Target (TGT) is about to undergo a major transformation, and that could mean some of its partners win big while others lose big.
On Tuesday, the retailer announced thousands of job cuts, mostly weighted toward its Minneapolis-based headquarters. Operations will be streamlined. Total savings over the next two years: a whopping $2 billion for an organization that many on the Street didn't realize had become so bloated. Investments will be made in online infrastructure. Big data will be leveraged to a stronger degree. But, above all else, the physical stores that are beacons to more affluent passersby will get reinvented. And it's those reinventions that could have major impacts on food companies, from Coca-Cola (KO) to Kellogg (K) to electronics suppliers Apple (AAPL) and Samsung.
I think the best way to get a handle on the ramifications of Target's new plans is to decode the company's comments.
"Style, Baby, Kids and Wellness are being prioritized and will be the merchandise categories Target is famous for (Part One) -- the company will invest in these areas with a focus on newness and differentiation. In 2014, these four categories accounted for more than a quarter of Target's sales. Other categories, including Grocery, are being repositioned to deliver a more compelling and appealing shopping experience (Part Two)."
- Part One: Watch out Kohl's (KSS) and J.C. Penney (JCP), Target will be back in the game of selling cheap chic exclusive apparel that causes a social media frenzy. I think the upcoming launch of Lilly Pulitzer at Target will offer a powerful early reminder of what Target meant to affordable apparel, and how consumers are willing to give it another shot if the assortments are on trend. If same-store sales in women's apparel at Kohl's and J.C. Penney, both with huge private label businesses, soften post Lilly Pulitzer, Target will have re-cemented its position ahead of the all-important holiday season. That said, if Target is going to invest in merchandising and marketing these departments to the best of its ability, realistically the company will have to announce more store closures. The fact is, at least from parsing Target's comments, that the store base does not have to be as big, and stores that huge, if four parts of the store are being emphasized.
- Part Two: Target's presentation in fresh food has been abysmal since it launched several years back. The fixtures are too small in size, and the range of goods offered is embarrassing given Target's reach into the national food supply chain. Also, the company's selection in prepared foods, a hot profitable category at grocery stores, is basically nonexistent. I think Target's new approach to grocery has multiple knock-on effects. First, processed foods from cereal to soda will be pruned, which is a detriment to cereal companies and soda makers. Tyson (TSN) and other publicly traded meat producers could be winners as Target expands its fresh and prepared food offerings. Even Hain Celestial (HAIN), with its range of "better for you" drinks, will see a tailwind. Obviously, any improvement in packaged food and fresh food by Target will be a negative to Kroger (KR) and Wal-Mart (WMT) (I do like how Wal-Mart has expanded its food assortment inside its stores, Target has catching up to do) and to a lesser extent Whole Foods (WFM), which simply is in its own realm.
"Target will create a more guest-centric experience by tailoring its assortment and offering more locally relevant products, with demographics, climate, location and other guest-led factors driving merchandising decisions. Additionally, Target will strengthen its data and analytics and technology capabilities to deliver more personalized digital experiences, loyalty programs and promotional offers."
- Takeaway: Macy's (M) has pioneered in the retail sector by being able to localize its inventory. Doing so has led to a healthier inventory investment and better cash flow dynamics. I think you will see the same happen over time at Target as a result of its more refined approach to planning. That is ultimately margin and earnings favorable -- one, because it reduces the possibility of markdowns, and two, as a result of it requiring less movement of inventory, which comes with employee costs among other outlays.
"Cost savings of $2 billion over the next two years will fuel Target's growth and drive profitability. These savings will be realized through operations, technology and process improvements; supply chain and sourcing efficiencies; and corporate restructuring. The restructuring will be concentrated at Target's headquarters locations and focus on driving leaner, more efficient capabilities, removing complexity and allowing the organization to move with greater speed and agility. This includes the establishment of centralized teams based on specialized expertise and the elimination of several thousand positions over the next two years. This year, Target expects to invest between $2 and $2.2 billion in capital expenditures, including a $1 billion investment in technology and supply chain."
Takeaway: It has been my experience covering retail that when companies announce these types of huge cost cut programs the following occurs: (1) the Street underestimates the profit impacts for at least two quarters, then rushes to raise estimates; (2) companies do in fact deliver the cost savings, usually ahead of schedule -- hey, these plans are very well thought out and their existence puts the heat on management to deliver; and (3) the programs set the foundation for the future of the business by freeing up money to invest in key initiatives today (a great example would be Best Buy (BBY), which has trimmed out $1.02 billion in costs since 2012 and, essentially, has transformed its supply chain and store sales floor).
I remain optimistic on Target's shares. Watch for analysts to ignore management's so-so earnings per share guidance offered on Tuesday and ramp up their estimates to above the top-end of the range. And, barring an economic slowdown, Target could deliver the goods.
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