Target profit falls, customers avoid trendy items

NEW YORK Tue Aug 19, 2008 6:05pm EDT

NEW YORK (Reuters) - Target Corp (TGT.N) posted a nearly 8 percent drop in quarterly income, hurt by slower sales of its most profitable items like clothes and home goods, and said its trademark focus on trendy merchandise could be a challenge in a downturn.

The No. 2 U.S. discount chain behind Wal-Mart Stores Inc (WMT.N) said on Tuesday the current environment is the harshest it has seen in many years. Volatile back-to-school sales have made it uncertain about its ability to meet analysts' estimates for the third quarter.

Target said it is more comfortable in its ability to meet fourth-quarter earnings expectations.

"The customer is very cash-strapped right now and, in some ways, our greatest strength has become somewhat of a challenge in that our stores are fun and unique," said Chief Executive Officer Gregg Steinhafel on a conference call, though he made clear the company had no plans to change its strategy.

"We have both what you need and what you want, and during these tough economic times, some of our consumers don't want to be tempted as much as they have in the past."

Target's shares fell 19 cents, or 0.38 percent, to $49.96 on the New York Stock Exchange at mid-afternoon.

Profit was $634 million for its second quarter ended Aug. 2, down from $686 million a year ago. Earnings per share rose to 82 cents from 80 cents, boosted by fewer shares outstanding in the quarter due to buybacks.

Its per-share results beat analysts' average estimate of 76 cents, according to Reuters Estimates, helped by cost controls, fewer shares outstanding and a lower tax rate.

The second quarter marked the fourth straight quarterly profit decline for Target as shoppers, who once splurged on its cheap but chic sweaters or handbags, pull back on spending.

Last week, Wal-Mart reported a 17 percent jump in second-quarter profit as bargain-hunting consumers scoured its stores for food, medicine and electronics.

NO STRATEGY CHANGE IMMINENT

"Wal-Mart has staked out the position with its 'Save Money. Live Better' tagline ... that they are the king of low prices," said Craig Johnson, president of retail consulting firm Customer Growth Partners.

To compete, Target needs to go beyond advertising its stylish merchandise and incorporate the message that "we'll save you money and we'll help your family make it through these economic times," he said.

Target said it has increased its focus on items such as food or medicine that bring shoppers in more frequently, and is putting a bigger emphasis on the "Pay Less" side of its "Expect More. Pay Less." tagline.

But Target does not intend to make significant changes to its strategy and will continue partnering with designers, like Monica Botkier or Thakoon Panichgul, to sell exclusive lines of their merchandise in its stores.

This fall, Target said it will offer lines by 22 designers, the most it has ever featured in its stores at one time. It will also open limited-time only "Bull's Eye Bodegas," in Manhattan in September to highlight its designer offerings.

MORE CHICKEN THAN STEAK

As gas prices reached record levels this summer, Target said shoppers made fewer trips to its stores. Customer traffic fell the most in its clothing and home departments.

To stretch their dollars, shoppers are buying chicken instead of more expensive steak, or basic candy instead of premium chocolate, it said.

Its retail sales, excluding credit-card revenue, rose almost 6 percent to $14.97 billion from $14.17 billion. But sales at stores open at least a year, a key retail gauge known as same-store sales, fell 0.4 percent. By comparison, Wal-Mart's quarterly U.S. same-store sales rose 4.5 percent.

Target's second-quarter gross margin rate declined from last year, it said, driven by faster sales growth of lower-margin merchandise like food.

Quarterly credit card-revenue rose more than 10 percent to $501 million. But the profit in its credit card operation fell 65 percent to $74 million from $213 million as it reduced its investment in the portfolio and experienced higher write-offs.

Earlier this year, Target completed the sale of a 47 percent interest in its credit card business to JPMorgan Chase (JPM.N) for an initial investment of $3.6 billion.

On a conference call, Chief Financial Officer Doug Scovanner said full-year earnings of $3.43 per share are likely within a "reasonable" range of potential outcomes.

According to Reuters Estimates, analysts expect Target to report earnings per share of $3.42 for the full year, 56 cents for the third quarter and $1.37 for the fourth quarter.

(Editing by Maureen Bavdek, Richard Chang)