‘Wal-Mart Effect’ Colors Target’s Q2 Results

Target

As early as April, Target (NYSE:TGT) found “softer-than-expected sales trends” to be affecting operations and lowered its first-quarter earnings per share estimate, a move that reflected both a general concern that the U.S. economy was once again slowing down and a more specific concern that the payroll tax had caused low-income earners to cut their discretionary spending.

In May, the company’s results showed that fear was warranted, with a 29 percent decline in first-quarter earnings. As a result, the discount retailer lowered its forecast for the full year, noting once again that customers were keeping purchases to their immediate needs.

While Target reported second-quarter profit Wednesday that met analyst expectations, as a whole, the results clearly showed that customers are remaining cautious in light of higher taxes and unsteady employment. Target joined fellow discount retailers Wal-Mart (NYSE:WMT) and Macy’s (NYSE:M) in reporting second-quarter results that indicated the rough economy is forcing shoppers to limit spending to necessities.

Profit dropped 13 percent in the three-month period, falling to $611 million, or 95 cents per share, from $704 million, or $1.06 per share, in the year-ago quarter. Analysts had predicted profit of 95 cents per share and revenue of $17.3 billion, but Target missed that revenue estimate, with sales rising just 4 percent to $17.1 billion.

Target expects U.S. shoppers to remain cautious “in the face of ongoing household budget pressures” for the remainder of the year, Chairman and CEO Gregg Steinhafel said in a company release. That expectation prompted the company to announce Wednesday that per-share profit will fall at the low end of its forecast of $4.70 to $4.90; analysts expected $4.74.

The smaller-than-expected increase in revenue and the decline in profit came on the back of weaker-than-anticipated same-store sales. Sales at Target stores open at least a year, a key metric for retail health, rose 1.2 percent, below the company’s forecast for a 2 percent to 3 percent increase.

Yet Target was able to offset the dip in sales in the second quarter with “disciplined execution of our strategy and strong expense control,” Steinhafel said. But “for the balance of this year, our U.S. outlook envisions continued cautious spending by consumers in the face of ongoing household budget pressures.”

Target is not alone in its struggle with the weak economy. For Wal-Mart, “The retail environment was challenging across all of [its] markets.” The discount retailer reported last week that second-quarter sales at stores open for at least one year dropped 0.3 percent in the United States, the company’s largest region of operations; Wall Street was expecting sales to rise 1 percent. The decline in sales came, in part, as a result of the 0.5 percent drop in the number of visits from its U.S. customers.

Retailers have attributed the weakness in sales to the 2 percentage point increase in the payroll tax that funds Social Security. For a person earning $40,000 per year, that hike takes another $15 from paychecks.

Because Wal-Mart generates about 70 percent of its revenue from sales in the United States, decreased earning power in its key customer base — low-income Americans — had a significant effect on its bottom line. Even before the payroll tax fell to its pre-2008 level in January, the company’s sales were subject to a payroll cycle in which sales rose when paychecks were issued and subsequently shrunk over the course of the two-week pay period.

For Target, some drag also came from the costs associated with its Canadian expansion. In that country, the retailer added 44 stores during the second quarter for a total of 68 outlets, and the Canadian operations reduced its profit by 21 percent in the second quarter.

Shares of Target fell 2 percent after the earnings release, which compares to the 15 percent the company’s stock advanced so far this year through Tuesday, the 7.3 percent gained by Wal-Mart’s stock, and the 16 percent gained by the Standard & Poor’s 500 Index.

Follow Meghan on Twitter @MFoley_WSCS

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