Brian Cornell continues to shake things up at Target.
The retailer on Thursday decided to end its money-losing business in Canada and received permission from a Canadian court to begin the liquidation process, including the appointment of Alvarez & Marsal Canada, under the Companies’ Creditors Arrangement Act.
When Cornell joined Target Corp. as chairman and chief executive officer in August, he promised employees and shareholders that he would take a “good, hard look at our business and operations in an effort to improve performance and transform the company.”
“I came hoping to fi nd a path that would allow us to continue operations in Canada,” Cornell said during a conference call with retail analysts on Thursday. “My strong preference was to develop a plan to fulfill that vision. I realized the solution would not be easy.” Cornell said that when he realized the extent to which Target had disappointed Canadian consumers, he decided the problems were insurmountable. Target will close 133 stores, which will result in a loss of about 17,600 jobs.
Target’s entry into Canada began in 2011, when it acquired 220 Zellers leases from Hudson’s Bay Co. for about $1.6 billion. The toll on Target’s financial position has continued to grow, resulting in nearly $1 billion in losses before interest, taxes, depreciation and amortization in fiscal 2012 and 2013 from its Canadian operations as sales last year reached $1.32 billion.
Target expects to record $5.4 billion in pretax losses attributed to the move in the current fourth quarter and another $275 million in the upcoming fiscal year, driven by the write-down of Target’s investment in Canada. Target’s cash costs for store closures and related expenses for exiting the business will be $500 million to $600 million, the majority of which will be incurred in fiscal 2015. “Within our application for protection, we’ve asked the court to approve a voluntary contribution to fund an employee trust to provide a minimum of 16 weeks of severance pay for each employee,” Cornell said. The fund will contain 70 million Canadian dollars, or about $59 million at current exchange.
Target Corp. has committed to a $175 million debtor-in-possession credit facility to finance the Canadian operation through the liquidation process. Cornell, who held ceo positions at PepsiCo and Sam’s Club, has been scrutinizing everything about Target’s business, from merchandise assortments to operations, to service and digital capabilities. Since taking the reins of the mass retailer, he’s increased the company’s focus on apparel and home, baby, kids and wellness, while taking a step back from food and has also made investment in technology a priority.
Target’s missteps in Canada included pricing, merchandise assortment, supply chain and real estate. Experts said Target, which is known for the style quotient of its apparel and home products, failed to differentiate itself in Canada, where the merchandise was lackluster. Inventory was a problem with constant out-of-stocks and broken sizes in apparel. Canadian shoppers perceived Target’s prices as too high. “People expect 6, 7, maybe 12 percent higher prices because of currency, duties and transportation. Beyond that, people don’t want to pay more,” said Antony Karabus, ceo of HRC Advisory unit of Hilco Global, and a Canadian.
Karabus said he wasn’t surprised by the news that Target is shuttering its Canadian operations. “Target overestimated the size of the market, underestimated the fierceness of value-set competitors and there were a significant number of operational missteps with the supply chain.
“There was an absolute contrast to Nordstrom’s opening in Calgary. It’s a beautiful store with a great assortment. They hit it on every cylinder.”
Target entered a market that was saturated with American competitors such as Wal-Mart Stores Inc., Costco Inc. and Home Depot USA Inc., not to mention Canadian Tire, Lowe’s Cos. Inc., Sobeys Inc., Metro, Loblaw Cos. Inc. and Primark America Corp. Karabus said all will likely vie for locations, some of which could be broken up into smaller spaces for specialty stores. At least half of the locations could be taken up quickly, including those that Target built. However, many of the former Zellers sites that Target occupied were old and not in good locations.
“The real estate was a bunch of cats and dogs, reflecting many subpar Zellers locations that may have looked fine on Google Maps when looking at a screen in Minneapolis, but on the ground in Canada were either off prime commuting routes, in second-tier neighborhoods, or hard to resupply efficiently,” observed Craig Johnson, president of Customer Growth Partners. “Target bought the locations from HBC whose long suit is real estate, while Target’s strength is, or was, fashion merchandising, so Target ended up overpaying for a portfolio of B if not C locations.”
Johnson also said Target had a poor understanding of Canadian consumers. “They are even thriftier/more price-sensitive than we are and are used to Canadian versions of products, e.g., milk in gallon bags versus cartons or plastic bottles.” Johnson also cited Target’s lack of “favorite” products carried in the U.S. stores, chronic supply chain and importing issues and a lack of senior management from Canada.
Cornell said the company undertook a massive effort in Canada to increase sales during the holiday period. “We entered the holiday with stock at an all-time high,” he said. “We added 15,000 products and ensured that our pricing was appropriate.
We had a compelling Canadian holiday marketing campaign. The harsh reality is that sales and profits continued to fall short during the holiday season. We did not see the step change in performance.”
Cornell said Target considered alternative scenarios such as closing the worst-performing stores and shrinking the Canadian footprint. But he came to the conclusion that operating in Canada would require additional investment capital in supply chain and technology to enable Target to sell online there.
“We don’t believe we could become a successful Canadian retailer without being a leading onmichannel retailer,” Cornell said. “Given these investments, we’re unable to map out a scenario that would allow Target Canada to reach [acceptable] profit and cash flow until 2021. We were facing the decision of devoting billions of dollars without the realistic prospect of an appropriate return on the investment.”
The announcement of Target’s exit from Canada was welcome news to Wall Street, which had been pushing for such a move. The company’s stock rose 1.96 percent to $75.79 on the New York Stock Exchange midday on Thursday.
Matt Nemer, a retail analyst at Wells Fargo, said the retreat from Canada “will allow the company to focus on executing the already-in-progress turnaround in the United States. It is also an indication of Cornell’s leadership style, that there are no ‘sacred cows’ and he is willing to make tough decisions that support shareholder value.”
Cornell described Target as being in the “early stages of improving the U.S. performance. There’s a lot of opportunity to reinvigorate the business in the U.S. Our prioritization of signature categories like apparel and home, baby and kids’ will allow us to unlock growth as we meet the needs of guests. We’re going to focus on localization and personalization. We’ll continue to accelerate the expansion of City Target with stores in Boston and Brooklyn in 2015, and we’ll continue to test and expand the Target Express format. We’ll also continue to look for opportunities. I’m very bullish about future prospects of business in the U.S.”
The company said based on its sales in November and December, it expects comparable sales in its U.S. stores to be up 3 percent in the fourth quarter, better than its prior guidance for a 2 percent increase. Target attributed the improvement to increased traffic and stronger-than-expected sales in the digital channel. Adjusted earnings are now seen finishing the quarter at between $1.43 and $1.47, about 6 cents higher than original guidance.
“There was a slowdown in the first part of December, but we’re very pleased with the growth in traffic and sales leading up to and after Christmas and we’ve seen continued strength going into January. We’re very pleased with the momentum and progress we’re making.”