, can they get back on track?

Welcome to the Barron's Streetwise Podcast. I'm Jack Howe, and the voice you just heard, that is Seth Sigmund. He's an analyst at Barclays, and he's talking about Target and whether it's fixable. The stock has stunk for some time. In a moment, we'll hear from Seth. We'll also hear from my colleague Sabrina Escobar at Barron's, who recently wrote a cover story on that subject. First, we're going to say a few, and I mean few, words about another Barron's cover story, our Top CEOs issue.

I'm going to set a timer to see how quickly you could get through this. I believe in you.

I appreciate that vote of confidence. How long is on this timer?

Actually, maybe I should do a stopwatch.

Are you seeing how long, or are you—

you've got a number in mind? Give me a number.

I don't want to block you in, but I think if you could do under 5, we'll be in a good place.

Oh, I could do under 5.

Come on.

I was thinking 3.

Okay, let's go. It started. We're losing time.

Okay. Each year Barron's publishes a top CEOs list. This is not a stock picking exercise. Sometimes we end up with companies with bloated valuations. That's okay. But last year's list did beat the market by about a percentage point. The list before that beat by 13 points. So sometimes these companies outperformed. It just depends on the industry exposure, really. This is also not a search for the best companies. Some of these are world-beating companies and some are not. What we want are cases where a CEO has done something recently to put the company in a meaningfully better position. And we start with a screening process looking at past stock performance and operating performance, and then we have a committee and nominations and discussions and so forth. And then we publish the list and then people email me and say, You're an idiot because you left this person off. Or some people say you're an idiot because you put this person on. Okay.

And then some people say, hey, I enjoyed the list. Thanks. You did a good job.

You get some of those too. That's how it goes in this business. Look, I'm not going to run you through the ones that, you know, are going to be on there, right? The NVIDIAS, the Microsofts. I'll just tell you about a handful of ones that might be surprising picks or might be, you might disagree with. It might be controversial. Maybe in industries that haven't been flourishing. I'll start with Kevin Hochman at Brinker International. Brinker, if you're not familiar, is the owner of Chili's. This is a casual dining chain, and Chili's is killing it if you haven't heard. They're beating everyone on traffic and same-store sales growth and so forth. And how do they do that? The Wall Street Journal actually had a nice in-depth report on this in an interview with the CEO. Basically, he streamlined the kitchen process and shrunk the menu, you know, went from curly fries and straight fries to just straight fries, but they're serving them hotter and they're more evenly seasoned. That's, you know, one example. And there are a million details that go into how you do that. But you start there with kitchen efficiency. They benefited from some viral marketing. Alexis, do you know about the cheese pull? Are you— Yes. I mean, I think kids on TikTok— I don't know if it's kids. I don't really know the age of these people, but some people are stretching fried mozzarella on TikTok. To see how far it goes. And apparently the ones at Chili's go quite far. And the upshot is that I have a teenage daughter and she came and asked, hey, Dad, can we go to Chili's? And I was like, what? It's like, what in the TGI Fridays are you talking about? How do you even know that name? But she saw it on videos on the internet and wanted to try the cheese pull. I, as it turns out, had read about Chili's in terms of the improved stock performance and operating performance and what they've done. And one thing they've done is they've responded to customer outrage about fast food receipts and how high the prices have gotten at the drive-thru at McDonald's, for example. So they've come up with these value combo meals. They start at $11 and you get a lot of food for that money, including a big beefier burger. And they've come out with new burgers that match the flavor profiles of some of these other ones, like the Big QP, I think they call it. It's sort of like tastes maybe not too far from a Quarter Pounder at McDonald's, or one called the Big Smasher, which is kind of like a smash burger like you might find at, I guess, Shake Shack, but it's got Russian dressing like you might find on a Big Mac. So whatever you're liking at the drive-thru at other places, you can get that and get a combo meal on it in a sit-down meal at Chili's. And that's been a huge seller. How much time do I have left, Alexis?

I feel like I went too long on Chili's.

I feel like you're done. You spent about 3 minutes on Chili's, a minute and a half on the cheese bowl.

You want Give me 45 more seconds to get to like 2 more.

Jacek Olszak at Philip Morris International. This is a company of course best known for selling cigarettes, including Marlboros, but what has turned the stock around is everything but cigarettes. We've talked before about the IQOS heated tobacco device. Did you know that that now sells more around the world than Marlboro? There's also the Zyn nicotine pouches. Those don't even have tobacco. That via the acquisition of Swedish Match some years ago. That's a big growth engine here in the US. And what has happened is Philip Morris has reached such scale in these non-cigarette businesses that the margins there are actually now better than they are on cigarettes. So the more people Philip Morris and its CEO can convince to quit smoking, so long as they're using Philip Morris alternatives, the more money the company makes. Maybe you like that, maybe you don't, but it's been great for the stock. And finally, I'll do one more food-ish one, and it's Casey's General Stores. These are— you don't call them gas stations, folks. Yeah, you can gas up your car there and you've got a convenience store. Really, it's about how much sales the company is driving through those stores. I was shocked to learn that Casey's is actually the 5th largest pizza chain in the U.S. This is an Iowa-based company. They had a recent promotion celebrating 40 years of handmade pies with 40-cent slices. I have not yet had the delight of a Casey's slice. Alexis, have you had a Casey's slice? I have not.

I haven't.

You haven't?

I'm just looking at their menu. They have barbecue brisket sliders with the King's Hawaiian rolls.

What are you saying? We're booking a flight to Des Moines. It's probably got some Casey's out there.

Let's go.

All right. Well, Casey's is selling a ton of food and the stock's doing very well. Those are a few of the names. You can read about all of them in the latest issue of Barron's. By the way, one CEO who returned to the list, he's been on many times before, is Warren Buffett at Berkshire Hathaway. He has announced his retirement. He will step down at the end of this year. One of the reasons he's back on the list is that his shares have beaten the market solidly over the past 1, 3, and 5 years. It's a good way to go out. They've beaten narrowly over the past 10 years and preposterously since he started out 60 years ago, they've returned more than 5 million percent.

5 million percent.

5 million. I could use a 5 million percent return right now. And that's top CEOs. Let's turn to Target. Alexis, if I say Target lady, does that name mean anything to you? Do you know who Target lady is?

Yes. Kristen Wiig, SNL. Very strong bob.

Bob, like what?

Head bob, or is that a—

Like her haircut.

Oh, hairstyle. Yeah. I don't know. They call that a bob, right?

A bob.

And there's the voice. I don't know where the accent is from, but she gets excited about Target. The Target lady character debuted in December 2005. I don't know how you describe her. She's scanning items at the counter and she always just gets overjoyed about the items she sees. And in the first episode, she sees a garland or a garland and she has to have one.

What is this, a seashell garland? Yeah, it's 99 cents.

I don't know how Target workers feel about the Target sketch. I mean, maybe it's not the most favorable light, but on the other hand, it portrays the enthusiasm people had at a certain time for the company and for the shopping experience there. That's what I think is noteworthy. So maybe this is an arbitrary date, the Target lady debut, but if you were a shareholder on the day that that episode aired and you had held the stock for 30 years, Target has traded for that long and longer, you had made 19,000%. 19,000%. This is really one of the great growth stocks of all time. If you don't know about where Target comes from, uh, Alexis, you got my old-timey aside music?

Oh yes, right here.

Ebenezer Wigglesworth Target. That's not a real person. There was a, there was a New York businessman named George Draper Dayton, and he was living in Minnesota, and he founded a massive department store called the Dayton Dry Goods Company. That was 1902. It was what you might call a big box store, and it was located in Minneapolis and outside of the main business district. And of course, it did very well. Dayton's expanded in the 1950s, it went into discount retail in the '60s, and the name Target and the bullseye logo That's just something that marketers came up with. The company went public in 1967. If you held the stock to 2005, you were thrilled. You've made skajillions of dollars. Now, if you've held the stock in the post-Target lady era, it sort of depends. Target stock ran even with the market after that for years, then it fell behind the market, then it went way ahead of the market through the middle of 2001. Just several years ago, you were loving it. But since then, the stock has fallen way behind. And all told, if you've held shares since the Target lady debut, you've made 186%, which sounds nice, but you could have made 604% in the S&P 500. And the worst of that period, of course, is anything recent. If you've held the stock for, let's say, 3 years, you're down 29% on Target. You could have been up 63% on the S&P 500. So investors are losing patience. They want to know what's going wrong and how do we get it fixed. And that's about all you need to hear from me. I spoke recently with my colleague Sabrina Escobar, who did a cover story for Barron's on this subject. Let's hear part of that conversation now. I read with great interest your story on Target, and I learned a bunch. For the benefit of someone who doesn't really know or think about the difference between Target and anyone else, give me the lay of the land. What is it that has historically Target different from the types of stores that are adjacent to it? And also, what is the magic formula that had the stock doing so well for so long?

You know, you mentioned the word historically, and I think that's important in this context because historically you thought of Target as a higher-end retailer. You know, it is still big box. It is still within the realm of, I don't wanna say discount, but you could go and you could get a really good price for something that felt a little bit special. The stores were really aesthetically pleasing. You know, you would grab a Starbucks when you walked in and then you browse the aisles. For many people, it was almost like an escape. You know, it was their break. And that was an experience that really differentiated it from the rest of retailers. You go to Target, you walk in trying to buy, I don't know, milk, and you walk out spending $200 on random things like beauty or home decor. And it really did attract a lot of these higher-income consumers. In the past kind of 3, 4 years, Target has lost a bit of that sparkle, of that enthusiasm, of kind of the thing that made it Target as opposed to just Target. And they're trying to get it back. And trying is the key word here.

Are these things that you think that Target did wrong or that competitors did right, or a combination, or have customer tastes just shifted? What's going on?

There's a lot going on. You know, I think it's a combination of one, the macro, right? I think you can't really discount the fact that a lot of Target's problems started in 2022 when you did have a lot of supply chain issues that all retailers were struggling with. But Target did a particularly troubling kind of issue with inventory management and then inflation, because when prices are so high, people are looking for that cheaper price that perhaps Walmart or Amazon can offer that Target wasn't really offering. So the macro didn't help. And then the company has had a lot of missteps, I think, in terms of managing that macro and trying to differentiate itself from competitors. I don't know if you've been into a New York City Target, but a lot of things are behind, you know, theft devices and, and it's tough.

I've definitely noticed that more if I go in for one thing from like a Walmart. You get these ordinary items that they're locked behind these plastic cabinets and it's super annoying. And I guess if you're going into Walmart and you're just trying to get the lowest possible price, maybe you put up with it. But if you're going into Target and you're looking for what you're talking about, this greater shopping experience, I could see how that would be annoying.

That's exactly it. Because you're right, that trend is pretty broad across many retailers. But with Target, it is about the experience. And the other thing is a lot of Target's purchases are tied to that impulse buy, right? And if you have to wait for somebody to unlock it, then the impulse is gone. You're like, wait a second, actually, I don't need to buy this.

I also feel like maybe I wouldn't want to have a whole discussion with the store staff, like, uh, Hey, we got a guy over here wants to buy Underarm deodorant from behind the locked case. He must be a stinker who needs some deodorant over here. Bring the keys. I mean, I don't want a whole scene.

Yes. And the other thing with the experience at Target is that they're, I don't know, struggling to adapt to the e-commerce of it all. A Walmart and Amazon, they have massive distribution centers and of course they have a much bigger scale. These are huge retailers and you know, Target does a fraction of their sales, but it's really hard for Target to compete with the scale of Walmart and Amazon in e-commerce. And the way that they've built their e-commerce model, some analysts say, will make it really hard for the company to continue scaling and continue to compete. And it also is having some repercussions on the in-store experience.

That's interesting to me. When I read your story, you might have even described it as a catch-22, like Target has to go down this road of investing more in e-commerce. It has to, but it's enormously expensive and the others are so far ahead and how can it possibly catch up? And by the way, the others that have done this job already for years, Walmart and Amazon and, and all these, they took a hit to their margins while they were spending all this money and now they're starting to bear the fruit of all those investments, whereas Target is maybe at beginning, at the precipice of having to go through this period where it's going to hurt profit margins. And investors are, you know, they want it both ways. They want Target to catch up on e-commerce, but they don't want anything that's going to cause a further hit to margins. Does that describe the situation?

Pretty much. And like you mentioned, so these other big guys, the way that they built up their e-commerce was, like I said, they have really big distribution centers. A lot of it is automated now. Target, the way that it handles its e-commerce, most online orders are fulfilled in stores, right? So that means that store associates are kind of running around the store trying to fulfill these online orders. And there are pros to Target's approach. It's capital light. It didn't take such a big hit to margins when it did expand, and it has helped. Like, I think about 20% of Target sales are e-commerce, and Walmart's, for instance, are a bit below that. So they have been able to grow their overall market share in e-commerce. But like I said, this analyst I spoke to was like, I don't know what the future structural gains of this are. There's no quick fix to, to kind of make this grow and improve it because what do see is that as store associates are trying to fulfill these online orders, they're getting pulled in 5,000 different directions. The store experience, like I said, takes a hit. You know, now shelves aren't stocked because there was no time to restock them. Walmart and Amazon both use in-store fulfillment like Target does in things like grocery, but it's not their entire business model when it comes to e-commerce. And Target has gone all in on the in-store fulfillment, so they might have to diversify. But like you said, it's expensive.

Thank you, Sabrina. Let's take a quick break. When we come back, we'll hear more about Target from Barclays analyst Seth Sigmund.

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Welcome back to our discussion of Target, as the Target lady called it. What is, uh, Alexis, what's the new Target in terms of— doesn't have to be a department store or clothing, but one where the workers there are super excited to be there and their enthusiasm carries through when you, when you're checking out at at the store?

Well, I don't know if, if the workers are excited to be there, but the consumers definitely are. I feel like the answer is Trader Joe's.

There is a good amount of flow of Trader Joe's goods into my household, so I think you must be right about that. That one's a privately held company. They curate everything for you, and so people go there to have a simplified shopping experience. But I suspect that a main reason people go there is because when they're buying their bananas or their healthy items, whatever they're getting, There's just so much candy there, right? I mean, the store, the store is like half candy, right?

Half dessert. Correct.

They have everything chocolate covered.

And the items that flew into your household are all dessert.

It's Trader Sweet Tooth.

Okay.

Okay. So we heard from Sabrina at Barron's about Target. A few weeks after her story ran, Seth Sigmund, a Barclays analyst, published a report on Target that caught my eye. And that report was titled, Alexis, Slipping away.

Is this fixable?

Right. Just what we need to know. Is this fixable? So I reached out to Seth to hear more about that. Let's listen to part of that conversation.

Target has really accomplished a lot in recent years, but something today feels like it's lacking. And so the real question here is, can they get back on track? If we go back, there was definitely a tough spot here in 2016, 2017. Stock was around $50. There was a lot of negativity back then. You had a lot of online disruption, but they made some changes and they made some really tough decisions and it was not favorable at the time. Stock went down on that, but they emerged from that period and did quite well in 2018, 2019. They capitalized on the investments that they were making. They capitalized on a lot of other competitors that were struggling at the time, and the stock ended 2019 around $130. If you look at 2020, 2021, that outperformance accelerated. Stock doubled during that time period, during the pandemic to over $260, and they were really one of the biggest beneficiaries during that period. The concern today is that it's slipping away again. Stock is just under $100. It kind of feels like this is one of the few companies that did well during the pandemic that may not be better positioned post-pandemic, and the valuation here today at 13 times earnings, it's now towards the lower end of the retail sector. And the market is saying something, right? That something is wrong, something's not going well here. So we and investors are trying to figure out and piece it all together. What's been changing and why has that performance lagged?

So is this something that Target is doing wrong in your opinion, or is this a way that the market has just changed unfavorably for Target? Is it a mix of the two?

Look, at the core here, the issue is sales., right? It's the sales underperformance versus other companies. So, you know, this past quarter their same store sales were down 4% when the dollar stores were positive. Walmart was up mid-single digits. The warehouse clubs are growing in the mid to high single digits. More recently, it looks like it's been a traffic issue. Over time, it's been a spend per customer issue as well. And it's kind of hard to know, is that consumer just not spending as much or are they going to other stores? Right? But in general, it is a sales issue and the profitability will follow that over time. I think that's part of it. I also feel like there is a perception that there are cheaper prices elsewhere, whether that's Walmart or the dollar stores. I don't think it's coincidental that the dollar stores just had one of their best quarters in years.

Target sells a higher mix of discretionary items, stuff that you might want, but you don't need. Whereas Walmart sells a higher mix of needs. So if you have to, you know, tighten the budget a little bit, you, you might be less inclined to buy those items at Target. Is that correct? And does that play into this?

Yeah, I think that's right. So those discretionary categories are around 50% of Target's business, and they've done a good job of expanding more into consumable categories over time. Grocery, household products, beauty. Those have been great success stories for this company, but at the end of the day, their business is still heavily driven by discretionary. And that is still one of the main reasons why the consumer goes to these stores. Now they get the benefit when the consumer's in there, but they gotta get 'em in the store.

One thing you point out in your report, and I, I hadn't thought about this, that there was a period where we had a lot of retail bankruptcies. And so maybe around 2018, 2019, some of these stores would close and Target would pick up some of the traffic. And I guess we're not seeing as many of those bankruptcies now. Is that right?

If you go back to this window prior to the pandemic, it was a time when online was growing significantly. Amazon was starting to really disrupt a lot of retail categories, and so it led to a lot of different retail bankruptcies during that time period. Clothing stores, department stores, and Target was a better, more modern version of that channel. And so they were a winner during that time period. They were also a great alternative when there were some big specialty players like Toys R Us that closed. Target was the destination and it was an obvious one for consumers. There have been fewer competitor store closings to date, but even with those that have closed, it's unclear whether Target is taking as much as they did in the past. So you had Party City go away. That was $2 billion of business. That seems like it's right in their wheelhouse. You had arts and crafts companies like Joann struggle and The Container Store closed. And those are all businesses that should be central to the core customer for Target. So those are a few billion dollars up for grabs. And so we continue to monitor some of the things that Target may be doing with their assortment and the store experience to try to capitalize on these opportunities.

Let me ask you a couple of specific things that I've heard, and you can tell me whether they're having a big impact or not. I have not followed this carefully, so I don't know every detail about this, but there was a backlash about Target and its stance on DEI issues. And, you know, folks on both sides have come to take issue with the company because it had a stance in it, then it moved the other way and so forth. So I always wonder when I hear about this, is it affecting business? What do you see? Has that had an impact or is it difficult to say?

This topic comes up a lot and it's a very visible issue, right? Because you can see a lot of this on social media. I think it could be one of the issues. I'm not sure it's the main issue, but earlier this year, like a lot of other companies, Target scaled back certain diversity, equity, and inclusion programs, and it did seem to have an adverse impact on sales in the first quarter. The company mentioned it on the conference call, but they didn't actually quantify it. Look, you just look at Google Trends for Target boycotts. It shows a pretty big spike this year, actually similar to what you saw in 2023., and then it comes down. It did seem to get more impacted than other companies. And I, I wonder if part of that is Target actually talks about being a very emotional brand. The question is if there has been an impact, we certainly saw it in Q1. Does it linger ahead or can they get that customer back?

Has Target fallen like hopelessly behind Amazon and Walmart in terms of the scale of their investments in, you know, online order fulfillment and logistics and so forth, or Does it maybe not have to be at the same level as them?

What do you think? I'm not sure it's a level of investment issue. Look, there's always competition, but a lot has changed in the last couple of years. Amazon is just much faster today with same day and next day. And yes, Target can compete against that because they have stores that are convenient in local markets. But look, Target did a lot better when those Amazon shipping times were much longer. And that's changed a lot over the last 2 years. Walmart is always gonna be the lowest price, but they can also now offer faster delivery as well. Their same-day option is really gaining traction and they're delivering to a much wider radius. And so they're sort of breaking down that proximity issue they may have had in the past. They're also investing a lot in their own assortment. If you knew Walmart historically as just the place to get low prices, increasingly consumers are finding a better assortment. Brands that they didn't see there in the past, and they've added hundreds of millions of SKUs to their assortment online. And so you've seen both of these companies evolve. It's not to say that Target can't compete as well, but they have to figure out where do they fit within that. At the end of the day, their business historically has been really driven by product, having product that's trendy and fashionable and at a good price. That's really where they've been able to differentiate historically.

But now for the question. Shareholders are waiting for, and I will read it right from the top of your report. Is this fixable? And I'll point out that you have an equal weight rating, a neutral type of rating on the stock, and that you've lowered your earnings estimates recently, if I have that right. But what do you think based on your sort of deep look at the company here? Is it fixable? And is there any low-hanging fruit? Is there anything that can be done in short order to get shares going again?

I would say that retail investors always love a good turnaround. Okay. Just within this space, Dollar General and Five Below last year, those stocks had rerated significantly on some challenges that they were facing last year. And look at how they've rallied this year, right? They were trading at the low end of retail. We were concerned about the future of those businesses. They really cracked and they've recovered since then. And so there's an opportunity here. We have an equal weight on the stock. We are concerned. About the current direction of the business and a lot of the, the issues that we talked about. At this level, we do think it is pricing in a lot of negativity already. There's optionality for change as we've seen before, and we balance that in that equal weighting. We in general see a very wide range of scenarios for this company. We do see a scenario where there's still downside from here. Multiple can still go lower. There's still risk to earnings if they can't get sales back to positive. If it's as simple as some of the basic merchandising fixes we talked about earlier, the macro getting better, you could see a return to positive comps and there could be meaningful upside to the earnings in that situation.

Yeah, you write here one of the widest range of scenarios in our groups. So if you're buying the stock here and Target gets it right, you could do very well in the stock or you could do quite poorly if things continue to slip away for the company. It's, it's hard to know. I guess that's a high risk, high reward is how you might characterize that stock.

Is that right?

Yeah, that's right. By the way, just so I know, Under your coverage, you have a name or two that stand out that you've written about that are your favorite names under your coverage right now?

I mean, the name we've highlighted is Walmart, right? Walmart's gaining significant share in grocery. They're going to be better positioned to manage through the tariff environment that we're in. They're increasing their share within discretionary categories. They've always been big in those categories, but something is changing in terms of the momentum that they may have there. Leveraging the marketplace as well. And then there's growth in their alternative businesses. It's really changing the shape of their P&L and it's giving them an ability to invest back in the business in a way that most other companies can't.

P&L meaning profit and loss, meaning they're making good money on advertising and marketing and doing these other things.

That's exactly right. It's helping the profitability of this business and it gives them an opportunity to invest back in the business. But what shareholders like is they're also giving you better earnings growth than they've done historically.

Thank you, Seth. And I want to thank Sabrina, Target Lady, and Ebenezer Wigglesworth Target. You've left a legacy that, how shall I say, Alexis, he got his Wigglesworth, that's for sure. If you have a question that you'd like to hear played and answered on the podcast, you can send it in. It might be on a future episode. Just use the voice memo app and send it to jack.hough@barons.com. Thanks for listening. Alexis Moore is our producer. You can subscribe to the podcast at Apple Podcasts, Spotify, or wherever you listen to podcasts. If you listen on Apple, you could write a review. See you next week.

Data is everywhere, but is it ready for consumption? Morningstar developed the language of global investment data so you have the right ingredients to help you shine. Morningstar, where data speaks.