Target (TGT) Reports Big EPS Miss As Costs Spiral Higher; Investors Ignored Warning Signs From WMT

3:45 pm Wednesday, May 18th, 2022

Shares of Target (TGT) are under heavy pressure today after the company reported Q1 (Apr) results this morning. Peer Walmart’s (WMT) report of a rare EPS miss yesterday, which prompted that stock to fall by 11%, made us apprehensive about TGT’s results, as we expressed in our preview for TGT’s earnings. We were surprised that TGT was trading lower by just 2% even though the problems that had beset WMT sounded primarily industry-based, with some company-specific issues sprinkled in.

Investors may have gotten lulled to sleep a bit by Target’s consistent outperformance of WMT on comps and results generally. Also, Target does not sell gasoline, while WMT, which is exposed to the space, blamed gasoline for part of its miss. Investors may have deemed that a sufficient point of differentiation between the two. However, our concerns came to fruition when TGT’s results were revealed, and TGT is now down sharply today.

Just like WMT, TGT reported a big EPS miss — indeed, an even larger miss. Target cited unexpectedly high costs. Operating margin was well below internal expectations and well below the company’s margin of 9.8% from a year ago. TGT had warned investors that margins would be weak in Q1, but the final outcome was nevertheless worse than expected. Margin pressure appears likely to persist in Q2 (Jul); TGT guiding to “a wide range centered around [Q1’s] operating margin rate of 5.3[%].”

Mr. Cornell went on to say that last year, people were buying TVs for their home, but now they are shifting to luggage; that category was up 50%. Toys are up because birthday parties are back in play. The point he was making is that the consumer is still spending, which supports comps, but how they are spending is changing. A nugget of good news is that May is reportedly off to a strong start; Mother’s Day was busy.

Overall, Q1 was a wake-up call for investors. Target tends to outperform WMT on comps, and its lack of gasoline exposure probably helped in Q1. However, the kinds of higher costs WMT was discussing yesterday were a red flag for TGT. We think investors will increasingly correlate the two companies in the coming quarters. The other takeaway here is that the consumer is spending, but spending dollars are shifting away from home goods and toward travel. We have concerns for upcoming results from home-focused retailers this cycle; we would stay away.