Target’s Rough Ride In Canada Will Persist In The Near Term

TGT: Target logo

One of the biggest retailers in the U.S., Target (NYSE:TGT), initiated its international expansion earlier this year when it opened its first store in Canada in March. The retailer has since expanded aggressively in the region and is on track to open 124 stores by the end of 2013. Target’s focus on its Canadian expansion is evident from the fact that it doubled its renovation budget soon after it bought leases for 220 Zellers stores in early 2011. Also, the company has been more aggressive in its per-opening marketing campaigns than any other foreign retailer in Canada. [1] However, despite these efforts, Target’s Canadian operations have not shown big promise so far. The retailer is off to a choppy start in the region due to low customer satisfaction and initial expansion costs.

Canada has been the first international expansion choice for U.S. retailers due to its close vicinity to the U.S. and similar consumer tastes. Though Target expects better performance in Canada in the future, the market is not as lucrative as some developing nations, due to a slow economic recovery, increase in cross-border shopping and small population. Moreover, the retail landscape in Canada is highly developed, and therefore, new retailers find it hard to compete with the existing ones. Only the grocery retailers have seen decent growth in the region, which is not a big business for Target. Considering the factors, we believe that Target is in for a rough ride in Canada in the near future.

Our price estimate for Target stands at $76, implying a premium of near 20% to the market price.

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Canadian Operations Are Off To A Bumpy Start

Target had about 68 stores operational in Canada at the end of the second quarter of fiscal 2013. [2] Although the initial response was good, the company isn’t doing too well in terms of customer satisfaction. According to a survey conducted by Forum Research, only 27% of the customers polled were “very satisfied” with their experience at Target. [3] Others felt that the products were too expensive and that the retailer was not able to meet customer demand since a lot of products were out of stock. [3] Moreover, the initial costs related to expansion have weighed on the company’s overall earnings. The Canadian segment generated $275 million in revenues during the second quarter and reported a loss of $169 million due to $207 million start-up related costs.

Target Believes That The Results Can Improve

Although the start wasn’t satisfactory, Target still believes that it can generate $6 billion in revenues by the end of the fifth year. [4] For this purpose, the company is following the strategy that has helped it succeed in the U.S. Earlier this year, Target announced the brands that it will be launching in its Canadian stores. Most of them included Target’s limited edition and exclusive product line such as Nate Berkus collection (interior design), Threshold (furnishing) etc. [5]

These products are popular with Target’s customers in the U.S. and might find similar response in Canada as well. In addition to its U.S. brands, the company is also launching exclusive products for its Canada stores, such as Roots Outfitters and Kate Young’s collection (a popular stylist in Hollywood). [5] Target is also aggressively promoting its REDcard rewards program due to which REDcard penetration has gone up to 2.3% within two quarters, which is a good sign for the company. Also, the retailer is building new supply chain infrastructure, focusing on technological advancements and hiring more store staff. [2]

However, The Retail Market Outlook Says Otherwise

Since the recession of 2008-2009, the economic recovery in Canada has been slow due to persistent low consumer confidence. Apart from the luxury goods industry and grocery retailers, the Canadian retail market growth has been weak, which is not a good sign for Target. The company sells most of its products at an affordable price range and earns less than 20% of its revenues from groceries. Hence, the positive aspects of Canadian retail market might not complement Target’s growth.

There has been a considerable rise in cross-border shopping lately, as the Canadian government increased duty-free exemptions on goods in June 2012. As a result, some Canadian shoppers are buying products from the U.S. at lower prices, which is negatively impacting Canada’s retail market growth. Since U.S. retailers provide a wider merchandise selection and discounting practices are more profound in the U.S., it serves as a better shopping destination than Canada. Furthermore, as the consumer audience is small and the retail market is highly developed in Canada, growth of new entries comes mainly at the expense of existing retailers’ sales. Hence, Target will face stiff competition from Canadian retailers going forward. [1]

Even if the economic scenario in Canada were to improve in the future, the region will see only a moderate growth in its retail market. [1] This can be attributed to a number of factors such as a saturated market and competitive environment. Therefore, it will not be easy for Target to grow its business at a rapid pace in Canada.

Understand How a Company’s Products Impact its Stock Price at Trefis

  1. Retailing In Canada, Euromonitor International, Mar 2013 [] [] []
  2. Target’s Q2 fiscal 2013 earnings transcript, Aug 21 2013 [] []
  3. Target profits dragged down by Canadian expansion, wary shoppers, CBC News, Aug 21 2013 [] []
  4. Target Canada continues to be a drag on earnings, The Star, Aug 21 2013 []
  5. Target Announces Brands Set To Launch In Canadian Stores, Canada Newswire, Jan 25 2013 [] []