Target Corporation
Q3 2017 Earnings Call Transcript
Published:
- Operator:
- Ladies and gentlemen, thank you for standing by, and welcome to the Target Corporation Third Quarter Earnings Release Conference Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will invite you to participate in a question-and-answer session. As a reminder, this conference is being recorded, Wednesday, November 15, 2017. I would now like to turn the conference over to Mr. John Hulbert, Vice President, Investor Relations. Please go ahead, sir.
- John Hulbert:
- Good morning, everyone, and thank you for joining us on our third quarter 2017 earnings conference call. On the line with me today are Brian Cornell, Chairman and Chief Executive Officer; John Mulligan, Chief Operating Officer; Mark Tritton, Chief Merchandising Officer; and Cathy Smith, Chief Financial Officer. In a few moments, Brian, John, Mark and Cathy will provide their perspective on Target's third quarter performance and our plans and priorities going forward. Following their remarks, we'll open the phone lines for a question-and-answer session. As a reminder, we are joined on this conference call by investors and others who are listening to our comments via webcast. Following the call, Cathy and I will be available to answer your follow-up questions. As a reminder, any forward-looking statements that we make this morning are subject to risks and uncertainties, the most important of which are described in our SEC filings. Also in these remarks, we refer to non-GAAP financial measures, including adjusted earnings per share. Reconciliations of all non-GAAP numbers to the most directly comparable GAAP number are included in this morning's press release which is posted on our Investor Relations website. With that, I'll turn it over to Brian for his thoughts on our third quarter performance and our priorities going forward. Brian?
- Brian C. Cornell:
- Thanks, John, and good morning, everyone. We are really pleased with Target's third quarter performance, which reflected a continuation of the positive trends that emerged in the second quarter. We saw continued growth in both our comparable traffic and comparable sales in the face of more difficult prior-year comparisons on both measures. Digital sales grew 24% on top of 26% a year ago. And we announced new innovative partnerships with both Google and Pinterest that will continue to expand the digital reach of our brand. We saw a meaningful increase in the percent of our sales at regular price, reflecting the benefit of our work to communicate value more clearly and provide our guests confidence that Target assortment is priced right daily. We rolled out four new owned brands across our home and apparel categories, all of which are off to a great start. And we generated an unprecedented amount of buzz when we announced an amazing new designer partnership with Chip and Joanna Gaines called Hearth and Hand with Magnolia, which launched last week. We also remodeled 37 stores in the quarter in support of our plan to transform 110 stores this year, and we opened 12 new stores in a single week in October. These stores are located in a diverse array of neighborhoods across the country, ranging from our new Herald Square location in New York City, all the way to our newest location in Honolulu. Beyond the direct financial returns we are seeing on these investments, our guests continue to confirm for us both through their feedback and their shopping decisions that our efforts are paying off. And finally, this quarter, we made some meaningful announcements regarding our team. In early September, we announced our intent to hire an additional 100,000 team members for the peak holiday season, up from 70,000 a year ago. And later that month, we announced we would increase our minimum wage nationally to $11 an hour in October in support of a commitment to raise our national minimum to $15 an hour by the end of 2020. These investments reflect the value of our team and our commitment to supporting them, as they provide outstanding service to our guests every day. The strength of our team is never more evident than in times of need. And unfortunately, we faced several natural disasters in the quarter, from hurricanes in Texas and Florida, to wildfires in California. In the face of these challenges, there are countless stories of our team coming together to support each other and their communities, in the face of heartbreaking devastation. While our team was focused on ensuring the safety of their own families, they also worked tirelessly to reopen stores quickly and move needed essentials from other parts of the country in support of our guests, as they returned home and began the long process of rebuilding their homes. So, I want to thank our team, not just for the hard work every day, but their dedication to our guests and communities in times of need. It was only last February that we walked you through a detailed plan to accelerate investments in our business that will best position Target for continued success in a rapidly changing environment. Our plan included the investment of more than $7 billion of capital over three years to accelerate our progress in support of several key initiatives, including
- John J. Mulligan:
- Thanks, Brian, and good morning, everyone. As Brian mentioned earlier, a key priority of our work and operations is based on the goal to provide new and reliable fulfillment options for our guests. As of today, we have multiple new fulfillment options that are in some phase of testing or rollout across our network. We offer in-store pickup of digital orders, available in all of our store locations. We have a Drive Up service which we just began testing at 50 locations in the Twin Cities. We now have same-day delivery which we're testing at four stores in New York City. We offer next-day delivery through Target Restock, which is now available for 90 million guests in 11 markets. And we have a ship-from-store capability which is now in more than 1,400 of our locations. Of those five fulfillment options, only two were available as we entered the year, in-store pickup and ship-from-store. And while both of those options are relatively mature, we continue to increase the amount of our digital volume handled by our stores. Today, the stores are already fulfilling more than half of our total digital volume through the pickup and ship-from-store capabilities, and that will peak at well above 80% in the days leading up to Christmas. In fact, our stores are planning to ship over 30 million units related to digital orders in the peak four weeks of the holiday season, up from about 18 million units last year. Among the new fulfillment capabilities we've launched this year, Target Restock has been ramping up quickly. During the third quarter, we rolled out this service to an additional 10 markets across the country. We also extended the deadline for next-day delivery to 7 PM and expanded the number of eligible items to more than 15,000. The average value of a Restock order is about 50% larger than an average store transaction and we're pleased that our stores have been able to fill these orders reliably and efficiently. Another capability we've just begun rolling out this year is same-day delivery, which we are now offering at four stores in the New York City market. For a small fee, typically between $5 and $10 depending on the address, guests can leave their basket with us at check out and arrange for delivery later the same day in a time window of their choosing. Guests in these stores are enthusiastically responding to this service. Basket sizes for delivery transactions are running six to nine times the average transaction across the four stores that have the service. And our home category continues to account for more than half of the total sales on these delivery orders. And finally, our new Drive Up capability is in the earliest stage of testing. We rolled out this service to 50 stores in the Twin Cities in the third quarter and we're pleased with the early results. Specifically, guest survey scores for this service are running well ahead of goal, and the stores are outperforming our goal for average wait time. Last week, we began offering this service at our next-generation store in Houston. As we look ahead to next year, we'll continue scaling all of our new fulfillment capabilities, including same-day and next-day delivery. Our ultimate goal is to build a supply chain that can reliably deliver any item in our network to all but the most remote areas in the U.S. in two days or less, with most items delivered in one day. While a large percentage of our digital orders today are already arriving that quickly, we have more work to do before we can reliably deliver in that timeframe across all of our assortment. To achieve this goal and to be able to scale all these new fulfillment capabilities, we need to improve the speed, accuracy, and reliability of our entire supply chain, from end to end. While we have already made progress on all of these measures, we still have a lot more to do and our new flow center in Perth Amboy, New Jersey will help us get there. We added this building to our network, not because we needed the capacity, but because it will allow our team to learn in a separate facility without the distraction of operating in tandem with the rest of our operations. It's managed by a very lean team that operates like a startup, rapidly building solutions from scratch and iterating as they learn. They run their operations with all new systems and processes developed in-house, including their inventory planning system, order management system, warehouse management system and transportation. This facility is now serving five of our new small format stores in New York City, which allows them to test these new systems under the most extreme conditions. Specifically, these stores generate very high sales per square foot and have little to nonexistent backroom storage space. As a result, they require rapid replenishment. In fact, our new Herald Square and Tribeca locations are receiving multiple shipments a day from this facility. When these stores receive merchandise, they don't have the room or the time to unpack and store anything more than they need. To address this constraint, the Perth Amboy facility packs custom shipments for each store which are delivered in bins organized by aisle of the store. As a result, these stores can rapidly move deliveries right on to the sales floors and quickly replenish shelves from the pre-sorted bins. This minimizes the amount of store labor devoted to replenishment allowing the team to devote more of their time to serving their guests. Once the new process reaches a higher level of maturity, we'll be able to scale up within the facility, incorporate automation into the process and begin replicating this model elsewhere in the network. So now, while I hope it's clear that fulfillment and speed are huge areas of focus for the operations team, I want to be clear that's not our only priority. We are also investing to reach guests in new neighborhoods and elevate the experience in all of our stores. To reach new densely populated neighborhoods, we've completely changed our approach to choosing the location for our small format stores. In the past, we had a relatively rigid prototype for a store's size and layout, and our real estate team focused on finding sites that would accommodate that prototype. Today, when we find space available in an attractive neighborhood, we custom design a store that can fit the available space. These stores generate high sales productivity and higher-than-average gross margin rates, driving strong returns on investment. And for the smaller group of these stores that have now been operating for more than a year, we continue to see very healthy growth in both traffic and comparable sales. Beyond new stores, our team is quickly scaling up their ability to remodel existing locations, as we're rapidly growing the program from fewer than 30 stores in 2016 to more than 325 next year. Like our new small stores, we apply a custom approach to our remodel projects based on condition of each store and characteristics of the neighborhood. In all cases, when we remodel a store, we focus on convenience, including the incorporation of self-checkout and a separate area for store pickup. And we upgrade the shopping experience for our guests, incorporating more across merchandising opportunities. We carefully measure the financial performance of our remodeled stores, and we continue to see an average sales acceleration of 2% to 4%, right in line with our goals for the program. But beyond our investments in the physical shopping environment, we're investing in our team and our stores. We're investing in more hours in training to elevate the level of service our teams can provide. We're also changing our operating model, creating specialized teams responsible for specific categories so they can become category experts who can better assist our guests. And finally, we're investing in wages so we can continue to recruit and retain an outstanding team, a team that will continue to differentiate Target from our competitors. The strength of our team was evident as we rolled out four new brands in our stores in the third quarter. Our team presented these new brands better than we ever have before playing a key role in their early success. This has been an amazing year of change for our operations team. We're moving faster and thinking bigger than we ever have before, as we create and implement plans to modernize nearly everything we do. So while I want to stress that our future focus isn't slowing down, I also want to make it clear that everyone across our team is laser focused on serving our guests during the holiday season. I want to thank the team for all their efforts to prepare for the season and for all their upcoming hard work during our busiest time of the year. Our team is the reason Target is a special brand and a great place to work. With that, I'll turn the call over to Mark who will provide more detail on our third quarter performance and our holiday plans and merchandising. Mark?
- Mark J. Tritton:
- Thanks, John. Going into this year, two of our highest strategic priorities in merchandising were
- Catherine R. Smith:
- Thanks, Mark. Consistent with the second quarter, our third quarter traffic, comparable sales and overall financial performance were all stronger than our expectations. Third-quarter comparable sales increased 0.9%, driven by a traffic increase of 1.4%, both of these numbers decelerated sequentially as we faced a tougher prior-year comparison. However, on a two-year stacked basis, both traffic and comp sales accelerated in the third quarter. Our third quarter adjusted EPS of $0.91 was near the upper end of our guidance range of $0.75 to $0.95. GAAP EPS from continuing operations was $0.87, $0.04 lower than adjusted EPS, driven by the net effect of two offsetting factors. The primary impact was a $123 million pre-tax charge related to our October debt repurchase which lowered GAAP EPS from continuing operations by $0.14. This was largely offset by a $0.10 positive impact related to income tax matters. The majority of this $0.10 benefit was driven by a decrease in our 2016 net taxes related to our global sourcing operations. The remaining benefit was related to the favorable resolution of other income tax matters in the quarter. One other note on our third quarter tax expense, in addition to the matters we've excluded from adjusted EPS, third quarter adjusted and GAAP EPS from continuing operations reflect a $0.03 benefit from our global sourcing operations related to our 2017 taxes. Our third quarter gross margin rate of 29.7% was down about 10 basis points from last year. This decline reflects continued pressure from digital fulfillment and our work on pricing and promotions, mostly offset by our cost control efforts. Merchandise mix had a roughly neutral impact on our third quarter gross margin rates, as healthy performance in higher margin categories was balanced by strength in hardlines. Our third quarter SG&A expense rate of 21.1% was about 80 basis points higher than last year. This increase was primarily driven by compensation expense, reflecting a year-over-year increase in team member incentives combined with the impact of investments in store hours and wage rates. This was partially offset by the timing of some expenses and our cost-saving efforts. The third quarter depreciation and amortization line was about $70 million higher than last year. This increase reflects the impact of accelerated depreciation related to next year's remodel program, which will transform about three times as many stores compared with this year. We recently finalized our specific store remodel plans for next year and subsequently refined our D&A forecast by quarter. Specifically, in the fourth quarter, we expect a similar or somewhat smaller year-over-year increase in the D&A expense line than we just experienced in the third quarter. And as we look ahead to 2018, our current view is that quarterly D&A will be about $80 million higher than 2017 in each of the first three quarters next year, reflecting the continued recognition of accelerated depreciation on next year's much larger group of remodels. At the end of the third quarter, our inventory was a little more than 5% higher than last year. This represents a change from the trend we've seen in recent quarters in which our inventory has declined even as we've maintained a strong in-stock position. This quarter's increase reflects a year-over-year change in the timing of our holiday season inventory. One area that has increased is electronics in which the team has made early intentional investments in new and innovative items in the video game and mobile categories. We expect our inventory will be roughly flat to last year by the end of the fourth quarter. Over the longer term, we continue to believe we have a meaningful opportunity to increase inventory turnover as we work to speed up our supply chain. And in the near term, we believe recent favorability and payables leverage will continue into next year, providing a benefit to working capital and cash flow from operations. Our business continues to return a lot of cash. Specifically, we generated $1.5 billion of cash from operations in the third quarter. In keeping with our goals and guidance for the year, we devoted more than $800 million of capital investment to our business this quarter bringing our year-to-date totals to just over $2 billion. In addition, we returned $339 million to our shareholders in the form of dividends and another $171 million through share repurchase. Regarding the balance sheet, as I mentioned earlier, we invested $463 million to repurchase high coupon debt in the quarter, which was offset by the issuance of $750 million of 30-year debt at very favorable rates. In January, we have $1.1 billion in debt maturing which we expect to retire with cash. Now let's look ahead to our expectations for fourth quarter and full year financial performance. As I have mentioned all year, we continue to plan prudently while developing the agility to adjust to changing conditions and market opportunities. And while I hope we've shown today that we have outstanding plans going into the holiday season, we enter every holiday season knowing that it will be highly competitive and promotional. Putting all of those considerations together, we believe that Target is positioned to deliver comparable sales of flat or better in the fourth quarter with an upside potential for a 2% comp increase. We expect to see continued pressure on our gross margin rate in the fourth quarter, reflecting the cost of digital fulfillment combined with the impact of our work to ensure we are priced right daily for our guests. Our SG&A outlook reflects thoughtful investments in our team and in our stores to support outstanding service for our guests during the peak holiday season. Combined with the pressure on D&A I outlined earlier, we expect EBIT will be about $290 million lower than last year's fourth quarter. This performance translates to an expectation for both GAAP EPS from continuing operations and adjusted EPS of $1.05 to $1.25 in the fourth quarter. Adding this expectation to our actual performance through the first three quarters, you will see that our expected range for full year adjusted EPS is now $4.40 to $4.60. This is $0.06 higher than our guidance three months ago and $0.50 higher than our expectation going into the year. Regarding full year GAAP EPS from continuing operations, we expect a range of $4.38 to $4.58, $0.02 lower than adjusted EPS, driven by the net impact of debt retirement cost and tax benefits we recognize throughout the year. One other note, both our fourth quarter and full year expectations include the recognition of a 53rd accounting week this year, consistent with many other retailers. As we said before, this week is somewhat smaller than an average week in the year, at about $1 billion in sales. From an operating margin standpoint, for that week, we expect to see gross margin and SG&A rates relatively similar to our annual averages. In addition, we will benefit from leverage on D&A that week as that expense is recognized on an annual basis. And one final note, given that the holiday season plays such an important role in our fourth quarter performance, we announced today that we plan to issue a post-holiday season financial update on Tuesday, January 9. As Brian mentioned earlier, the underlying health of our business and its strong cash flow have enabled the investments that are moving our business forward today. As we look ahead to the next few years, we're planning for continued investments in our business in new and remodeled stores, our supply-chain, technology, unique brands and importantly, in our team. The good news is that our business can sustain those investments while generating enough cash to support our dividend and, when we have room within our debt ratings, share repurchase. We entered the year with the confidence that we're making the right long-term investments in our business, and our results this year have only reinforced that confidence. As we look ahead, we expect to have ample capacity to invest in our business and return capital to our shareholders allowing us to grow into an even stronger company. Now, I will turn the call back over to Brian for some final remarks.
- Brian C. Cornell:
- Thanks, Cathy. We're going to quickly move to your questions, but I wanted to add one final note first. We are planning to host our Spring 2018 Financial Community Meeting here in Minneapolis on March 5 and 6. John Hulbert will send out more details in January, but for now, we wanted to let you know the dates so you can hold them on your calendar. We'll be scheduling the meeting to allow attendees to arrive on the afternoon of the 5th and you'll be able to return home before the end of the day on the 6th. We hope to see you at that meeting. So, with that, we will conclude our prepared remarks. Now, John, Mark, Cathy and I will be happy to take your questions.
- Operator:
- Thank you. David Schick from Consumer Edge Research, you may go ahead.
- David A. Schick:
- Hi. Good morning. Thanks for taking my question. You mentioned several times throughout the call, and frankly throughout the year, that you are trying to take a conservative approach to planning, but you also mentioned β and you also mentioned the strength and the confidence you have as this quarter β that you just reported in the prior quarter happened in the traffic and the merchandising. Can you sort of square that circle for us? Because the shares are obviously reacting to guidance this morning, so help us frame conservatism versus confidence.
- Brian C. Cornell:
- David, thank you and good morning. I think sitting here today, we feel very confident that we're making very good progress against the plans that we set out earlier this year. If I think about the state of our business today, we're seeing a great response to the eight new brands that we've launched. As we've remodeled now over 100 stores, we continue to see the lift that we were projecting up 2% to 4%. We've seen a tremendous response to our new small formats that we've been opening up in new neighborhoods and on college campuses. And as you know, we opened up a number of new stores in this last quarter. And whether it was the results we've seen in Herald Square or all the way out in Hawaii, the guest has responded very, very well. We continue to see very strong performance from a digital standpoint, outpacing the industry by a 2x factor. And during the quarter again, we saw very strong digital growth, and that's been underpinned by the progress we've made from a digital fulfillment standpoint and some of the things that John talked about during his prepared remarks. So sitting here today, I think we're making great progress, and I think we'll continue to see that progress extend into the fourth quarter. So we entered the quarter with a lot of confidence. We know there's a lot of business that has to be done and we're off to a very good start led by the reaction to Hearth and Hand, as well as in the other initiatives that are in place. So I think we're taking the right approach, but we entered the quarter with a lot of confidence and making a lot of progress against literally every initiative that we've set forth earlier this year.
- David A. Schick:
- Just to sort of follow up to that, is there any β what would be the β do you expect to backslide against any traction in key variables, comp, gross profit dollar comp? Help us understand that with this confidence in the guide.
- Brian C. Cornell:
- David, we don't expect to see any deterioration in the progress that we've been making throughout the year. So, again, I think we enter the fourth quarter highly confident and a very strong position with our stores performing incredibly well. Great merchandise, a terrific marketing campaign, great digital capabilities and an expanded suite of digital fulfillment capability. So we feel very good about how the entire business is set to perform in the fourth quarter.
- David A. Schick:
- Thank you so much.
- Brian C. Cornell:
- Thank you.
- Operator:
- Thank you. Peter Benedict from Baird, you may go ahead.
- Peter S. Benedict:
- Oh, hi. Thanks, guys. So just on price perception, the work you've been doing, I mean, it sounds like you're pleased with where you've gotten that now at the end of third quarter. Just β I mean, do you think that that's an ongoing process that you're going to have to do? How are you β you mentioned some of the measurements you're using on that, but just trying to understand is that something you let ride here for the fourth quarter and then reassess where you are next year, or do you feel like you've gotten yourself to a spot where there's going to be no further adjustments required?
- Brian C. Cornell:
- Peter, I think Mark and his team have made tremendous progress over the course of the year. And as we've talked about a number of times now, we're seeing a significant shift of our business towards everyday regular price which is really important over the long term. So we're going to continue to make sure that we're committed to offering great value, that we're priced right daily. And during the fourth quarter, we'll provide exciting promotions to support those items that we know our guests are going to be interested in shopping for at Target. So it's an ongoing commitment. We want to make sure we deliver great value across the seasons and we're going to make sure that we couple that with exciting promotions in the fourth quarter.
- David A. Schick:
- Okay. Thank you. And then one maybe follow up for John, you talked about a lot of the fulfillment options that you guys are working on. Help us through how does that impact the store labor model as you see kind of going forward? And within that, the $15 minimum wage plan, I understand that's not a β it's not a fourth quarter question, it's more just as we look out the next few years, how do you see that β those having an impact on the labor? Thank you.
- John J. Mulligan:
- Well, I think clearly as we do more fulfillment out of the store, we will add labor to support that. I think we've said since February, we're going to invest in the labor in our stores, invest in training, invest in having experts in the store, invest in having people on the sales floor and changing the operating model for those stores. So that's an important part of what we're doing. Almost separately and independently, we're building teams that β so that we don't take hours away from everything else we're doing that are handling the fulfillment in the backroom. So it's really a question of the operating model in the store that's evolving. And we feel really good about utilizing the stores that are the closest, fastest and cheapest way to get merchandise to our guests. They have significant capabilities now. We're doing same day, next day, two day, pickup, Drive Up, all kinds of ways to meet the guests' needs, and I think that's the important factor, all centered around using the store as the hub. And we think it's a highly efficient way to use our assets and we have great teams that can meet the capabilities that we need for our guests.
- David A. Schick:
- Okay. Great. Thank you.
- Brian C. Cornell:
- Peter, thank you.
- Operator:
- And thank you. Our next question comes from Edward Kelly from Wells Fargo. You may go ahead.
- Edward J. Kelly:
- Yes. Hi. Good morning, guys. So I guess my first question really is around the fourth quarter and the comparisons that you were facing last year. So in-store comps were particularly soft, gross margin was down a lot, there was issues around digital fulfillment. I guess β you talk about the underlying momentum of the business not stalling at all, but can you talk about how you expect to cycle those issues from last year?
- Brian C. Cornell:
- Ed, again, as we enter this season, I think we're in a much stronger position. John underscored the fact that we've got an expanded array of digital fulfillment capabilities. Mark's talked about the progress we've made from both a brand standpoint, but also a value standpoint. I think we continue to enhance our digital capabilities. So I think we enter this season in a much stronger position. And I think what's really important to recognize is the investments we've made in our team and our stores puts us in a very strong position as we enter the fourth quarter. So I feel great about the investments we've made in wages, in hours, in seasonal hiring, and I think our stores are going to drive both our digital business and our store business throughout the fourth quarter. So I think we enter the season in a very different position versus last year. And I think that's reflected in the start that we've seen to the season and the approach we're taking throughout the fourth quarter.
- Edward J. Kelly:
- Okay. And second question for you, I just want to β I know you don't want to give guidance for next year, but I was hoping that maybe you could talk about the puts and the takes in terms of what we should be thinking about, areas that you could see outsized investment. D&A is going to be a headwind next year, wages clearly seem like they'll be a headwind, your thoughts on price investments from here. The Street's sort of looking for a modest decline in earnings. Seems like something like that β larger than that's possible. I just β I don't know how much at this point, Brian, you can help with that, but I think it is an area that we're all sort of wrestling with.
- Brian C. Cornell:
- Well, Ed, we're hopeful that you'll join us in March for next year's Financial Community Day. Obviously, we're not going to provide 2018 guidance today. But I'll give you a preview. You're going to hear us talk about many of the same things we've been talking about this year
- Edward J. Kelly:
- Okay. Thank you.
- Operator:
- Thank you. Chris Horvers from JPMorgan, you may go ahead.
- Christopher Horvers:
- Thanks. Good morning. Two questions. So first, can you talk about how the essentials category β it was down slightly. You mentioned more share being taken on the unit side. Can you talk about unit growth in essentials and how that's progressed over the past couple of quarters as you've put more muscle behind the price investments?
- Brian C. Cornell:
- Sure. Chris, why don't we let Mark walk you through how we're approaching our investments in essentials.
- Mark J. Tritton:
- Hi, Chris. Yeah, let me share with you. So we've been sharing this year that we took a journey in terms of ensuring we were priced right daily and that we were able to create and communicate to our guests the right value, and that started in April of this year and we completed that through the end of the third quarter. What we've seen with that is, we had an expectation that that's not an immediate (49
- Christopher Horvers:
- So, I think in the second quarter, I think essentials was up slightly. So did it β was it essentially that the price investment accelerated and the unit velocity maintained or β maintain its positive trajectory or did it accelerate?
- Brian C. Cornell:
- Yeah. Chris, I think that's exactly what we're seeing, continued investment across multiple categories. And as Mark talked about, the first thing we see is an increase in units, an increase in trips and ultimately that's going to drive positive comps over time. So, I think the efforts are paying off relatively quickly and we feel really good about the guest response.
- Christopher Horvers:
- Understood. Have a great holiday.
- Brian C. Cornell:
- Thank you.
- Operator:
- Thank you. Our next question comes from Bob Drbul from Guggenheim. You may go ahead.
- Robert Drbul:
- Hi. Good morning.
- Brian C. Cornell:
- Hey, Bob.
- Robert Drbul:
- Just had two questions. Good morning. The first one is on in-stocks or out-of-stocks, you look at the inventory levels that Cathy talked about, are you seeing the in-stock levels where you'd like them at this point? And then the second question that I have is around fulfillment costs, when you look at β I think you said β I think John said stores are fulfilling more than 50% of digital, peak at 80%. When you think about the fourth quarter and the costs around that increased fulfillment of digital by the stores, is it a one-for-one basis in terms of the level of increases there?
- John J. Mulligan:
- I'll start with the in-stock question. I think, Bob, we talked about in-stocks last year in February. It's a journey for us. We know, I think we've made a lot of progress in in-stocks given our current capabilities, but we also said in order to really solve the problem, we need to fix some fundamental capabilities in our supply chain around speed, reliability, inventory placement, and that's where we are on the journey. So, the inventory increase at the end of Q3, as Mark said, more related to us being sure we're ready for the fourth quarter in categories like electronics, Hearth and Hand, where we took positions, intentional inventory positions, to increase inventories in advance of the fourth quarter, less to do with our management of day-to-day in-stocks/out-of-stocks. We continue to work on those. And as I said, there's the short term working within our current capabilities and then the longer term solve that comes as we continue to improve our overall supply chain capabilities. Your second question, I'm not entirely clear, Bob, on where you're going. Maybe you could clarify how fulfill β your question, the store labor related to fulfillment, I'm not β I didn't quite understand it.
- Robert Drbul:
- Yeah. Sorry. Just from the perspective of the expense levels, like the pressure that you saw in the third quarter versus the expectation of the pressure fulfilling more than 80% in the stores on the expense line, specifically.
- John J. Mulligan:
- Yeah. I wouldn't compare to third quarter. Compared to last year, we are doing more fulfillment in-store. As we said, we think that's the most cost-effective way given the total P&L, so shipping plus store labor, we think that's the most cost-effective way to do it. Compared to last year, we saw significant spikes last year near the end of the quarter, approaching 80% fulfillment. And I would say, when we get into that 80% range what really goes up is store pickup, and we'll take that model all day long, highly efficient for us, highly profitable from a digital perspective. So, when our mix gets that high in-store, we actually like the economics a lot.
- Robert Drbul:
- Thank you very much.
- Operator:
- Thank you. Matt Fassler from Goldman Sachs, you may go ahead.
- Matthew J. Fassler:
- Thank you so much. Good morning. I have got two questions, and my first relates to gross margin. Just to revisit, the fact that you do have this very depressed compare from a year ago and you're actually entering Q4 with pretty good gross margin momentum, down only very nominally in Q3 as some of your new brands are really starting to get traction. So, is your thinking on the expectation of a declining gross margin simply a factor of more business being done online each year and the cost of fulfillment associated with that, or are some of the new fulfillment options that you're introducing just somewhat more costly and you're giving yourself rooms to absorb that pressure?
- Catherine R. Smith:
- Good morning, Matt. This is Cathy.
- Matthew J. Fassler:
- Hi.
- Catherine R. Smith:
- I think I would look about it the way we always β we have all year approaching it, which is we're trying to be prudent as we plan into the fourth quarter. We're excited about what we've seen so far, but it's early in a very important quarter. The pressure that we are anticipating is around digital fulfillment, as well as all the work we continue to do around value. And we're offsetting that with cost savings continuing into the fourth quarter. So I would look at it as just doing what we said we would do all year long, which is be prudent, plan appropriately, and make sure that we set the business up for success.
- Brian C. Cornell:
- Yes, Matt, I'd only build on a couple of the comments that Cathy made
- Matthew J. Fassler:
- That's super helpful. The quick follow-up relates to REDcard penetration. So we noted that the year-on-year penetration seems to have stabilized this quarter after having shown some increases for a period of time. Anything to glean from the stabilization of that trend?
- Catherine R. Smith:
- We are really excited about some of the capabilities we're adding to REDcard coming into this fourth quarter. I have to tell you, I'm one of the early users for our wallet application, and it is phenomenally fast and convenient and great experience for the guests. So as we've continued to ramp up some exclusives around REDcard, our guests are responding. We're seeing additional capabilities come into REDcard holders, our best guests into the fourth quarter, so I would expect that we'll see that trend continuing to be favorable.
- Brian C. Cornell:
- Yeah. Matt, I think we also recognize that as a byproduct of the investments we've been making in our stores, our brands, moving into new neighborhoods, we're bringing in new guests to Target. So over time, we certainly want to convert them to REDcard holders. But I think what we're seeing is, as we move into new catchments, these are new guests that are shopping at Target. Over time, they'll start adapting to our REDcard. I think our new brands are bringing new guests into our stores, and I think the focus that we've placed around value is also attracting a new shopper. So over time, that provides us tremendous opportunities to continue to build REDcard penetration. And one of the metrics that we haven't talked about on the call is the fact that traffic was up 1.4%. And that's existing guests shopping more often, but it also is new guests coming to our stores and our site. So over time, those are potential new prospects for our REDcard, and we certainly expect to see that conversion as we go into 2018.
- Matthew J. Fassler:
- Thank you so much, guys.
- Brian C. Cornell:
- Thank you.
- Operator:
- Thank you. Robby Ohmes from Bank of America Merrill Lynch, you may go ahead.
- Robert Ohmes:
- Oh, thanks. Just two quick questions. Just on the fourth quarter, the sort of the breadth of the range there, can you just give us the scenarios, like sort of what brings you to the low-end of the fourth quarter range, the $1.05 versus the $1.25? And the other question I had was just I was wondering if you would share some of the early results on the pickup customer versus the Drive Up customer, which is better, whose basket is bigger, how much bigger is the basket versus the store shopper or just plain online shopper that gets shipped to home? Anything you can share about the metrics and what you're excited about there? Thanks.
- Brian C. Cornell:
- Robby, why don't we let John start by talking about that pickup shopper, and then we'll come back to our guidance for the quarter?
- John J. Mulligan:
- I might start with the Drive Up shopper there. I think our guest survey scores there, NPS scores, are frankly off the charts. We see a high utility. It's mom with two kids in the back, it's our core Target shopper who just doesn't β it's raining outside and doesn't want to get out of the car. So we've seen very, very high scores there. The baskets are mixed, as you'd imagine, right? Sometimes they're larger, sometimes it's I need one thing. And the same is very true for pickup in-store, driven by β it can be driven by promotional cadence, it can be driven by convenience. There's lots of different reasons people choose that option, and so the basket varies. There's nothing really to glean from that other than for both of them we see very high NPS scores for our guests which is the most important thing from our perspective.
- Brian C. Cornell:
- Robby, why don't I clear up the question around guidance for the quarter, and really I'll focus on the full year. I think our fourth quarter guidance is a reflection of the performance we've been delivering throughout the year. And I'll go back and note, as Cathy discussed, our full year guidance is up $0.50. Now, I'll do the math for you. That's $500 million of improvement versus our original guidance. So we certainly approach the fourth quarter with a level of balance and conservatism, but feel good about the momentum that we have and we think the performance we've been delivering throughout the year will be reflected in our fourth quarter. So we feel confident, we're making good progress. There's a lot of business still to be done in the fourth quarter, and I think our range of comp of flat to 2% and the approach we're taking from an EPS standpoint just reflects the approach we've been taking throughout the year. So with that, I think, operator, we've got time for one last question.
- Operator:
- Thank you. Kate McShane from Citi, you may go ahead.
- Kate McShane:
- Hi. Thank you for taking my question. My question was around fulfillment as well and a little bit longer term in nature. I had wondered with regards to the Drive Up and the same-day delivery, if there are any early indications of what the limitations might be in terms of where you can introduce that. And then also with regards to the profitability of how those two fulfillment options relate to the ship-from-store.
- Brian C. Cornell:
- Yeah. I'll let John talk about the profitability component, but, Kate, I think one of the great things about our strategy is the important role our stores play. And as we think about Drive Up, we think about same-day, those are going to be enabled by the 1,800 stores that are in neighborhoods around the country. So we should be able to continue to expand that over time and meet the needs of our guests no matter where they live and which store they shop in.
- John J. Mulligan:
- And on your question about profitability, clearly, the closer we are to the store, the better we like it. When a guest comes in and takes it off the shelf, great. Only slightly disadvantage to that would be pickup or Drive Up because there is one more touch, but really again economically a great, great solution for us. As we get into shipping, same-day delivery is more expensive. There's no question about that. And at least today, our guest research leads us to believe guests understand that. They want it priced right, they want the convenience, and they understand there may be a charge to get it to them at the time they wanted during that day. And we've seen that in the four stores in New York, no pushback at all in the delivery charge. And we β the great thing is, we see the baskets, as I said, six to nine times larger, so it ends up being a highly, highly profitable transaction for us. And so there are markets where that will work β that type of transaction will work really well. There are other markets where, as you said, there'll be standard two-day shipping in there. We're working hard to reduce cost throughout that shipping while improving the speed. And so that's on our team so that the guests get the great service and we make that a great economic transaction for Target as well.
- Brian C. Cornell:
- All right.
- John J. Mulligan:
- But we feel good about our ability to make all of it work.
- Brian C. Cornell:
- So with that, operator, that concludes our third quarter 2017 earnings conference call. I want to thank everybody for participating, and wish everyone a happy holiday season. So, thank you.
Other Target Corporation earnings call transcripts:
- Q1 (2025) TGT earnings call transcript
- Q4 (2024) TGT earnings call transcript
- Q3 (2024) TGT earnings call transcript
- Q2 (2024) TGT earnings call transcript
- Q1 (2024) TGT earnings call transcript
- Q4 (2023) TGT earnings call transcript
- Q3 (2023) TGT earnings call transcript
- Q2 (2023) TGT earnings call transcript
- Q1 (2023) TGT earnings call transcript
- Q4 (2022) TGT earnings call transcript