Sephora And Babies R Us Partnerships Fuel Sales Growth Amid Retail Challenges

Key Takeaways

• Expansion of Sephora at Kohl's and strategic focus on underpenetrated markets, like home decor and Babies R Us partnership, aim to boost sales growth.
  
• Enhanced inventory/expense management and debt reduction activities signal improvements in net margins and financial flexibility, poised to positively affect net income.
  
• Facing macroeconomic pressures and shifting consumer behaviors, Kohl's strategy combines new partnerships and digital growth amidst challenges in core product offerings and margin pressures.

Catalysts

Operates as an omnichannel retailer in the United States.

• The expansion of the Sephora at Kohl's partnership, with the introduction of new brands and a significant increase in holiday gifting assortments, is expected to continue driving strong sales growth, impacting revenue positively.
  
• Kohl's focus on underpenetrated categories such as home decor, gifting, and impulse, alongside the launch of the Babies R Us partnership, highlights a strategic move to tap into new and potentially lucrative market segments, likely boosting future sales growth.
  
• Enhanced inventory and expense management, demonstrating a disciplined approach to reducing costs, coupled with gross margin expansion, suggests improvements in net margins.
  
• Strengthening the balance sheet through debt reduction activities reflects a strategic move to enhance financial flexibility and operational efficiency, reducing long-term financial risks and potentially improving net income.
  
• Digital sales outperformance and initiatives to enhance the omnichannel experience, including investments in technology for personalization and efforts to reach younger audiences, are aimed at driving both traffic and conversion rates, positively impacting future revenue growth.

Assumptions

• Analysts are assuming Kohl's's revenue will decrease by -3.1% annually over the next 3 years.
• Analysts assume that profit margins will increase from 1.7% today to 2.0% in 3 years time.
• Analysts expect earnings to reach $313.8 million (and earnings per share of $3.03) by about November 2027, up from $284.0 million today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 9.5x on those 2027 earnings, up from 6.7x today. This future PE is lower than the current PE for the US Multiline Retail industry at 17.4x.
• Analysts expect the number of shares outstanding to decline by 2.4% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 10.86%, as per the Simply Wall St company report.

Risks

• The company operates in a challenging macroeconomic environment and faces consumer discretionary spending pressures due to inflation and high interest rates, particularly affecting middle-income consumers. This could result in lower basket sizes and affect revenue growth.
  
• Kohl's is experiencing softness in its core apparel and footwear offerings, indicating potential issues with product assortment or market fit that might hinder its ability to improve sales trends, thus impacting revenue.
  
• Despite introducing new initiatives such as partnerships with Sephora and Babies R Us to drive growth, the company acknowledges that there is significant work to be done in core categories, suggesting these efforts may not immediately offset weaknesses in other areas, potentially impacting overall earnings.
  
• The company’s digital sales outperforming store sales suggests a shift in consumer behavior that might require further investment in e-commerce capabilities, impacting net margins due to increased operating expenses.
  
• Kohl’s reliance on promotions and value messaging in response to a tight consumer spending environment could compress gross margins, especially if the upcoming holiday season turns out to be more promotional than expected.

Valuation

• The analysts have a consensus price target of $21.32 for Kohl's based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $48.0, and the most bearish reporting a price target of just $13.5.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $15.6 billion, earnings will come to $313.8 million, and it would be trading on a PE ratio of 9.5x, assuming you use a discount rate of 10.9%.
• Given the current share price of $17.01, the analyst's price target of $21.32 is 20.2% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.