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TGT > SEC Filings for TGT > Form 10-Q on 27-Nov-2013All Recent SEC Filings

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Form 10-Q for TARGET CORP


27-Nov-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Executive Summary

The third quarter 2013 includes the following notable items:
• GAAP earnings per share were $0.54, including higher-than-expected dilution of $0.29 related to the Canadian Segment.

• Adjusted earnings per share were $0.84 on a comparable sales increase of 0.9 percent.

• We opened 32 stores in the quarter - 23 in Canada and 9 in the U.S.

Sales were $17,258 million for the three months ended November 2, 2013, an increase of $657 million or 4.0 percent from the same period in the prior year. Cash flow provided by operations was $4,753 million and $3,348 million for the nine months ended November 2, 2013 and October 27, 2012, respectively. On March 13, 2013, we sold our entire U.S. consumer credit card portfolio to TD Bank Group (TD) and recognized a gain of $391 million. This transaction is described in Note 2 to the financial statements included in this Form 10-Q. In connection with the sale of our U.S. credit card receivables, we received cash of $5.7 billion. Of this amount, $2.7 billion is included in cash flow provided by operations and $3.0 billion is included in cash flow provided by investing activities.

Earnings Per Share                    Three Months Ended                                    Nine Months Ended
                              November 2,            October 27,                    November 2,            October 27,
                                     2013                   2012      Change               2013                   2012      Change
GAAP diluted earnings per
share                       $        0.54          $        0.96       (44.3 )%   $        2.26          $        3.06       (26.3 )%
Adjustments(a)                       0.30                  (0.06 )                         0.82                   0.06
Adjusted diluted earnings
per share                   $        0.84          $        0.90        (6.0 )%   $        3.08          $        3.12        (1.3 )%

Note: A reconciliation of non-GAAP financial measures to GAAP measures is provided on page 19.
(a) Adjustments represent the diluted EPS impact of our 2013 Canadian market entry, adjustments related to the sale of our U.S. credit card receivables portfolio, favorable resolution of various income tax matters and the loss on early retirement of debt.

Analysis of Results of Operations

U.S. Segment

U.S. Segment Results                 Three Months Ended                                Nine Months Ended
                                November 2,       October 27,     Percent         November 2,       October 27,      Percent
(dollars in millions)                  2013              2012      Change                2013              2012       Change
Sales                         $      16,925     $      16,601         2.0  %   $       50,387     $      49,589          1.6  %
Cost of sales                        11,849            11,569         2.4              34,916            34,406          1.5
Gross margin                          5,076             5,032         0.9              15,471            15,183          1.9
SG&A expenses(a)                      3,595             3,409         5.4              10,437             9,879          5.6
EBITDA                                1,481             1,623        (8.8 )             5,034             5,304         (5.1 )
Depreciation and amortization           504               519        (3.1 )             1,488             1,537         (3.2 )

EBIT $ 977 $ 1,104 (11.4 )% $ 3,546 $ 3,767 (5.9 )%

Note: Prior period segment results have been revised to reflect the combination of our historical U.S. Retail Segment and U.S. Credit Card Segment into one U.S. Segment. Quarterly and full-year historical information for the three most recently completed years reflecting the results for the U.S. Segment and Canadian Segment are attached as Exhibit (99) to our current report on Form 8-K filed April 16, 2013.
Note: See Note 9 to our consolidated financial statements for a reconciliation of our segment results to earnings before income taxes.
(a) SG&A includes credit card revenues and expenses for all periods presented prior to the March 2013 sale of our U.S. consumer credit card portfolio to TD Bank. For the three and nine months ended November 2, 2013, SG&A also includes $184 million and $471 million, respectively, of profit-sharing income from the arrangement with TD.


U.S. Segment Rate Analysis                       Three Months Ended October 27, 2012                2013 U.S. Segment Change vs. 2012
                              Three
                             Months                             Impact of
                              Ended                       Historical U.S.        Historical                                 Historical
                        November 2,     U.S. Segment,         Credit Card       U.S. Retail         U.S. Segment,          U.S. Retail
                               2013        as revised          Segment(a)            Segment           as revised              Segment
Gross margin rate              30.0 %            30.3 %                 -   pp          30.3 %            (0.3)pp              (0.3)pp
SG&A expense rate              21.2              20.5                (0.9 )             21.4                  0.7                 (0.2 )
EBITDA margin rate              8.7               9.8                 0.9                8.9                 (1.1 )               (0.2 )
Depreciation and
amortization expense
rate                            3.0               3.1                   -                3.1                 (0.1 )               (0.1 )
EBIT margin rate                5.8               6.6                 0.8                5.8                 (0.8 )                  -



U.S. Segment Rate Analysis                        Nine Months Ended October 27, 2012                2013 U.S. Segment Change vs. 2012
                        Nine Months                             Impact of
                              Ended                       Historical U.S.         Historical                                Historical
                        November 2,     U.S. Segment,         Credit Card       U.S. Retail         U.S. Segment,          U.S. Retail
                               2013        as revised          Segment(a)            Segment           as revised              Segment
Gross margin rate              30.7 %            30.6 %                 -   pp          30.6 %              0.1pp                0.1pp
SG&A expense rate              20.7              19.9                (0.9 )             20.8                  0.8                 (0.1 )
EBITDA margin rate             10.0              10.7                 0.9                9.8                 (0.7 )                0.2
Depreciation and
amortization expense
rate                            3.0               3.1                   -                3.1                 (0.1 )               (0.1 )
EBIT margin rate                7.0               7.6                 0.9                6.7                 (0.6 )                0.3

Rate analysis metrics are computed by dividing the applicable amount by sales.
(a) Represents the impact of combining the historical U.S. Credit Card Segment and the U.S. Retail Segment into one U.S. Segment. Compared with the historical U.S. Retail Segment results for the same period, segment results, as revised, reflect lower SG&A rates and increased EBIT and EBITDA margin rates resulting from the inclusion of credit card profits, net of expenses, within SG&A compared with historical U.S. Segment results for the same period.

Sales

Sales include merchandise sales, net of expected returns, from our stores and
our digital business, as well as gift card breakage.

Sales by Product Category       Three Months Ended               Nine Months Ended
                           November 2,     October 27,     November 2,     October 27,
                                  2013            2012            2013            2012
Household essentials                26 %            26 %            27 %            26 %
Hardlines                           15              14              15              15
Apparel and accessories             20              20              20              20
Food and pet supplies               21              21              21              21
Home furnishings and décor          18              19              17              18
Total                              100 %           100 %           100 %           100 %

Comparable sales is a measure that highlights the performance of our existing stores and digital sales by measuring the change in sales for a period over the comparable, prior-year period of equivalent length. Comparable sales measures vary across the retail industry. As a result, our comparable sales calculation is not necessarily comparable to similarly titled measures reported by other companies. Comparable sales include all sales, except sales from stores open less than 13 months.


Comparable Sales                            Three Months Ended               Nine Months Ended
                                      November 2,      October 27,     November 2,      October 27,
                                             2013             2012            2013             2012
Comparable sales change                       0.9  %           2.9 %           0.5  %           3.7 %
Drivers of change in comparable sales
Number of transactions                       (1.3 )            0.5            (1.5 )            1.0
Average transaction amount                    2.2              2.4             2.1              2.7
Selling price per unit                        3.3              1.2             1.5              1.6
Units per transaction                        (1.1 )            1.2             0.6              1.0

The collective interaction of a broad array of macroeconomic, competitive and consumer behavioral factors, as well as sales mix, and transfer of sales to new stores makes further analysis of sales metrics infeasible.

Credit is offered by TD to qualified guests through branded proprietary credit cards: the Target Credit Card and the Target Visa (Target Credit Cards). Additionally, we offer a branded proprietary Target Debit Card. Collectively, we refer to these products as REDcards®. Guests receive a 5-percent discount on virtually all purchases when they use a REDcard at Target. We monitor the percentage of sales that are paid for using REDcards (REDcard Penetration) because our internal analysis has indicated that a meaningful portion of the incremental purchases on REDcards are also incremental sales for Target, with the remainder representing a shift in tender type.

REDcard Penetration            Three Months Ended               Nine Months Ended
                          November 2,     October 27,     November 2,     October 27,
                                 2013            2012            2013            2012
Target Credit Cards               9.5 %           8.0 %           9.1 %           7.6 %
Target Debit Card                10.4             6.0             9.5             5.2
Total REDcard Penetration        19.9 %          14.0 %          18.6 %          12.8 %

Gross Margin Rate

For the three months ended November 2, 2013, our gross margin rate decreased to 30.0 percent from 30.3 percent in the comparable period last year. This decrease reflects category rate pressure from seasonal markdowns and a 0.2 percentage point impact of our integrated growth strategies of our 5% REDcard Rewards loyalty program and our store remodel program. Declines in the gross margin rate were partially offset by a 0.2 percentage point benefit related to changes we made to certain merchandise vendor contracts. Vendor contract changes regarding payments received in support of marketing programs resulted in more vendor consideration being recognized in 2013 as a reduction of our cost of sales rather than a reduction to SG&A. The change to vendor contracts increased our gross margin rate for both the three and nine months ended November 2, 2013, with an equal and offsetting increase in our SG&A rate, and has no impact on EBITDA or EBIT margin rates.

For the nine months ended November 2, 2013, our gross margin rate increased to 30.7 percent from 30.6 percent in the comparable period last year. The rate benefited from underlying rate improvements within categories and a 0.2 percentage point change related to the change in certain merchandise vendor contracts. The increases in the rate were partially offset by a 0.3 percentage point impact from our integrated growth strategies.

Selling, General and Administrative Expense Rate

For the three months ended November 2, 2013, our SG&A expense rate was 21.2 percent, increasing from 20.5 percent in the comparable period last year. The SG&A rate increased 0.6 percentage points due to a smaller contribution from the credit card portfolio. Our continued investment in technology and distribution in support of multichannel initiatives also increased the rate. The 2013 change to certain merchandise vendor contracts increased our SG&A rate by 0.2 percentage points, with an equal and offsetting increase to the gross margin rate discussed above. Increases in the SG&A rate were partially offset by the continued benefit from our expense optimization efforts and a 0.3 percentage point benefit for the three months ended November 2, 2013, from favorable incentive compensation and store hourly payroll.

For the nine months ended November 2, 2013, our SG&A expense rate was 20.7 percent, increasing from 19.9 percent in the comparable period last year. The SG&A rate increased 0.6 percentage points due to a smaller contribution from the credit card


portfolio. Our continued investment in technology and distribution in support of multichannel initiatives also increased the rate. The 2013 change to certain merchandise vendor contracts increased our SG&A rate by 0.2 percentage points, with an equal and offsetting increase to the gross margin rate discussed above. Increases in the SG&A rate were partially offset by the continued benefit from our expense optimization efforts and a 0.4 percentage point benefit from favorable incentive compensation and store hourly payroll.

Depreciation and Amortization Expense Rate

For the three and nine months ended November 2, 2013, our depreciation and
amortization expense rate was 3.0 percent compared with 3.1 percent in the
respective prior year periods. The decrease was due to the favorable impact of
higher sales combined with stable depreciation and amortization expenses from
the steady pace of capital investments in recent years.

Store Data

Change in Number of Stores            Three Months Ended               Nine Months Ended
                                 November 2,     October 27,     November 2,     October 27,
                                        2013            2012            2013            2012
Beginning store count                  1,788           1,772           1,778           1,763
Opened                                     9              10              19              22
Closed                                     -               -               -              (1 )
Relocated                                  -              (1 )             -              (3 )
Ending store count                     1,797           1,781           1,797           1,781
Number of stores remodeled
during the period                         32              32             100             252


Number of Stores and               Number of Stores                              Retail Square Feet(a)
Retail Square Feet   November 2,     February 2,     October 27,     November 2,     February 2,     October 27,
                            2013            2013            2012            2013            2013            2012
General merchandise
stores                       293             391             395          34,273          46,584          47,038
Expanded food
assortment stores          1,245           1,131           1,130         160,891         146,249         146,087
SuperTarget stores           251             251             251          44,500          44,500          44,500
CityTarget stores              8               5               5             820             514             514
Total                      1,797           1,778           1,781         240,484         237,847         238,139

(a) In thousands: reflects total square feet, less office, distribution center and vacant space.

Canadian Segment

We opened 91 stores in Canada during the first nine months of 2013. After quarter end, we opened an additional 33 stores, completing our goal of opening 124 Canadian Target stores by the end of 2013. Our Canadian Segment generated sales of $333 million and $694 million for the three and nine months ended November 2, 2013. The gross margin rates of 14.8 percent and 24.4 percent for the three and nine months ended November 2, 2013, respectively, reflect efforts to clear excess inventory following lower than anticipated year-to-date sales and supply chain start-up challenges. In addition to operating expenses, our Canadian Segment SG&A expense includes start-up costs.


Canadian Segment Results               Three Months Ended                             Nine Months Ended
                                November 2,          October 27,   Percent      November 2,        October 27,     Percent
(dollars in millions)                  2013                 2012    Change             2013               2012      Change
Sales                         $         333       $            -       n/a  % $         694      $           -         n/a  %
Cost of sales                           284                    -       n/a              525                  -         n/a
Gross margin                             49                    -       n/a              169                  -         n/a
SG&A expenses                           221                   72     206.2              621                154       304.1
EBITDA                                 (172 )                (72 )   138.2             (452 )             (154 )     194.1
Depreciation and amortization            66                   24     177.5              160                 67       138.8
EBIT                          $        (238 )     $          (96 )   147.9  % $        (612 )    $        (221 )     177.3  %



Canadian Segment Rate Analysis                      Three Months         Nine Months
                                                  Ended November      Ended November
                                                         2, 2013             2, 2013
Gross margin rate                                           14.8  %             24.4  %
SG&A expense rate                                           66.6                89.5
EBITDA margin rate                                         (51.8 )             (65.1 )
Depreciation and amortization expense rate                  19.7                23.1
EBIT margin rate                                           (71.5 )             (88.2 )

Due to the start-up nature of our Canadian Segment, the rates above may not be indicative of future results.

REDcard Penetration                                 Three Months        Nine Months
                                                  Ended November     Ended November
                                                         2, 2013            2, 2013
Target Credit Cards                                          1.4 %              1.2 %
Target Debit Card                                            1.5                1.4
Total REDcard Penetration                                    2.9 %              2.6 %



Change in Number of Stores     Three Months Ended             Nine Months Ended
                           November 2,    October 27,    November 2,    October 27,
                                  2013           2012           2013           2012
Beginning store count               68              -              -              -
Opened                              23              -             91              -
Ending store count                  91              -             91              -


Number of Stores and Retail
Square Feet                            Number of Stores              Retail Square Feet(a)
                                 November 2,     October 27,     November 2,     October 27,
                                        2013            2012            2013            2012
General merchandise stores                91               -          10,325               -

(a) In thousands; reflects total square feet, less office, distribution center and vacant space.

Other Performance Factors

Net Interest Expense

In the third quarter 2013, net interest expense decreased to $165 million from $192 million in 2012, benefiting from first quarter debt retirement.

Net interest expense for the nine months ended November 2, 2013 was $965 million, which includes a $445 million loss on early retirement of debt, compared with $558 million for the nine months ended October 27, 2012.


Provision for Income Taxes

Our effective income tax rate for the three and nine months ended November 2, 2013 was 36.6 percent and 36.3 percent, respectively, up from 34.5 percent and 35.2 percent for the three and nine months ended October 27, 2012, respectively. This change was primarily driven by a lower benefit associated with the favorable resolution of various income tax matters, combined with the net effect of increased losses related to Canadian operations. The resolution of various income tax matters reduced tax expense by $25 million and $57 million for the three and nine months ended October 27, 2012, respectively, compared with $7 million and $11 million for the same periods this year.

Reconciliation of Non-GAAP Financial Measures to GAAP Measures

Our segment measure of profit is used by management to evaluate the return we are achieving on our investment and to make operating decisions. To provide additional transparency, we have disclosed non-GAAP adjusted diluted earnings per share, which excludes the impact of our 2013 Canadian market entry, adjustments related to the sale of our U.S. credit card receivables portfolio, favorable resolution of various income tax matters and the loss on early retirement of debt. We believe this information is useful in providing period-to-period comparisons of the results of our U.S. operations. This measure is not in accordance with, or an alternative for, generally accepted accounting principles in the United States. The most comparable GAAP measure is diluted earnings per share. Non-GAAP adjusted EPS should not be considered in isolation or as a substitution for analysis of our results as reported under GAAP. Other companies may calculate non-GAAP adjusted EPS differently than we do, limiting the usefulness of the measure for comparisons with other companies.


Reconciliation of Non-GAAP Financial Measures to GAAP Measures

                                                                                     Consolidated
(millions, except per share data)        U.S.        Canadian          Other           GAAP Total
Three Months Ended November 2,
2013
Segment profit                    $       977     $      (238 )   $        -        $         739
Net interest expense                      145              20              -                  165
Reduction of beneficial interest
asset                                       -               -             36                   36
Earnings before income taxes              832            (258 )          (36 )                538
Provision for income taxes(b)             294             (76 )          (21 ) (d)            197
Net earnings                      $       538     $      (182 )   $      (15 )      $         341
Diluted earnings per share        $      0.84     $     (0.29 )   $    (0.02 )      $        0.54
Three Months Ended October 27,
2012
Segment profit                    $     1,104     $       (96 )   $        -        $       1,008
Net interest expense                      172              20              -                  192
Gain on receivables held for sale           -               -           (156 )               (156 )
Earnings before income taxes              932            (116 )          156                  972
Provision for income taxes(b)             337             (33 )           31   (d)            335
Net earnings                      $       595     $       (83 )   $      125        $         637
Diluted earnings per share        $      0.90     $     (0.13 )   $     0.19        $        0.96

Nine Months Ended November 2,
2013
Segment profit                    $     3,546     $      (612 )   $        -        $       2,934
Net interest expense                      462              59            445   (c)            965
Gain on receivables
transaction(a)                              -               -           (391 )               (391 )
Reduction of beneficial interest
asset                                       -               -             82                   82
Earnings before income taxes            3,084            (671 )         (136 )              2,278
Provision for income taxes(b)           1,101            (201 )          (74 ) (d)            827
Net earnings                      $     1,983     $      (470 )   $      (62 )      $       1,451
Diluted earnings per share        $      3.08     $     (0.73 )   $    (0.10 )      $        2.26
Nine Months Ended October 27,
2012
Segment profit                    $     3,767     $      (221 )   $        -        $       3,547
Net interest expense                      499              58              -                  558
Gain on receivables held for sale           -               -           (156 )               (156 )
Earnings before income taxes            3,268            (279 )          156                3,145
Provision for income taxes(b)           1,187             (80 )            -   (d)          1,107
Net earnings                      $     2,081     $      (199 )   $      156        $       2,038
Diluted earnings per share        $      3.12     $     (0.30 )   $     0.23        $        3.06

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