Earnings Spotlight on Mega-Retailers

Two of the world’s largest retail chains reported earnings on Tuesday morning. Both Target (TGT) and Home Depot (HD) topped the analysts’ earnings expectations, but each of them failed to impress as investors worried about the upcoming holiday shopping season. In the case of each of these stocks the market has sold off following them beating earnings.

Target easily topped estimate reporting profit was 18% better than a year ago or $.58 per share. Trends improved in both the retail and credit card divisions of Target over the last quarter. However, in the market’s view there were two things that tainted this performance. First, sales disappointed coming in at only $14.8 billion as analysts had anticipated nearly half a billion more. We have seen the market is much more sensitive to top-line growth than it is to bottom-line so far this earnings season, and this is no exception. In afternoon trading the stock had fallen three percent, even though this marked the first increase in earnings in the last eight quarters.

Furthermore, the market was taking a cue from Target’s CFO Doug Scovanner who sounded a cautious tone on the conference call. While he said consensus estimates for fourth quarter profit of $1.12 is “within the range of a potential outcome,” he warned that analysts may be starting to get too optimistic. He may be right as 11 of the 16 analysts tracked on Yahoo! finance have upped earnings estimates in the last month (eight in the last week), and zero have lowered them. Scovanner said that management is planning conservatively and he even went as far as to say, “Sell-side analysts are somewhat more optimistic across most of our industry than we believe is warranted in light of the harsh realities of the current environment.”

The Home Depot’s earnings report topped the consensus view of EPS $.36 as they were able to make $.41. In HD’s case, profit was nearly 9% lower than last year, but at least sales were better than anticipated. Although sales exceeded estimates they were still down by about 8%, which was partially offset by an 8.4% reduction in SG&A costs. Still the largest home-improvement retailer’s stock sold off by about 3% as investors are concerned over a weaker than hoped fourth quarter. The company’s full year EPS guidance of $1.55 disappointed, and after beating estimate by 5 cents in the last quarter, the market hoped for better. Sales continue to suffer from the weak housing market, and it appears management is still cautious that it may take some time before it can signal the all clear.

The fact that these two bellwethers of retail are more cautious than analysts is a bearish sign. Wall Street has stoked the earnings estimates on each of these companies to the point that now the companies have begun to worry about disappointments in the future. They have both cut costs deeply and it is likely they will not be able to perpetuate the same level of cost cutting. That means it will be very difficult to beat estimates without impressive sales, and with consumers saving more and spending less that could be tough to accomplish. At the current price levels, we have an Undervalued stance on TGT and Fairly Valued on HD. However, if holiday sales come in closer to management’s view than analysts’ view, then you will almost certainly be able to scoop up one of these stocks a little cheaper.

Earnings Spotlight on Mega-Retailers

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