What can ASX investors learn about Target's inventory woes
US-listed Target has issued its second earnings downgrade in less than three weeks
Mentioned
KEY POINTS
- US-listed Target issues its second earnings downgrade in less than 3 weeks
- Target expects operating margins to dip to 2% in the second quarter compared to expectations of 5.3%
- Key takeaways for ASX investors and retail stocks
The S&P/ASX 200 Consumer Discretionary Index is a clear outlier on Wednesday, likely facing selling pressure due to a second profit downgrade from US-listed Target.
Wesfarmers (ASX: WES) is the most notable large cap loser, down -1.4% in early trade to a fresh 20-month low of $44.94.
Outsized inventory squeezes Target profits
Two weeks ago, Target shares plummeted -25% in a single day after reporting weaker-than-expected earnings due to higher freight costs, a rapid slowdown in discretionary sales and product markdowns.
Target issued another earnings downgrade on Tuesday, now expecting second-quarter operating margins to be around 2% compared to analyst expectations of 5.3%.
The retailer said it has taken a set of actions to “right-size its inventory … including additional markdowns, removing excess inventory and cancelling orders.”
“Specifically, the Company is planning for continued strength in frequency categories like Food & Beverage, Household Essentials and Beauty, and is planning more conservatively in discretionary categories like Home.”
Target said it expects operating margins to bounce back to 6% in the second-half of 2022, a rate that would exceed historic averages for the Fall season.
Key takeaways from Target
Too much inventory has taken a massive toll on profit margins
US consumption for staples remains solid
US consumption of discretionary segments has weakened
There is a light at the end of the tunnel, margins expected to normalise in second-half
It's also worth noting from Australia's March quarter GDP data observed a solid increase in household spending across "a number of discretionary categories."
"Household consumption continued to drive growth this quarter. Following the easing of COVID-19 restrictions, household spending on Transport services, Hotels, cafes and restaurants, and Recreation and culture increased." said Sean Crick, acting head of National Accounts at the ABS.
What about ASX retailers?
Several ASX-listed retailers like Breville Group (ASX: BRG), ARB Corp (ASX: ARB) and Super Retail Group (ASX: SUL) are down more than -25% year-to-date after experiencing a massive pull forward in earnings and valuations in 2021-22.
Right after Target's initial -25% dip on May 26, I looked at a few potential ASX culprits including Super Retail and Breville - both of which boosted inventory levels to mitigate supply chain disruptions.
