We’ve spent a considerable amount of time analyzing the evolving competitive dynamics in the large-cap discretionary retail US marketplace from both a top-down and bottom-up perspective. The fact is, WMT is overinvesting, Target is underinvesting. That’s plain as day. We’d be disingenuous not to call out WMT on the bull side of this given how much damage it is doing to incumbents. That being said, we are adding WMT to our list on the long side.
Key Points…
The Practice Schedule
The share gap is clearly closing between WMT and TGT – to WMT’s benefit. The spread between WMT is the largest we’ve ever seen. Think of this as the practice schedule, WMT is putting in extra reps on the field. TGT is resting on its laurels.
The spread started back in mid-2014 around the same time Cornell started his tenure in Minneapolis, and has held steady at nine-points over the past two quarters. That’s important given that Cornell is now two years into his tenure at TGT, and now has his team and strategy in place. Based on what we’ve seen to date, it can be characterized by prudent decision making when it comes to cutting Canada/Rx biz and a reluctance to spend in order to keep pace with the competition. Ultimately, we think the spread between the two needs to change dramatically – and that’s not going to be gifted to TGT from WMT as the latter company has a free pass to invest after it lowered expectations 10 months ago. Ultimately, we think WMT continues to win as it invests ahead of its competitive set.
The Score Card
To be clear, this is the effect and not the cause of the broader strategic decisions WMT is making in order to ultimately drive traffic and win market share. Extra reps = better performance on game day. There has been a clear deviation in the trend, with the spread between the two opening up to 1.2% in 1Q and 3.4% in 2Q, both in favor of Walmart. The most recent metric is good for the biggest spread we’ve seen since the TGT data breach in 4Q13, and the widest gap over the past 5 years in a normal environment. Most importantly, we don’t think this a near term statistical aberration, as WMT is putting the dollars behind the up-tick in traffic which will continue to propel outperformance while TGT sits on the sidelines. Perhaps more importantly, WMT has acquired its way into the e-comm game with Jet.com, while TGT is cutting costs and losing share. The key macro theme of ours is that e-comm is accelerating off a bigger base at a rate that CEOs don’t appreciate. WMT gets it. 90% of others do not.
Valuation
WMT trading at the biggest discount to the S&P in a decade, while it’s putting up trough earnings. We don’t see numbers going lower from here, with upside catalysts as costs roll off the P&L from over 1yr of investments, and market share gains continue.
