Target hints at grocery makeover after reporting stronger sales

Target Corp.'s grocery department is in line for a makeover.

As executives celebrated the Minneapolis-based retailer's biggest same-store sales growth in more than two years, analysts peppered them with questions Wednesday about the future of its food offerings. That has been a frequent source of speculation since Brian Cornell came on board last summer as Target's CEO, especially given his background in groceries as a former executive at PepsiCo and Sam's Club.

Cornell will shed more light on plans to overhaul Target's grocery department at a meeting with analysts next week in New York. At that time, he will also outline cost-cutting initiatives to help fuel the company's investments in areas such as its digital operations and key categories such as home and apparel.

But he whetted their appetites on Wednesday when he divulged that he and other top executives have spent several days in stores comparing Target's food selection and presentation to that of its grocery competitors.

"We recognize we have a lot of work to do in food," he said during Target's fourth-quarter conference call. "We won't get there overnight. It will be a multiyear transition."

Food helps drive traffic to the stores, Cornell said. But he added that Target needs to boost its selection of fresh foods and add more organic, natural and gluten-free items. And he said the grocery department needs to be more visually appealing.

Sean Naughton, an analyst with Piper Jaffray & Co., said this is a fruitful area for Target to explore. His firm's research shows that 70 percent of shoppers who buy groceries at Target buy organic food, which is 10 percentage points higher than in the overall survey.

Several years ago, Target began expanding its grocery offerings in its stores in what was known as PFresh remodels. About 1,300 of its 1,800 stores in the U.S. now have that larger food selection. While they did help drive traffic to the stores, analysts have noted that Target's grocery departments are not always well stocked. And others have blamed them for distracting Target from maintaining its edge as a purveyor of cheap-chic goods.

"PFresh has basically been plateauing as a driver of growth for them," Koo said.

But after a few years of sluggish sales, Target has finally begun to see overall sales rebound. The retailer's same-store sales in the U.S. grew 3.8 percent in the fourth quarter, driven mostly from its first uptick in store traffic in recent years as well as from higher online sales. The results exceeded the boosted guidance Target gave analysts last month of an expected 3 percent increase.

The company benefited in part by being up against soft comparisons from a year ago when many shoppers were scared away from Target after it suffered a massive data breach. And analysts noted that the retailer also likely benefited from lower gas prices and an overall improving economy.

"But I also think we made significant strides from a merchandising standpoint, from a marketing standpoint — and we continue to deliver great execution and service inside the stores," said Cornell.

Online sales in the November-to-January quarter rose 36 percent, fueled by Target's aggressive free shipping offer on any size order during the holidays.

While that deal ended in late December, earlier this week Target sweetened its year-round free shipping policy by lowering the minimum order to $25 from $50, making it one of the most competitive offers among big-box retailers.

Profit margins grew in the fourth quarter as Target sold more items at regular price instead of the deep discounts it used in the same quarter a year ago to lure back traffic following the breach. Adjusted earnings per share was $1.50, beating analysts' expectations of $1.46.

But the retailer still reported a net loss of $2.6 billion in the fourth quarter, compared with a profit of $520 million in the same period a year ago, as a result of its decision earlier this year to shutter its struggling Canadian division with 133 stores.

In the first quarter, Target executives forecast a same-store sales growth of 2 percent.

In response to an analyst's question, John Mulligan, Target's chief financial officer, declined to disclose the average wages of its store employees. But he said the company is constantly assessing the marketplace and adjusting its salaries to ensure they are competitive.

Target shares gained 20 cents Wednesday, closing at $77.15.

Kavita Kumar • 612-673-4113