Market Mad House

In individuals, insanity is rare; but in groups, parties, nations and epochs, it is the rule. Friedrich Nietzsche

The Death Spiral

A Vital Holiday Season for Retailers

The 2015 holiday season is going to be a decisive one for some of the biggest names in American retail. What happens over the next few months, especially on Black Friday and during the all-important Christmas shopping season, could determine if some retail legends stay relevant or in some cases just survive.

The stage for what could be a very gloomy holiday season for traditional retailers was set by Walmart Stores Inc. (NYSE: WMT). Walmart’s executive team shocked Wall Street by predicting that profits would fall by 30% over the next few years because of increased expenses and dismal sales numbers on October 14. That caused Walmart’s share value to drop by 12%.


Walmart’s Season of Pain

Actually, Walmart’s stock price has been falling for some time. As recently as January 8, 2015, it was trading at $90.47 a share; by October 16, 2015, it had fallen to $59.02 a share. In other words, Walmart’s shares and market capitalization have lost one third of their value over the course of 2015.

That’s particularly disturbing because Walmart is still doing well in some other areas. On July 31 it reported some great numbers for the third quarter of 2015:

  • A TTM revenue of $485.62 billion
  • A net income of $15.49 billion
  • A profit margin of 2.89%
  • A dividend yield of 2.3%
  • A payout ratio of 44.81%
  • A free cash flow of $2.815 billion
  • A return on equity of 19.68%
  • A third quarter sales estimate of $117.94 billion
  • $26.77 billion in cash from operations
  • $5.75 billion in cash and short-term investments

Okay, Walmart is still a great company; it makes a lot of money, and it has a lot of resources, so it will probably weather the storm. Walmart’s management team also seems to be dedicated to making the kind of dramatic changes needed to survive, but what about some smaller retailers with fewer resources?

Dark Times Ahead for Costco and Target

Two retailers that might be headed for the same kind of hurt that Walmart is suffering from are Costco Wholesale Inc. (NASDAQ: COST) and Target Corporation (NYSE: TGT).

Costco investors should be worried because their value favorite has something in common with Walmart. It reported a year to year revenue growth rate of .72% on August 31, 2015, a sure indication of stagnant sales growth. Walmart reported a year to year revenue growth rate of .09% on July 31, 2015.

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Why Costco’s Share Price Could be Set for a Fall

Get the picture, folks; Costco, like Walmart, is having a hard time increasing its business, although it is still maintaining market share for now. Costco also had an over inflated share price of $152.45 on October 16, 2015. Like Walmart, Costco was still making a lot of money; it reported a TTM revenue of $116.20 billion and a net income of $2.377 billion on August 31, 2015.

All it would take is one negative earnings report, especially from a bad holiday season, to send Costco’s share price tumbling. Such a fall could be a lot worse for Costco for a very simple reason: It lacks the resources that Walmart can tap. Costco’s free cash flow was a measly $223 million, but it had $6.419 billion in the bank and made $4.28 billion in cash from operations in the third quarter.

Costco also estimated that it had $27.51 billion in sales for the second quarter and could have $123.67 billion in sales for the fiscal year. Now for the problem—what happens if Costco misses the sales estimate for the year or has a bad Christmas season? My prediction: Costco is headed for a fall and soon, but it is still a good company that can survive and make money.

Target’s World of Hurt

Now for the company that’s in real trouble, Target Corp (NYSE: TGT). Target boosters have been happy about the company’s revenue growth rate of 2.77%—better than Walmart or Costco—but there are some serious problems at the third largest discount store operator.

Target is losing money; it reported a net income -$900 million on July 31, 2015. It also reported a negative earnings per share ratio of -1.428. This is really bothersome because Target was making $5.714 billion in cash from operations in the third quarter. The danger from this is obvious; Target is already suffering from losses that are eating up around one fifth of its cash from operations.


Target does have $2.742 billion in the bank right now, but its quarterly losses were nearly half that number. Target’s sales are pretty good; it estimated it sold $17.60 billion for the quarter and could make $74.38 for the year.

This situation puts Target in a dangerous position, particularly with the losses it took in Canada and some of the bold moves it is making. Target plans to spend $1 billion on ecommerce and is making efforts to match Walmart and Amazon’s prices. Target has also sold all of its pharmacies to CVS Health (NYSE: CVS), a bold and unprecedented move that could quickly tick off customers.

Target in particular is one company that could be badly hurt by a dismal holiday season. All it would take is one bad Christmas season to send its share prices tumbling fast. A major danger here is that Target would not be able to live up to some of its ecommerce promises, a move that could drive customers away.

Target Misses the Boat on Small Box

Unlike Walmart, which has been investing heavily in both ecommerce and building hundreds of small box stores in the form of Neighborhood Markets, Target is almost entirely dependent on big box for its revenue, just like Costco. As consumers abandon the big boxes for the dollar stores and online, it could be left high and dry.


Walmart reported that sales at the Neighborhood Markets increased by around 4%. Walmart currently operates around 645 Neighborhood Markets, Business Insider reported. Meanwhile, Target operates less than 10 Target Express locations, its answer to Neighborhood Market, and has plans to open only around eight more.

Target has missed the boat on small box, which is bad news because that segment is growing fast. Industry leader Dollar General reported that its revenue was growing at a rate of 7.97% on July 31, while Dollar Tree Stores (NASDAQ: DLTR) saw its revenue jump 48.25% after absorbing semi-defunct rival Family Dollar.

One problem Target faces is that competitors like (NYSE: AMZN), Dollar General (NYSE: DG) and Kroger (NYSE: KR) are undercutting its prices. in particular is a major menace to Costco and Target because it offers a shopping experience that is both convenient and relatively cheap.

A Dismal Holiday Season for Brick-and-Mortar Retail

Here are my predictions for holiday season 2015: It’ll be a terrible time for Walmart, Costco and Target. Target in particular needs to do well to prove it is still relevant. Costco could struggle because of its dependence on big boxes.

Target and Walmart might see some nice profits from their online business though. One problem with that is that they could end up cannibalizing their brick-and-mortar business to make money from ecommerce.

Amazon will have a great holiday season because of lower prices and increased popularity, particularly of Prime. Expect to see sales at the everything store spike. Department stores like Macy’s (NYSE: M), Kohl’s (NYSE: KSS) and JC Penney (NYSE: JCP) will have a terrible holiday season. They will lose serious market share and see their stock prices fall.

One casualty of this holiday season could be Sears Holdings (NASDAQ: SHLD), which could run out of cash and collapse completely if it has poor sales. Both Sears and Kmart could vanish from the brick-and-mortar segment next year.

Expect overpriced retail stocks to take a slide. My advice for investors would be to stay out of retail now but keep watching. At some point next year there will be some real bargains in retail. Despite their problems, Walmart, Costco and Target are still good companies and great brands. They will make money for years to come, just not as much money as before.

The real test this Christmas will be for Amazon though. Can it maintain its position as the dominant online retailer in the face of all the new competition? I think it can, but there will be some pressure.

It looks like it is going to be a gloomy Christmas for brick-and-mortar retail. One has to wonder if retail giants will be able to get through it without panicking or losing a lot of money.

Disclosure: the blogger owns shares of Kroger.