Target Financial Analysis Argumentative Essay

Company overview

Target Corporation was originally known as the Dayton Dry Goods Co., a company founded in Minnesota in 1902.   Changing its name to the Target Corporation in January 2000, this USA based company now trades through more that 1,500 stores in 47 states as well as online through their website, Target.com.  Whilst largely known as a discount retailer, one of their latest offerings is in the form of ‘Super Target’ a sub brand that offers high quality, contemporary products that are widely believed to surpass those on offer through their main competitors WalMart and Kmart.  Today Target Corporation is within the top largest retailers in the US, placed sixth according to its sales revenue.

Together with their main competitors, Wal-Mart and K-mart, Target is one of the “Big Three” in the US retail business.  Target Corporation has been through a growth phase in recent years, maintaining consistent growth at approximately 8% additional retail square footage per year.  This has occurred through two main approaches; organic growth (opening new stores at a steady rate) and acquisition (acquiring real estate as they become free from other retailers).  However, their growth and expansion has been limited to the USA and there appears to be no plans at this stage to move the operations abroad.  Their competitors however, do and many analysts believe that this is major drawback to Target stock as not only does it act as a lost potential for opportunities in emerging markets such as China, it also exposes Target to the vulnerability of the domestic economy in the United States. 

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RECENT COMPANY PERFORMANCE

Year on year, Target Corp. has grown revenues from $51.3B to $57.9B.  In addition to this, they have reduced the percentage of sales devoted to cost of goods sold from 69.64% to 69.29% thus achieving a bottom line growth of $2.8bn, $0.4bn improvement on the previous year.

Stock

Target is listed on the New York Stock Exchange under the ticker “TGT”. They are authorized to issue up to 6,000,000,000 shares of common stock, par value $.0833, and up to 5,000,000 shares of preferred stock, par value $.01. There were 18,128 shareholders as of March 11, 2008. The current selling price of stock for Target as of September 16th 2008 is $54.40. The 52 wk high is $68.50 and the 52 wk low is $42.32. They have a beta of 0.77, an EPS of $3.35 and Div. and Yield rate of 0.64 (1.12%) (Reuters, 2008).

Ratio Analysis

Target Corporation’s financial ratios, which include the current, quick, inventory turnover, debt, return of sales, ROI, ROE and P/E for the years 2006 and 2007 are shown in Figure One.  Alongside the industry average, they can provide us with an insight into the company’s performance.

Liquidity

The current ratio and the quick ratios are both liquidity ratios.   Their current ratio of 1.37 indicates that for every $1.00 the company has in current liabilities, they have 1.37 dollars in current assets.  This ratio is useful in assisting a company to determine whether or not they have enough cash on hand to meet current obligations.  Their 2007 liquidity ratios indicate that they are currently able to meet any debt obligations.

The Quick ratio is slightly more conservative when it comes to measuring liquidity because it excludes and inventory from the calculation.  For companies like Target it may be a truer measure of liquidity given the large amount of inventories they would typically hold.   For this reason their quick ratio is lower than their current ratio instead indicating that for every $1.00 of debt they have $0.7 in assets.

Through comparing Target’s current and quick ratios with the industry averages we can see that their ratios are much higher, thus indicating that Target is not a risky proposition.  However, the larger current ratio may be an indication that they are carrying large levels of inventory, maybe even inventory that they have been unable to sell.  It is therefore useful for us to take a look at the inventory ratio.

Inventory

            The inventory turnover ratio for Target for both years is also below the industry average.  This ratio provides us with an insight into how many times inventory is bought and sold over a given period of time.  A low turnover implies poor sales and, therefore, excess inventory whilst a high ratio can be either a symptom of strong sales or ineffective buying.  The low turnover shown within Target’s financials could confirm the belief that they are carrying large levels of inventory and may be experiencing problems selling their stock.

Debt

The debt ratio is a management ratio that is used to measure the degree of financial leverage that Target is employing. Creditors also use this ratio as an indicator of the company’s risk exposure in being able to meet the interest and principle repayments. The company’s owners use this ratio to track the rate of return they can expect to realize on their investment. Target’s current debt ratio shows that they are below the industry average. Their debt to asset rate is 0.58 versus an industry average of 0.72.  This means that target approximately 6 percent of assets are financed by creditors. This would indicate that Target is a good credit risk and can meet its interest payments.

Profitability

Return on Sales, Return on Investment (ROI) and Return on Earnings (ROE) are all profitability ratios. These three, more than any of the others, demonstrate how well the company is making investment and financing decisions. The three rations provide us with an insight into how effectively the management team at Target is generating profits on sales, totals assets and stockholders’ investment. Target’s ROI and ROE are below the industry average at 7.5 and 17.8 respectively.  This may be an indicator of Target’s lower than industry average debt leverage. On the other hand, at 4.6, Target’s Net Profit Margin is significantly above the industry average, an indication that they are actually controlling their overhead expenses well (Moyer at al.  2007).

Price per Earnings

The price per earnings (P/E) ratio is a  market-based ratio that values the performance of Target in relation to the market’s perception of their value.  Interestingly, despite the positive comparisons with the industry averages already assessed, in this area Target falls below the industry average.  Why then, is the financial market valuing Target’s performance to be lower than the rest of the industry within which they operate, even though they compare favorably within many of the other ratios?  One reason for this could concern the fact that the markets are not only concerned with the current and historical performance of the company but is also interested in how the company is going to perform in the future.  They are, afterall, looking to make a future investment.  The reason for Target’s low P/E ratio could be because the markets think that Target is not going to grow at the same rate as its competitors.  This perception may have resulted from a number of things.  Target’s concentration on the home market means that they are failing to gain the benefits available from expanding on an international level.  Whilst their competitors are taking advantage of emerging new markets, they remain focused on just the USA.  This exposure to the current domestic economy here in the United States, and the fact that they reported lower than expected earnings for the last two quarters of fiscal year 2007 means that they may not be as good an investment opportunity as some of the other companies in the market

Weighted Average Cost of Capital (WACC)

Weighted Average Cost of Capital is a calculation of a firm's cost of capital. The WACC is calculated by multiplying the cost of each capital component (common stock, preferred stock, bonds and any other long-term debt) by its proportional weight and computing as follows:

Where:

Re = cost of equity , Rd = cost of debt , E = market value of the firm's equity , D = market value of the firm's debt , V = E + D, E/V = percentage of financing that is equity, D/V = percentage of financing that is debt  and Tc = corporate tax rate.

On the whole, a company’s assets are financed by either debt or equity.  By taking a weighted average, we can see how much interest the company has to pay for every dollar it finances.   The WACC is used internally by a company’s management to determine the economic feasibility of expansionary opportunities and mergers. It is the appropriate discount rate to use for cash flows with risk that is similar to that of the overall firm.

Target’s weighted average cost of capital (WACC) was 8.34% for both 2006 and 2007.   This means that the company has to be 8.34% interest for every dollar it borrows.  Given the environment within which a company like Target operates, a rate of 8.34% is appropriate as it fairly reflects the risks associated with their business and the type of capital that it requires.  This fact is supported by Target’s management team, who indicate that they believes their current capital structure is appropriate for the company and is not something they plan to change in the near future,  (Clark, 2007).

Cost of Capital

Cost of capital is a measurement that is used to determine two main things.  Firstly it helps analysts and managers to see if the company is able to meet the capital requirements of various capital holders and secondly it provides an indication of whether or not the firm’s investments are able to generate sufficient returns to compensate its capital providers. The cost of capital measurement therefore helps management to make appropriate decisions with regards to which projects they should invest in and which they should reject. This is also used to evaluate capital budgeting proposals. The choices made have important implications in the appropriateness of Target’s capital structure and in the management performance evaluation.

At present, Target’s working capital management appears to be positive. They have an average cash conversion cycle for 2006 and 2007 of 142.14 days.  Their working capital for 2007 was $4.2 million and for 2006 was $3.589 million.  Such levels of capital should be sufficient enough for the company to remain liquid whilst continuing to meet any cash obligations.

Conclusion

Target is a successful company that shows promise for future growth. The analysis conducted indicates that overall they are a good investment for potential investors.  Their differentiated business model and ability to change with the times has allowed them to operate profitably within their chosen segment.  However, they may wish to start to address how they can expand their operations on a global level in order to benefit from the emerging economies and enjoy the benefits associated with this that their competitors currently enjoy.

References

1. Clark, S. N. (2007, December 3). Consumer Discretionary Target Corporation (NYSE TGT). Krause Fund Research Fall 2007 , 11-24.
2. Moyer, McGuigan, Rao. (2007). Fundamentals of Contemporary Financial Management. Canada: Thomson Southwestern.
3. MSN.money. (2008, September 16). Target Corp. key ratios. Retrieved September 16, 2008, from ;http://moneycentral.msn.com/investor/invsub/results/compare.asp?symbol=tgt;
4. Reuters. (2008, September 16). Thomson Reuters. Retrieved September 16 2008, from Target (TGT): ;http://www.reuters.com/;
5. Target . (March, 7 2008). Target Corporation 2007 Annual Report. Retrieved September 16th, 2008, from ;http://sites.target.com/images/corporate/ar_2007/pdfs/target_annual_report_2007.pdf;
6. Wikinvest. (2008, September 16). Target(TGT). Retrieved September 16, 2008, from ;http://www.wikinvest.com/stock/Target_(TGT);

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