Analysis: Target needs to balance online growth with store growth
The holidays did not bring much cheer for Target, which saw both sales and profit decline during the golden quarter. Worryingly, comparable sales fell at an accelerated pace, ending up at their most negative point for of the fiscal year. The one bit of sparkle in an otherwise dreary set of figures came from digital where sales grew by a stellar 34%, a pace of expansion well above online growth in the whole U.S. market.
The fact that digital grew so strongly indicates that Target’s proposition is not entirely broken. This is backed by our own consumer data which shows that, despite its poor performance, Target is still generally well regarded by consumers. This is especially so in terms of its assortment, where an emphasis on quality own-brands provides Target with a sustainable point of differentiation.
Despite this, Target struggles to grow its store traffic and has difficulty in increasing conversion and average basket when it does get customers into its physical shops. In our view, the main reason for this is that Target is still operating a store format that was suited to the 1980s and 1990s, and not one that is conducive to engaging and inspiring customers in the modern era of retailing.
While Target’s stores are well maintained and well-staffed, most departments are merchandised in a very functional way. The supermarket style layout also inhibits customer flow and means shoppers simply miss out, and do not engage with, categories that are not part of their primary mission. Both of these factors hamper Target’s ability to increase sales; they also make the shopping experience functional, which reduces customer visit frequency.
While we do not believe that Target should completely redesign its whole store format, it can do a number of relatively simple things to lift the shopping experience. These include improving displays, making areas like home less structured with lower level fixtures, and ensuring that products – especially in fashion and home – are cross merchandised to create room and outfit suggestions.
Target also needs to examine the position of seasonal merchandise, which in most shops is currently at the back of the store. While this is clearly designed to get people to walk through the store, we believe that in an era of fragmented shopping – when customers will visit Target for certain items, rather than to shop every department – it is a disadvantageous position. This is one of the reasons why we believe Target missed out on better sales of holiday merchandise over this quarter. While its Wondershop assortment and displays was among the best in retail, their exposure to customers was far lower than it should have been. Again, all of this comes back to thinking about the stores in a more flexible, less rigid way.
Aside from the store layout, the other area that puts Target at a disadvantage is its grocery offer. Unlike Walmart, Target is unable to rely on grocery to pull in shoppers. This is mainly because its food proposition remains confusing: Target is neither a full line grocer nor a player with lots of niche specialty products; it is neither a high-end player, nor a price focused discounter. Being in this nether-world means that Target remains a place where people come for something else and buy some food, rather than being a place where people come to buy food and end up buying something else. The latter is a much more powerful driver of trade, if only because of the frequency with which food shopping is undertaken.
All these in-store weaknesses mean Target’s online success is to the detriment of stores. Our data show many of Target’s core e-shoppers often buy online instead of visiting a store and when they do, their shopping missions are more focused. This loss of store custom also impacts categories like grocery and household cleaning, which even core internet shoppers are less inclined to buy online.
A rapidly growing e-commerce operation is also margin dilutive as Target is essentially transferring demand from stores to online where the costs of servicing are higher. In our view the squeeze on profit could become even tighter over the coming years as Walmart and Amazon look to push product prices and delivery fees lower in the online space. In essence, Target needs to grow online, but needs to do so at the same time as balancing this with store based growth.
On the profit front more generally, we have some reservations about the coming fiscal year, especially since Target has clearly stated it will invest in lower prices even at the expense of slimmer margins. Part of this is a sensible recognition of heightened price activity in the market. However, we would also caution that Target should not chase Walmart on price, as it is a battle that cannot easily be won. We also believe that many of Target’s issues are not solely price related.
Despite these deficiencies, Target is not a retailer without a future. It is a business with many strong pieces and some slightly damaged parts. However, as well as looking to fix its weaknesses, it also need to put all of the pieces together to create a compelling proposition that cuts through in a much noisier and more competitive era of retailing.
Neil Saunders is managing director of GlobalData Retail.