Jefferies Discount & Specialty Retail Analyst Corey Tarlowe joins Yahoo Finance Live to break down his optimistic view of Target earnings, inventory, promotional pricing, and market share.
JULIE HYMAN: Shares of Target-- I got to, like, look through my eyes this morning-- look through my hand this morning. They're down by 14% after the retail giant reported operating margins that fell well short of expectations, lowered its guidance for the fourth quarter, as consumer spending changed-- changes in consumer spending hit sales. Jefferies discount and specialty retail analyst Corey Tarlowe joins us now to discuss. Corey, you're still a bull on the stock. Tell us why.
COREY TARLOWE: I am, and thank you so much for having me this morning.
JULIE HYMAN: So why--
COREY TARLOWE: So--
JULIE HYMAN: --after this quarter, are you still holding fast here?
COREY TARLOWE: So there's a couple of things that I would point to here. Let's call it four key themes. Number one is that comps actually beat. Traffic is up and the business is gaining share. That's all great. What's a little bit concerning is that I think management used phrases like rapidly softening demand, and the consumer is pulling back on discretionary, which I kind of-- I think sounds the alarm little bit and worry some people.
But I would like to point to the fact that the business is gaining share across categories, which would include areas like food and beverage, which we know is doing well, up low double digits, and even apparel, which is also, again, a little bit challenged in the present environment, given inventory issues, but nonetheless, still gaining share there.
And I think the key here is that Target, while most of these issues are macro driven, it's controlling what it could control, which leads me to my next point, and it's on inventory. And if we think about how inventories have trended, inventories have been problems for just about every retailer, and probably even more so for Target.
But let's look at the numbers. Inventory was up close to 50% in the first quarter. Then it was up a little over 30% in the second quarter. And then in the third quarter, which they just reported this morning, inventory was up 14%. And sales was up in the single digits. So the gap between inventory and sales growth is narrowing, which should help to align the supply chain and the assortment to what the business is seeing from a demand standpoint as we look ahead.
BRIAN SOZZI: Corey, isn't--
COREY TARLOWE: The third key theme--
BRIAN SOZZI: Corey, let me just--
COREY TARLOWE: Go ahead.
BRIAN SOZZI: --hop in real quick. Is it just the bottom line here that Walmart is a better stock to own in an environment where consumers making over $100,000 a year, they're now trading down to Walmart from Target, and then, oh, yeah, Walmart is also keeping all those low income shoppers?
COREY TARLOWE: So one of the things that Walmart highlighted yesterday is that it's gaining a lot of share, and it's gaining share from higher income consumers. So 3/4 of the share gains that Walmart did realize were actually from higher income consumers. But that being said, Target is still gaining share, too. And it's gaining share across all of its categories.
So both of these stocks are stocks that you want to own right now. It's just if you look at Target's valuation at 12 times earnings and the probability of numbers actually being better next year, as all of these issues that have inflicted Target, again, these self-inflicted wounds that have really depressed margins this year, a lot of those will go away next year.
So as we get through this holiday hurdle, and we start to look to what next year could be, you now have the opportunity for better numbers and a valuation multiple that is well off of what is trough lows right now. So it's trading at 12 times earnings. The historical average is close to 16 or 17. And the range is 12 to 23. And right now, it's at 12 times earnings.
BRAD SMITH: But Corey, they're gaining share during a highly promotional period. What is there to say that when things get back to full price at larger scale that that share is going to be maintained?
COREY TARLOWE: Well, one of the reasons that a lot of these businesses as a result of COVID have gained meaningful share is that people have been trading down and looking for value. Which retailers are best positioned from a value standpoint? Well, you highlighted Walmart. Costco is another one, Dollar General, and then Target, too.
And Target caters to a higher income consumer, and that consumer is shopping right now a little bit more on the consumable side, right? So food and beverages were up low double digits, which is great. And they've still continued to retain customers and gain share in that category.
And when times are better, Target has a really great discretionary assortment that resonates very strongly with consumers. And that assortment, by the way, is also higher margin. And Target also has a really strong own brand assortment, which is close to 30% of the business. And as that own brand business continues to grow, that should structurally enhance margins as well, as we look to next year's numbers, which, again, should be better and drive a better stock price into next year.
JULIE HYMAN: Corey, though, how long are they going to have to keep discounting the discretionary side of the store to move that merchandise? It feels like not just commentary coming from Target, but it feels like commentary across the board, indicates that promotion is back for the foreseeable future.
COREY TARLOWE: Yeah, so promotions are definitely going to be elevated throughout the holiday period. But the good news is that as inventories come down, which we're already seeing happen, you should hopefully see promotions start to normalize. And I talked a little bit about this last time I was on about a month ago about this analysis that we did. And we looked through inventory cycles, peak to trough throughout the last two decades.
And we found that after inventory growth peaks, sales and gross profit growth tend to reinflect about five quarters later. So we're already two quarters now past Target's inventory or a quarter or two past Target's inventory peak. So-- and it's ahead of the rest of retail. So once you get through, I think, this holiday period, you really have an opportunity for, I think, promotions to normalize as, again, supply chains are back to normal, and inventories are in a much better position.
BRIAN SOZZI: Corey, one of the top stories on our site is one that I wrote this morning on Target seeing a $4 million hit year to date because of organized retail crime. Within your coverage universe, how much of a problem is organized retail crime? And is there any chance of getting this under control?
COREY TARLOWE: So shrink is a problem that all retailers face. As inflation has pressured a lot of consumers, it's become a more considerable headwind. But the good news is that a lot of these businesses have mitigation strategies in place.
Target dove into a few of the initiatives that it has in place to remediate that, whether it was kind of putting law enforcement in some of the stores or on the technology side. Other retailers like Dollar General have talked about electronic tagging. And all of these initiatives have helped to mitigate, shrink, and should help to do so as we look ahead.
JULIE HYMAN: We'll see how those efforts work out. Jefferies discount specialty retail analyst Corey Tarlow. Good to catch up with you, Corey. Thanks.
