Stuck In The Middle: Target’s Fight For Its Future

Stuck In The Middle: Target’s Fight For Its Future

The retailer is fighting off competition from the likes of Amazon and Walgreens.

Could the future of Minneapolis-based Target Corp. be artfully wedged between a Starbucks and Chipotle? In July the retailer opened a new 16,000-square-foot TargetExpress store in the Highland Park area of St. Paul, bookended by Frappuccino to the east and burritos to the west.

With only five locations thus far, TargetExpress (and the larger CityTarget) serves as a retail petri dish as the big-box giant works to reset its retail business with an eye toward smaller urban stores that offer a more local and personalized feel for shoppers—or “guests,” in Target parlance. At the same time, it’s spending $1 billion to overhaul its logistics in order to ship products to its customers as quickly as possible, including directly from stores. And Target is updating its merchandising strategy to become more relevant to urban, mobile shoppers, in part by being more personalized and local.

The question is whether these changes will occur fast enough to compete against more nimble and aggressive competitors.

Smaller stores, bigger competition

Amid ongoing economic uncertainty, consumers continue to spend cautiously, and the trend of expecting more and paying less—the sweet spot for Target 20 years ago—has been so popular that name-brand retailers such as Gap and Banana Republic began chasing that customer as well. Despite this, expectations have never been higher. Shoppers want instant gratification like never before, which means next-day, if not same-day, delivery.

New CEO Brian Cornell landed in August 2014 with a mission to find the growth bull’s-eye again. But competitors from Amazon to Walgreens already have a head start adjusting to these trends; meanwhile, from fiscal 2009 to fiscal 2014, Target’s revenue climbed only 10 percent. The retailer has had difficulty with logistics (a stated reason for its failure in Canada), was slow to roll out a solid online presence and has been growing its store base only nominally since the recession. Same-store sales climbed modestly at 2.3 percent for the first quarter of the year, albeit stronger than some competitors, including Wal-Mart Stores Inc. (1.1 percent).

In such an environment the only way for Target to grow is to take market share away from others, says retail analyst Nikki Baird, managing partner with Miami-based Retail Systems Research: “I think it reflects saturation of the market. You can only build so many supercenters.”

Target considers smaller urban formats as a key avenue for its future growth (it announced plans to ditch the “Express” and “City” monikers, but not the formats, this fall). Debuting in 2012, the nine CityTargets developed thus far range from 80,000 to 160,000 square feet, with a selection of items more tailored to urban shoppers. For example, a CityTarget carries smaller packages of paper towels than a typical suburban Target. Nine of the 15 new stores that Target will open in 2015 are urban-format: eight TargetExpress and one CityTarget.

They’re not the only ones doing this, however. Chicago-based pharmacy chain Walgreens recently doubled in size by merging with the U.K.’s Alliance Boots and is rolling out larger stores with “upmarket” food sections. A two-story, 23,000-square-foot Walgreens is set to open this fall in the former Saks space in downtown Minneapolis, while similar plans are afoot for a Walgreens in the former Macy’s in downtown St. Paul.

Analysts see smaller-format stores as a big challenge for retailers that have long been wired for big-box spaces. “Wal-Mart hasn’t figured out that format yet. I think it’s a really tough format. You’ve got a limited amount of floor space,” says Baird “A lot of retailers are looking at their store formats as ways to combat Amazon’s move to be as instant as possible.”

Bulked-up Walgreens won’t be a direct competitor to Target, but there will be significant product overlap, leaving the Minneapolis-based retailer in just as hot a competitive fry pan. While old-line Walgreens are harshly lit, crowded and cluttered, the new-format stores purport to offer shoppers an upscale design, a higher-end product mix, even fresh food and sushi.

There also are many other outlets where customers can find the majority of what’s offered in a TargetExpress. One-third of the new Highland Park store is devoted to space for groceries, although the store is within a block of a full-service Lunds & Byerlys. The feeling in a TargetExpress is not unlike that a chain pharmacy, yet the Highland Park store is directly across the street from a Walgreens.

Target says that what will separate TargetExpress from nearby competitors is an “experience uniquely Target,” according to Target spokeswoman Erin Conroy. “It’s really about taking the pieces of the full Target experience that we know the local residents would most be interested in having access to and putting them in a small-footprint store that enables us to be right in the center of that neighborhood.” She also notes that TargetExpress offers housewares and iPads, which aren’t sold in Walgreens et al.

The challenge for Cornell and his leadership team is redefining what makes its stores “uniquely Target.” In March, Cornell outlined the company’s transformation, touting a plan to integrate store and online operations, while focusing on four signature categories: style, baby, kids and wellness.

Cornell’s vision also emphasizes that Target stores become more personalized and localized. The Highland Park Target-Express, for example, will feature kosher items in its grocery selection, in response to neighborhood feedback. In another local nod, shoppers can buy cookies by the Cookie Cart, a North Minneapolis-based nonprofit. At the Dinkytown store, Target sells maroon and gold Gopher apparel at the front of the store.

The message may not have gotten out to the analyst community. “I think they frankly have a lot of work to do. They have a lot of data on their shoppers, but being able to use it and integrate it is a different story,” says Amy Koo, principal analyst with Boston-based Kantar Retail. “In terms of the localization, they don’t have the capacity to do that right now. They love being centrally run.”

“Every TargetExpress store will have some differences,” says Conroy. “No two stores will be exactly the same because we really do spend a lot of time thinking about the neighborhoods and what needs there are in the neighborhood.”

The New Target Store

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Target is focusing its store-development efforts on smaller-scale concepts in urban settings. At the end of July, it had five TargetExpress stores ranging from 12,000 to 20,000 square feet in Minneapolis (Dinkytown), St. Paul (Highland Park), downtown San Francisco, Berkeley, Calif., and College Park, Md. Its Dinkytown store, connected to an apartment complex, is shown above. By the end of this year, it plans to add locations in Chicago, San Diego, Washington, D.C., and San Francisco; it’s scouting locations in other areas, including Philadelphia and Los Angeles. Target also has nine urban CityTarget stores, ranging from 80,000 to 160,000 square feet, in various cities (none in Minnesota). In early August, the company announced that the names of these new stores will be changed this fall simply to Target.

The immediate gratification gambit

As Cornell outlined in statements to analysts, bringing local touches to stores and personalization for digital shopping is a goal for the entire business, not just its small-format stores. And as Target executives work to reset the company’s retail strategy, it continues to quietly roll out a new service for customers in 2014: ship-from-store. The retail trend effectively turns stores into mini-distribution centers, allowing customers to make online orders directly from their local Target store.

“We’re working towards getting the data where it’s good enough to tell you: If you want it now you could go to these two stores—there’s four in that place, there’s three in this place—or we can ship it to you and get it to you in two days from somewhere else,” says Eddie Baeb, a Target spokesman. “Online is sort of omnipresent, and really, a retailer needs to live in that environment and service guests any way [the guests] want, whether it’s online, offline [or] it’s a combination of both. That’s ultimately where we’re going.”

Baeb says that 136 stores offered ship-from-store by last year’s holiday season, but the company is rapidly expanding the feature, with the goal of more than 450 stores offering it by this holiday season. That would be about 25 percent of Target’s 1,799 stores. When Cornell unveiled his roadmap in March, he outlined plans for Target to invest $1 billion this year in technology and supply chain updates. That means big changes behind the scenes to how Target tracks and moves its inventory.

Baeb says TGT is bringing enhanced technology and analytics to its supply chain and distribution network. It is opening two new fulfillment centers for online orders in Memphis and in York, Pa., this fall.

Target is making changes throughout the organization to take it to a point where it can deliver a much more localized experience, he says. “That is not short-term stuff, but those are things that we’re working on,” says Baeb. “There absolutely is a very big change to the back end that comes about because of that.”

Better customer data and improved logistics means Target can better tailor inventory at individual stores, adding items of local interest. But many analysts see Target woefully lagging its competitors when it comes to online savvy and integrating its stores with its digital operations. The current retail buzzword is “omnichannel”—selling products through whatever channel is most convenient for customers.

“The omnichannel thing is very important to them, because they know they’re behind,” says Koo. “Target has not been well known for being flexible. A lot of it has to do with improving operations.”

“They’ve definitely been behind,” says Baird. “They were slow to bring their e-commerce in-house. It’s definitely a catch-up move.”

Earlier this year, Target lowered the threshold for free shipping on online orders to $25, a move to level the playing field with Amazon. Baeb notes that Target Red Card holders have received free shipping for any online order since 2011.

“Our emphasis on omnichannel and digital comes from the fact that guests are more mobile today than ever before,” says spokeswoman Conroy. “They’re doing much more from their phones and their devices than ever.”

“They want to shop differently,” continues Conroy. “They want to be able to go onto their computer during the day at work and order something from Target and be able to swing by their local Target and pick that up on their way home from work. They want to be able to go on Target.com and order something to be delivered at home and not have to worry about huge shipping fees, which is part of why we dropped our shipping minimum.”

Still large and powerful

It’s been a challenging year for Target, marked by the winding down of its Canadian business, nearly 2,500 layoffs at its Minneapolis headquarters (plus more than 1,500 open positions left unfilled), and continued leadership turnover.

Despite the challenges, Target remains a huge, profitable company and owns one of America’s best-loved retail brands. Target ranks sixth on Kantar Retail’s 2015 list of the top 100 retailers based on U.S. sales.

And though retailers may be building fewer big-box stores today, the format remains vital for many of them,” says veteran local retail commercial real estate broker John Johannson, senior vice president at the local office of Colliers International. “It’s easy to say there are fewer big boxes. It’s not dead, it’s constantly changing.”

Target reported a first-quarter net profit of $635 million on sales of $17.1 billion. Revenue was up 2.8 percent compared to the first quarter of 2014, and comparable sales—a key retail barometer—were up 2.3 percent. Digital sales for the quarter were up 37.8 percent. The company’s stock price is near historic highs: in June TGT increased stock buybacks to $10 billion and increased its dividend by 7.7 percent. (The company paid $1.2 billion in dividends in 2014.)

Retail analyst Jerry Sheldon, vice president of technology for the Nashville-based IHL Group, is encouraged by what he sees as Cornell’s decisiveness and willingness to make tough calls. “Financially, it looks positive,” he says of the company’s first-quarter numbers. “In a short period of time, he seems to be making some fantastic strides.”

But the bulk of those strides have been cutting costs, jettisoning operations that were not performing well and setting a course for a better tomorrow. Now comes the hard part—generating growth.

0915-StuckInTheMiddle_S03.jpg A sleek flagship Walgreens in downtown Chicago features fresh food, a juice bar, bakery and sushi.

Food first

A small box of brown rice crackers says a lot about the future of food at Target. The Simply Balanced branded snacks, one of Target’s in-house labels, are gluten-free, and include ingredients like quinoa, flax seeds and sea salt. The box notes that the crackers are certified by the Non-GMO Project.

Groceries have been a growing category for Target. Sales of food and pet supplies accounted for 13 percent of the company’s sales in 2007 as the company rolled out its “PFresh” grocery initiative in most stores; last year they reached 21 percent ($15 billion). But to many retail analysts, Target’s food section has been an undistinctive and underwhelming section of its stores—big collections of perishable, low-margin goods that require a massive logistics infrastructure to service—as catnip to bring shoppers in more often, in hopes they will buy higher-margin goods elsewhere in the store.

Target leaders know this and are freshening up its food pyramid. In April, Target hired a new executive, Anne Dament, to lead the grocery division. But the company’s plans won’t be clearer until 2016.

“What we’re trying to do is get guests excited about what we carry,” says Conroy. “What does food mean to our guests? What would inspire a guest to shop for food at Target?”

Target plans to emphasize six categories of food: better-for-you snacks, coffee and tea, premium sauces and oils, specialty candy, wine and craft beer, and yogurt and granola. “Those are categories where we feel like we can differentiate with the products we offer, including our own brands,” Conroy says, “and we also know that those are categories that are important to our guests.”

TGT believes Simply Balanced, launched in 2013, is an example of a “better-for-you brand” that resonates with today’s shoppers. The company is also looking to expand local and organic food options in its mix.

Meanwhile, competitors are ramping up their own food offerings. Andrew Wolf, a senior equity research analyst with BB&T Capital Markets, follows Walgreens and says the top priority in the company’s new, larger stores is food.

“That means a lot of fresh food, a lot of fresh sandwiches . . . they have a pretty well-developed convenient fresh food offering. Much like a TargetExpress store, they’re based on convenience,” says Wolf.

Even Austin, Texas-based Whole Foods Market Inc. is tweaking its retail strategy: In May the company unveiled plans for a new chain, 365 by Whole Foods Market, a modestly priced concept aimed at millennials.

“Growth is going to come from food and it’s going to come from online,” says Sheldon of the IHL Group. “You compete with everybody. You compete with Amazon . . . you compete with Wal-Mart.”

In such a landscape, Target has to strike the right balance as it reshuffles its food shelves, Sheldon says, noting that the retailer can’t go too upscale with its groceries. “I don’t think people generally view Target as a destination for grocery. They’re not a Whole Foods. It’s really a value brand, not a premium brand.”

A future of experimentation

A key part of overhauling Target’s retail business, is transforming the company’s culture. Cornell is the first outsider ever tapped to lead the Minneapolis-based retailer.

“We talked a lot about our culture at Target and how we had become insular and risk-averse. And one of the things that Brian and leadership are focused on doing right now is helping us simplify the way we work,” says Conroy. “It’s really trying to create almost an entrepreneurial culture where people are encouraged to be creative and follow new ideas.” “Brian talks a lot about making bold moves,” she adds.

She cites the company’s deal to sell its in-store pharmacy operations to CVS Health Corp. as one example. In mid-June, Target announced that it had struck a $1.9 billion deal to sell its in-store pharmacy and clinic operations to Rhode Island-based pharmacy giant CVS, which will operate the pharmacies as a store-within-a-store format. The deal was seen as a way for Target to get out of a business that never netted it much income and allows it to refocus on its core business. Conroy says the deal should not be interpreted as part of a broader initiative.

“To me all the experimenting, all the playing around, it’s a sign to me of a healthy, progressive retailer trying to find the formula that a consumer wants,” says Colliers’ Johannson. “If they weren’t doing it, it would be more concerning.”

A month after Cornell outlined his vision for fine-tuning the company, Target began a pop-up initiative selling proprietary items from the Lilly Pulitzer fashion collection, online and in stores. In the frenzy that followed, items sold out almost instantly, and disgruntled shoppers took to social media to complain.

Was it another case of Target caught off-guard in the changing retail battlefield? Retail expert Sheldon doesn’t think so: He believes executives knew that the collection would sell out quickly. The short-lived sale generated fresh buzz about Target in one of its key product categories.

“Some people think that it was a massive failure,” says Sheldon. “I thought what happened was probably totally planned out. They’re smart folks.”

Same-Store Sales

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Compared with year earlier
*1.6% without pharmacy sales

Competitive Edge

Target’s competitors are working relentlessly to grab market share. Here’s the latest from five key rivals.

Amazon.com
E-commerce giant Amazon.com offers same-day delivery service in 14 metro areas and delivery within an hour or two in six cities. Once Amazon is operating distribution facilities in Shakopee in 2016, analysts expect the Twin Cities could get same-day delivery.

Macy’s
In early August, Cincinnati-based Macy’s Inc. announced that it was expanding same-day delivery, now offered in 17 cities at Macy’s and Bloomingdale’s stores. Macy’s also plans to debut four pilot off-price stores in New York this fall under the name Macy’s Backstage.

Walgreens
Would you buy a sandwich at Walgreens? The pharmacy giant is rolling out new, larger and snazzier flagship stores anchored by something you wouldn’t expect: fresh food, including juice bars. A two-story Walgreens will open in the former Saks space in downtown Minneapolis this fall.

Wal-Mart
Wal-Mart and Target both opened their first stores in 1962, but Wal-Mart is far and away the largest retailer in the U.S. The big-box behemoth is also ahead of Target in tackling smaller stores. At midyear, the company operated 644 Neighborhood Market locations and 41 smaller-format stores.

Whole Foods Market
Austin, Texas-based Whole Foods Market Inc. is testing the waters with a new “streamlined, value-oriented” store concept, 365 by Whole Foods Market. Its stores will offer more modestly priced items to counter the chain’s pricey “whole paycheck” image. Stores will start opening in the second half of 2016.

 

Burl Gilyard is TCB’s senior writer.