Target (TGT) faces a desperate battle for survival. Strangely, the hip retailer has discovered its discounts are not cheap enough for today’s consumers.
Accordingly, Target (NYSE: TGT) has created a private-label bargain brand called Smartly. To explain, every Smartly product will sell for $2 or less or, Quartz reports.
Specifically, Smartly products will be 50% cheaper than Target’s existing brand Up & Up. Quartz writer Alison Griswold thinks Smarty is designed to counter online discounters like Brandless. For instance, Brandless reportedly sells everything at a flat price of $3.
Will Smartly help Target (TGT) Battle Dollar Tree or Amazon?
However, I think Smartly counters small box discounters such as Dollar Tree (NASDAQ: DLTR), Dollar General (NYSE: DG), and Aldi. For example, Dollar Tree sells everything for $1. Aldi,; on the other hand, sells cheap high-quality private label groceries.
Interestingly, Target (TGT) is probably hoping most customers don’t buy Smartly products. To demonstrate, Smartly is a loss leader; a product supposed to lure customers into a store.
The obvious hope is that customers will come in to buy Smartly but purchase a more expensive brand. Therefore, the psychology of Smartly is that behind McDonald’s (NYSE: MCD) Dollar Menu.
McDonald’s puts up the Dollar Menu in hopes hungry customers will look at it and buy a Big Mac instead. Target hopes customers will come in for Smartly, but buy Tide instead.
Target (TGT) needs more cash to fight Amazon
The goal of Smartly; however, is also to counter Amazon (NASDAQ: AMZN). Target’s management hopes Smartly will lure in customers by offering prices lower than anything Amazon can provide.
Few retailers are in more danger from Amazon than Target. Amazon competes for Target’s core customer base; the urban and suburban middle class, in particular.
For example, Target’s target customer is a 35-year-old suburban soccer mom. Unfortunately, that soccer mom is the person most likely to belong to Amazon Prime.
An obvious use of Smartly is to get people under 30 (Millennials) used to shopping at Target. Target hopes to turn those Millennials into loyal customers by the time they have kids.
Can Target (TGT) compete with Amazon?
Attracting such shoppers is a tall order because Amazon is far more convenient than Target (TGT). Notably, Amazon allows customers to do all their “shopping” from the couch.
No car and no trip to the big box store are necessary with Amazon. Instead, all you need is to reach for your phone.
Target’s challenge is greater than you might think because customers differentiate between Amazon and brick and mortar stores. For example, many people think of Amazon first when they think of ecommerce.
That makes it hard for companies like Target or Walmart (NYSE: WMT) to lure customers to their websites. For instance, customers visit them after going to Amazon first. If Amazon has the low price, it gets the sale without advertising or marketing.
To survive online Target will need to get customers to visit Target.com first. I cannot see how Smartly will achieve that goal.
Target (TGT) joins the race to the bottom
A more likely use of Smartly is to attract the low end customers who do most of their shopping at dollar stores or Aldi. Those victims of income inequality, shop only by price.
Accordingly, retailers are engaged in a race to the bottom to attract their business. The race to the bottom involves offering the lowest price possible. Nothing else matters, not style, not quality, and not utility.
I have to wonder what such customers will do for Target besides generating extra cash flow. Is Target (TGT) so desperate for cash it is trying to get the poor’s welfare checks and food stamps?
Is Target (TGT) Making Money?
The financial numbers show that Target does not need the money of the desperately poor.
For example, Target (TGT) recorded a gross profit of $5.537 billion; and an operating income of $1.133 billion on August 4, 2018. Conversely, Target generated a net income of $799 million on revenues of $17.175 billion on the same day.
Tellingly, Target recorded an operating cash flow of $2.21 billion and a free cash flow of $1.192 billion on the same day. Therefore, Target does not the money from the desperately poor.
Target (TGT) will need more cash to compete with Amazon
However, Target (TGT) will need far more cash if it wants to compete head to head with Amazon.
In particular, Amazon had $27.05 billion in cash and short-term investments on 30 June 2018. That cash enables Amazon to spend billions of dollars opening Go cashier-less convenience stores in American cities.
In contrast, Target reported $1.18 billion in cash and equivalents on 4 August 2018. Thus, Target’s cash is one 27th that of Amazon’s.
Amazon Go is a direct threat to Target because it operates in urban neighborhoods and caters to the same basic clientele; middle class professionals. Target could have a hard time competing with Go because of lower labor costs.
An even greater menace to Target is Amazon Prime which brings merchandise straight to the consumer. In particular, Amazon’s Prime Now Ultrafast 2=Hour Delivery service could devastate Target.
Prime Now is a major menace because it relieves the customers of the need of thinking to go to the store. For example, Busy or lazy people will use Amazon Prime Now as an excuse not to go shopping.
Will Teaming up Save Retailers like Target (TGT)
Target’s greatest problem is lacking the cash to compete directly with Amazon. Target (TGT) is not alone, some much larger retailers including Walmart (NYSE: WMT), Kroger (NYSE: KR), and Walgreen (NASDAQ: WBA) are having similar problems.
An obvious solution for retailers facing Amazon is to team up. For instance, Target has turned its pharmacy operations over to CVS Health (NYSE: CVS). In addition; Kroger and Walgreen are experimenting with Kroger grocery sales through Walgreen drugstores, in Kentucky.
Additionally, Kroger has a close working relationship with Instacart. To explain, Kroger provides the groceries and Instacart the delivery expertise. Moreover, Kroger bought 6% of the British grocery technology company Ocado Group PLC (LON: OCDO). Kroger bought into Ocado because it needs that company’s expertise with robotic fulfillment.
Will Acquisition help Target Fight Amazon?
The drawback to such team-ups is that the retailer ends up sharing its profits with the partner. Therefore, a more sensible solution is an acquisition. For instance, Target acquired the delivery service Shipt, and Walmart has been acquiring like crazy.
Acquisition is a limited solution because it costs money.Target must raise cash or borrow to finance acquisitions. In the worst-case scenario, a company has to sell assets to finance acquisitions. For example, Kroger had to sell its convenience stores to raise money to invest in Ocado.
Target (TGT) might counter Amazon through acquisition. For example, by buying a small box retailer like Dollar Tree (NASDAQ: DLTR) which owns Family Dollar. Another option is to merge with a grocer such as Safeway, or a convenience store chain like 7-Eleven.
The advantage to such mergers is to give Target hundreds of small box locations to counter Amazon. The best use for small box locations is pickup and return locations for online orders.
Is Target (TGT) a Great Dividend Stock?
Target (NYSE: TGT) is still a great dividend stock despite the Amazon menace.
Dividend.com reported Target had achieved 50 years of dividend growth on 8 October 2018, for example. Hence, Target’s dividend has been growing every year since 1968.
More importantly, Target investors received a dividend yield of 3.03% and a payout ratio of $2.56 on 8 October 2018. Beyond that there was a payout ratio of 47.6%.
Under those circumstances, the next Target dividend is 64¢ with a payout date of 10 December 2018. Target’s dividend increased by 2¢ in 2018, rising from 62¢ in May 15, 2018, and 60¢ in 2017.
Target (TGT) will Thrive in the Age of Amazon
I think Mr. Market undervalued Target at $85.20 on October 8, 2018, because of the dividend and the revenues. Target’s annual revenues of $71.879 billion grew at a rate of 3.43% in 2017. Henceforth, Target will keep growing and delivering a good dividend for a few years.
Conversely, the threat from Amazon is a long term one. I believe Amazon Go will not be able to compete directly with Target (TGT) until 2023 or 2024. Moreover, I do not believe Prime Now will be available nationwide for several years.
Therefore, Target has lots of time to prepare for the Amazon menace. I predict Target will counter Amazon and keep its value. Target could thrive in the age of Amazon because it is a good company with a strong brand and some good technology.
Target (TGT) deserves to be in your portfolio if you want a retailer with a good dividend and a strong brand.