Target takes on wilting sales in Canada

Target Corp. never expected immediate profits when it charged into the Canadian market last year with 124 new stores.

But neither did the company expect to lose $941 million there in its first year.

Almost 12 months into the Canadian campaign, sales have been a clear disappointment. Too many shoppers can't find what they want, and too many stores have been saddled with a glut of unwanted inventory that has to be sold at clearance prices.

Perhaps most worrisome, Target's missteps have lost the retailer ground with disillusioned Canadian shoppers, whose frequent and faithful visits to stores will be crucial to the company's long-term success in its first, massive international expansion.

"It's easy to say in hindsight — they bit off way more than they could chew," said Brian Yarbrough, a retail analyst at Edward Jones. "I give them credit for remodeling these stores and getting them opened, but they weren't inventoried right, they didn't have enough of the right inventory, they had too much of the wrong inventory."

The theft of customer data that rocked the Minneapolis-based company in December has overshadowed Target's stumble in Canada. But as the dust settles on the data breach, analysts are turning their attention to the company's efforts to correct what's gone wrong there and demonstrate progress toward the goal of $6 billion in Canadian sales by 2017.

It won't be easy. Fair or not, Target shoppers in Canada have complained about prices and quality. Empty spots on shelves have been a widespread problem.

Tia Houde, 43, who lives in Edmonton, Alberta, said missing products left her cold the first times she visited Target stores on the south and west sides of the city.

"They'd have like two eye shadows out of the eight, three lip-liners out of the six," she said.

She went back a few months later, and the situation was no better. The store was "dead," she said, with few sales staff in the aisles.

"I can understand a few glitches to begin with, but not months and months and months of no stock," Houde said. "We're forgiving, but not that forgiving."

Target says its inventory problems in Canada are fixable, that it is calibrating the flow of goods from distribution centers to stores as it gathers more data on customers' shopping habits and improves shipping and information technology.

The company used the holidays to clear excess inventory at a discount in Canada, which was unavoidable but, the company hopes, also drove home the message that Target offers competitive prices. In the near term, the clearance sales cut the retailer's fourth-quarter gross margins in Canada to 4.4 percent, compared with 27.6 percent in U.S. stores.

"They're practically selling at cost to shoppers coming in the door," said Amy Koo of Kantar Retail in Boston. "This is certainly a period where they are trying to even things out. That being said, it is remarkable that this drop is still happening."

Efficient inventory management is a priority at Target. When it orders too much merchandise, it must sell it at a discount, driving down profitability. Avoiding this is a key metric for executive incentive pay, so leaders have financial motivation to keep inventory down. For most of its history, the strategy has worked nicely, garnering Target praise for generating good profits in an industry known for low margins. But low inventory leaves less margin for error.

With sales of "discretionary" products like clothing and electronics in the U.S. declining after the Great Recession, Target assumed the same would be true in Canada. But many Canadian shoppers didn't yet see Target as a destination for necessities like food and medicine. They gobbled up clothing and home items, which led to shortages. The items they were less interested in piled up in warehouses.

"Think about it, this stuff's coming over from China," Yarbrough said. "It's several months to correct that. Once all this inventory's on the boat, it's coming in. You can't cancel it."

"If you think about ... opening 124 stores in less than a year," Hausman said, "now that we've got that done, we can focus on some of the operational improvements that we know we need to make."

In August, Steinhafel cited "price perceptions" as a problem that Target had to overcome in Canada. Canadians are sensitive about prices because goods and services usually cost more than in the United States due to higher transportation costs and tariffs. Canadian shoppers also cross the border to shop at U.S. Target stores because the merchandise is cheaper. So naturally they were disappointed when Canadian stores didn't offer the same prices.

"My experience was like an expensive version of Wal-Mart, but with less quality than Wal-Mart has," said Cherish Wierenga, a student in Edmonton.

The selection, quality and prices in the Target at the busy West Edmonton Mall don't compare to what Wierenga saw in visits to Target in Chicago and Washington, D.C.

"I've been there probably three or four times," she said. "Each time I'm hoping that there's going to be a change. But I'm kind of disappointed and haven't made it a regular routine."

"The fundamental aspects of the power of these trade areas lean really, really heavy toward the demographics that ultimately love Target," Steinhafel said. "We are just going to work tirelessly until we fix the issues and we get the guests to love us as much in Canada as they do in the U.S."

The company is projecting a $150 million to $170 million loss in Canada in 2014, which sounds about right to Yarbrough. He expects major improvement over the course of the year, but he doesn't see the company hitting its Canadian goal of 80 cents in earnings per share by 2017.

"If they make a quarter of what they expect, I think that's still going to be a victory in investors' eyes," Yarbrough said.