What’s behind Target’s Improved Q1 Margins?

Margins improved sequentially

Target (TGT) impressed with its margin performance in the first quarter of fiscal 2019. The company managed to improve its operating margins, which is encouraging given the heightened pressure on margins from higher digital fulfillment costs and business reinvestment needs.

What’s behind Target’s Improved Q1 Margins?

Target reported gross profit margins of 29.6% during the reported quarter, which declined 20 basis point on a YoY basis, reflecting a 50-basis-point negative impact from higher fulfillment costs and a rise in supply-chain costs. However, an improved merchandise mix supported the gross margins and contributed 30 basis points. Notably, Target’s gross margin showed sequential improvement. Gross margin contracted 40 basis points in the fourth quarter of fiscal 2018.

Despite a low gross margin rate, Target’s operating margin expanded 20 basis points to 6.4%. A lower SG&A expense rate supported the operating margin growth rate. Operating margin also improved sequentially.

Outlook

Target’s profit margins are expected to show gradual improvement, driven by the reduction in per unit digital fulfillment costs and an improved e-commerce mix. Target is fulfilling the majority of online orders through stores, which reduces costs and lowers shipment time, thus resulting in higher comps and better margins. Meanwhile, cost restructuring initiatives are expected to cushion its margins further.

However, in the near term, higher digital fulfillment and supply-chain costs and an increase in wages are expected to remain a drag.