You may not notice anything particularly out of the ordinary at a Target store but a close reading of the company’s recently released 10K document suggests otherwise.

In its annual filing with the Securities and Exchange Commission, the Minneapolis-based retailer normally describes how each product category contributed to its $68.5 billion in total sales.

Non-discretionary merchandise (household goods and food) accounted for 44 percent for sales last year versus 39 percent in 2009. At this rate, the two categories could account for more than half of Target’s sales in just a few years.

In other words, Target is increasingly depending on non-discretionary products to drive sales at the expense of discretionary items (everything else).

This is remarkable for a couple of reasons. Target has significantly adjusted its sales mix without altering its image as the “cheap chic” retailer of choice for designers like Michael Graves, Missoni, Liberty, and Jason Wu. Target may hang out with the fashionistas in New York but it’s mainly selling toilet paper and cat food to everyone else.

What’s driving this shift is Target’s strategy to induce more of its most loyal customers, who tend to be higher income shoppers, to buy more stuff versus attracting new customers. The company has remodeled its stores to its PFresh grocery format, which includes meat, fish, and bakery items. In addition, the retailer’s 5 percent REDcard program allows card users to automatically pick up a 5 percent discount off total purchases at the cash register.





Target declined to comment about the change in spending trends.

A recent study of Target and Wal-Mart stores in Massachusetts by Kantar Retail consulting firm says that Target’s prices were three percent less than Wal-Mart when it factored in the REDcard discount. Without it, Wal-Mart’s prices were 2.2 percent cheaper than Target.

“As Target continues to focus on harvesting more and more of its top 10 percent guests, its incentives have evolved to extract more from those with higher spending potential” including those with REDcards, the Kantar study said.

In this sense, the strategy seems to be working. Target said sales at stores open for at least a year in 2011 grew 3 percent. Most of that increase came from shoppers buying more items per purchase and spending more money.

The average transaction amount jumped 2.6 percent last year versus just 0.1 percent in 2010, according to the 10K filing. Meanwhile, the number of transactions remained essentially flat last year.

What Target and Wall Street worry about now is profitability. Groceries and beauty items carry much lower profit margins than clothing and furniture. At times, the retailer has struggled to get its PFresh and REDcard shoppers to buy higher priced merchandise throughout the store.

But there are signs that Target is starting to find its rhythm. After a weak fourth quarter, Target recorded two consecutive months of strong same-store sales growth.

Profits will improve as the PFresh grocery format settles in, says Daniel Binder, an analyst with Jefferies & Co.

“Second-year PFresh stores should give us better cross-shopping,” Binder wrote in a recent report. “Lower margin food sales growth will likely moderate and cross-shopping to other categories (potentially with better margin) will increase.”

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