Target Earnings: Strong Gross Margin Recovery Helps Offset Softening Consumer Demand

Key Morningstar Metrics for Target

• Fair Value Estimate: $132.00
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: None
• Morningstar Uncertainty Rating: Medium

What We Thought of Target’s Earnings

Target TGT delivered solid third-quarter results, as gross margin improvement outweighed the retailer’s second consecutive quarter of comparable sales declines. The firm posted $2.10 in earnings per share—surpassing its previous guidance of $1.20-$1.60—and raised the midpoint of its full-year EPS guidance by 9%.

Despite the strong results, we think Target’s operating margin recovery from 2022 lows will take longer to fully materialize. We forecast a 6.0% operating margin by fiscal 2026 and a midcycle margin of 6.5%, down from 7.0%. Consumer spending continues to show signs of softening, and while we surmise that the retailer is capable of adequately navigating a precarious holiday season, we still expect Target’s top line to be pressured through the remainder of the year and into 2024. Given our subdued sales outlook and our view that competitive angst among retailers will likely intensify, we’ve lowered our fair value estimate by about 5% to $132 per share.

Despite grappling with tepid consumer demand, Target’s gross margin improved by 270 basis points over the prior year to 27.4%, driven by a material improvement in the firm’s inventory levels and reduced promotional destocking. However, the operating margin only expanded by 130 basis points to 5.2% due to the effects of operational cost deleverage from a lower sales base.

Comparable sales declined nearly 5% during the third quarter, led by a 4% drop in transaction volume. Discretionary product categories continued to weigh inordinately on the firm’s top line, with sales in home and apparel categories down by a high-single-digit percentage and hardlines down by low double digits. Amid a precarious economic backdrop, we expect consumer appetite for discretionary items to remain constrained. To our surprise, Target’s assortment of food, beverage, and essentials also posted modest declines during the quarter, though its beauty assortment remained a bright spot, posting a high-single-digit percentage gain.