Target Sets Perishables Expansion

ELLIOT ZWIEBACH

MINNEAPOLIS — Target Corp. here said last week it has been “very pleased” with the enhanced assortments of dry grocery, frozen foods and dairy products, plus the addition of meat and produce, at two general merchandise store locations and plans to include those elements in most new and remodeled stores.

“We continue to be very pleased with the sales of that concept, the look, the feel, the assortment,” Gregg Steinhafel, president and chief executive officer, said during a conference call with analysts to discuss financial results for the fiscal year, which ended Jan. 31. “We're still making some changes, but that [approach] seems to perform well enough to introduce it as a prototype element in the majority of new stores going forward.”

Target is investing in its food offering, he added, “in recognition of its importance in driving greater frequency, increasing guest loyalty and making Target a preferred shopping destination.”

Howard Davidowitz, chairman of Davidowitz & Associates, a New York-based retail consulting and investment banking firm, said it's a matter of survival for Target to expand its food offerings, because Wal-Mart has been outperforming its more chic rival in terms of sales and earnings.

“Target devotes 40% of space to home and apparel and less than 20% to food and consumables, while Wal-Mart devotes 45% for food and consumables, and that's what's driving its business,” he said. “So when Target looks at Wal-Mart, its logical conclusion is to expand food.”

Davidowitz said he expects Target to do a very good job merchandising perishables.

“What I saw in their test store in Minneapolis was very impressive, with good-looking product and good lighting,” he said, although he noted that “Target still doesn't have Wal-Mart's price image.”

Deborah Weinswig, an analyst with Citi Global Research, New York, said the food assortment at the Minneapolis pilot was “essentially a larger version of the assortment in a typical Target discount store, but it included fresh foods.”

She said the store allocated 52 sides to food — about 20 more sides than the existing food sections — located in the store's back corner. However, the assortment wasn't as broad or as deep as at a SuperTarget, Weinswig pointed out. “It still had a discount-store feel,” she told SN.

Target's experience working with perishables at SuperTarget locations should help it to merchandise the expanded food sections at discount stores, “though Target will still have to figure out which products make the most sense to include because of having more limited space,” Weinswig added.

“The biggest challenge for Target, I think, will be to operate the supply chain efficiently,” she said. “It will also have to effectively manage perishables and shrink on higher product volumes while also figuring out how to market the expanded offering to consumers despite having it in only a limited number of stores.”

David Heupel, a senior equity portfolio manager for Thrivent Financial, Minneapolis, said Target's experience with selling and merchandising perishables at its SuperTarget stores should enable it to start from a better position at its discount stores than Wal-Mart or Kmart did.

“What it's learned from handling meat and produce at the SuperTargets will help, particularly as it starts taking over perishables distribution from its wholesalers and begins supplying its stores itself from its own perishables facilities,” Heupel said. “And once it's doing it in-house, that will enhance its gross margins.”

Target opened its first perishables distribution center last year in Lake City, Fla., and is scheduled to open a second one this year in Cedar Falls, Iowa, with additional perishables warehouses expected to open annually over the next decade.

During the conference call, Kathee Tesija, executive vice president, marketing, said private-label penetration in groceries is up, with Archer Farms, Target's premium brand, and Market Pantry, its value brand, achieving penetration levels of 20% at the end of 2008 — “a significant new milestone,” she noted.

Steinhafel said Target anticipates increasing private-label penetration in food in the range of 200 to 300 basis points per year, “though when we get into the upper 20% penetration, that [rate of increase] will slow down. But for the next couple of years, we believe there is some reasonable opportunity to increase our penetration at [that rate].”

Net income for the year fell 22.3% to $2.2 billion, while sales rose 2.5% to $64.9 billion and same-store sales dropped 2.9%.

For the fourth quarter, net income declined 40.8% to $609 million, while sales fell 1.6% to $19.6 billion and same-store sales dropped 5.9%, reflecting “a fundamental change in consumer spending patterns that negatively impacted both our traffic and sales,” particularly in higher-margin discretionary categories like seasonal, apparel and home, Steinhafel explained.

“As a result, we are taking thoughtful yet aggressive action, including an enhanced focus on frequency-driving strategies centered on food, pharmacy and commodities; a consolidation of our own-brand portfolio; greater emphasis on communicating our value message; and intensive devotion to operational disciplines.”

He also said Target plans to invest in technology, including development of new pharmacy, finance and compliance systems “in support of our growing scope and scale.”

Although Target opened 114 new stores last year and anticipates 75 new units this year, the rate of growth will slow in the second half “and begin to taper off sharply in the fall of 2009 and well into 2010,” Doug Scovaner, executive vice president and chief financial officer, noted.