Target: A Well-Managed Retail Business (NYSE:TGT) (2024)

Company Description and Investment Thesis

Target Corporation (NYSE:TGT) is a general merchandise retailer that operates physical stores and an online platform. The company´s business model is based on offering a wide range of products, including beauty and household essentials, food & beverage, home furnishings & decor, hardlines, and apparel & accessories, at competitive prices. Target is one of the biggest companies in its space generating revenues of $106 billion, a total store count of 1.926 and 48 distribution centers at the end of FYE 2022.

Target has been quite strategical when it comes to its own brands and has leveraged its position to introduce numerous brands to its customers. Interestingly, during FYE 2022, the company for the first time in history recorded over $1 billion in revenues from 11 of its owned brands. Further to this, Target generated $30 billion in revenues from its owned and exclusive brands.

Target is an attractive company that offers stable returns through dividends and share buybacks. The company currently holds a market valuation of $80 billion, with the market providing a dividend yield of approx. 2.5%. It should be mentioned here that the company is able to generate substantial free cash flows averaging $5.7 billion during the previous three years, which give it the firepower to increase dividends, pursue acquisitions, or put in place an aggressive share buyback program. Saying this, I believe Target is well-priced at current levels, and it would be my advice to hold and wait for a more attractive entry point where investors could optimize returns.

Financial Highlights

During FYE 2022, Target generated revenues of $106 billion through 5 merchandise segments consisting of beauty and household essentials, food & beverage, home furnishings & decor, hardlines, and apparel & accessories. The company´s generated $30 billion of sales from its own brands with eleven of its owned brands recording over $1 billion in revenues. Target had an exceptional year during FYE 2022, recording profits of $6.9 billion and a free cash flow of $5.1 billion. This allowed the company to return value to shareholders to the tune of $8.9 billion during the year.

Moving to the trailing twelve months, revenues stands at $108.7 billion, net income at $3.5 billion and cash flow from operations at $3.6 billion. Despite these numbers, Target has seen cash outflows of about $5 billion compared to FYE 2022. This performance indicates a deterioration in financial performance, here there are a few items to highlights which are hindering the company's performance.

There are four items to highlight, the first one is cost of goods sold which saw a significant increase compared to the previous period. This surge in costs impacted the company's margins all across the income statement. The increase in costs was driven by merchandise and supply chain pressures. The next item to highlights is the changes in working capital, which significantly impacted the company´s operating cash flow. This was driven by increased inventory levels and lower accounts payables which forced the company to use more capital to operate the business. Furthermore, capital expenditures have increased substantially during the TTM. This increase is due to store remodeling activities as well as investments in the company's supply chain. Finally, despite having significant cash outflows during the period, management continued returning value to shareholders through share buybacks and dividends. These outflows were covered with the cash and cash equivalents in the company's balance sheet. The combined results these pressures had a significant impact on the company's balance sheet, where we can see that cash and cash equivalents have decreased from $5.9 billion at the end of FYE 2022 to its current position of $1 billion.

It is important to understand that Target has a very robust business and even if the TTM have been difficult it does not mean the fundamentals of the business have changed. The company remains holding a strong liquidity position, which currently stands at $4 billion, consisting of cash and cash equivalents of $1 billion and a $3 billion committed revolving credit facility. As it will later be seen, management has also done a great job spreading debt repayments with the company holding a very manageable debt maturity profile.

Shareholder Returns

On August, 2021, the Board of Directors authorized a $15 billion share repurchase program with no stated expiration. Since then, management has bought back shares aggressively. Further to this, Target also pays dividends to its shareholders with dividend payments increasing consistently during the past years. In FYE 2021 the company paid $1.3 billion in dividends while during the TTM the company has increased these payments to $1.8 billion. It will be interesting to see if Target can continue increasing dividends while at the same time pursuing share buybacks as there is only so much the cash flow from operations can cover.

Debt Maturity Profile

Target's management has spread-out the debt maturity profile of the company pretty well. Here it should be mentioned that the company has a back ended debt maturity profile with about 40% of its debt coming due after 2032 which is almost a decade away. It should also be mentioned that management can refinance this debt and essential keep extending maturities. This would allow Target to keep most of its free cash flow and only need to keep paying interests on its debt.

As things stand, Target will not need to make significant debt repayments until 2024. Furthermore, with the company averaging a free cash flow of $5.7 billion during the previous three years and a liquidity position of $4 billion it gives the company substantial leeway to use its cash for share buybacks, bolt on acquisitions, or increasing dividends. Important to note here that FYE 2023 financial performance will most probably deteriorate compared to the previous three years, nonetheless the company should be able to return to its previous performance during FYE 2024.

Valuation

With the current market valuation at $80 billion, I believe the company is well-priced. At the current share price, the dividend yield is ~2.5%. Saying this, because the company has a very well managed debt maturity profile, I believe management could continue increasing dividends while at the same time pursuing share buybacks.

For the valuation of the company, I have used the market multiple method, using future forecasted earnings to a 17x multiple, which is a reasonable multiple for a stable and mature company. I have obtained the analysts' revenues forecast from Seeking Alpha data and have applied net profit margin of 4.50% which is the average of the previous three years. I arrive at a market valuation of $94.2 billion by FYE 2027.

Risks

Competition: As investors know the retails business is highly competitive with small margins. Target competes with true behemoths in this space such as Walmart (WMT) and Amazon (AMZN). This makes Target somewhat susceptible to competition, as these retailers will generally beat Target in a price war or other competitive scenarios.

Supply chain disruptions: Given Target sources its products from a vast number of suppliers across the world. Disruptions in its supply chain can impact the company´s financial performance. This has already been seen during the TTM where Target had difficulties as many other companies did with its supply chain. This caused a surge in cost of goods sold and higher inventory levels which depressed the company´s margins as well as its cash flow from operations.

Conclusion

Target is an attractive company that offers stable returns through dividends and share buybacks. The company has strategically marketed its own brands, which now generate about a third of the company's total revenues. Further to this, management has also done an amazing job extending debt maturities with about 40% of Target's debt coming due after 2032. The company also generates substantial free cash flows which allow the company to return value to shareholders through dividends and share buybacks. Despite these great fundamentals, I believe Target Corporation is well-priced at current levels and I would advise to hold and wait for a more attractive entry point where investors could optimize returns.

I am an experienced financial analyst with a background in banking. Throughout my career, I have gained a vast knowledge of credit risk and financial analysis. In my previous role at one of the largest banks in Europe, I was responsible for monitoring a portfolio of over 100 international corporates, which included tasks such as credit analysis, financial analysis, internal ratings, etc. I am a well-educated and passionate finance professional, holding a Master's degree in economics. Over the past four years, I have written over 100 credit rationales for the bank's risk department on international corporates. I am highly skilled in analyzing financial data and identifying risk factors, and I am committed to staying up-to-date with the latest developments in the finance industry. Overall, I am confident in my ability to provide valuable insights and recommendations to assist with investment decisions.