Analyst questions Target’s future in Canada

Should the retailer "cut its losses" as some suggest?

Target‘s future in Canada is being questioned by some analysts after the U.S. discount retailer fumbled its initial launch across the country and has struggled to recover.

Michael Exstein, an analyst with Credit Suisse in New York, said in a recent note to clients that Target should “decide one way or the other on whether Canada is worth diverting time and management capital away from the U.S. business.”

“We think it may be more prudent for Target to cut its losses and devote 100 per cent of its resources on the U.S., which comprises over 97 per cent of the company’s current sales,” he said.

“If Target exits Canada in 2015, we estimate it will incur $3.5 billion in charges, but generate $1 billion in cash proceeds. We estimate Target would see a nearly 10 per cent decline in equity and the largest decline in FCF [free cash flow] since 2007.”

The company’s arrival in Canada last year was highly anticipated, but enthusiasm quickly dampened when customers found empty shelves and prices that were higher than at the U.S. stores.

Earlier this year, the company also had to deal with the fallout from a massive pre-Christmas security breach that compromised the credit cards and personal information of millions of shoppers, mostly in the United States. The breach has damaged Target’s reputation with customers worried about their personal information, and led to the ouster of CEO Gregg Steinhafel.

Amid the Canadian struggles Target Canada CEO Tony Fisher also left the company, and was replaced by Mark Schindele.

Interim chief executive John Mulligan has stressed Target is committed to Canada, saying after Steinhafel’s resignation the company was heading back to the drawing board to come up with new competitive strategies.

Target also acknowledges it had “disappointed Canadian guests,” going as far as to take to YouTube to apologize to Canadians with a two-and-a-half minute video of employees talking about the problems the company has faced and promising solutions.

Faye Landes, an analyst with Cowen and Company, said in a May note to clients that Target executives had given analysts the impression the company was in fact “focused on fixing” its Canadian operations.

“Everything related to this business is ‘on the table,’ including a real estate review,” she wrote.

“The current strategy involves improving the supply chain, achieving the right assortment and promotional cadence, and significant systems enhancements.”

But Exstein notes that by the end of the 2014 financial year, Target appears to be on the road to having invested about $6 billion in capital expenditure and after-tax losses in Canada, and stressed that a turnaround will have to “be a major effort taking at least several years to accomplish.”

It would require fixing supply chain and stocking issues, investing in price, as well as repairing the company’s reputation in the eyes of the Canadian consumer, he said, calling that “perhaps most critical and difficult of all.”

A decision should be made soon, he added, given Sears Holdings Corp.’s recent announcement that it was exploring strategic alternatives for Sears Canada, because that could lead to “a glut of supply that would dilute the resale value of real estate in Canada.”

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