American consumers opened up their wallets this past holiday season, driving solid retail sales growth. This seemed to put Macy’s (NYSE:M) and Kohl’s (NYSE:KSS) on track to report stronger-than-expected sales results for the holiday period, as I wrote earlier this week.
Both department store operators did manage to continue growing comparable store sales during the November-December period. However, the pace of growth slowed relative to the first nine months of fiscal 2018 — particularly for Macy’s. As a result, Kohl’s stock fell 5% on Thursday, while Macy’s shares plunged nearly 18%.
Macy’s misses and cuts guidance
Through the first three quarters of the current fiscal year, Macy’s posted solid comp sales growth of 2.7%, including sales in licensed departments. As of November, it projected that comp sales would rise 2.3% to 2.5% for the fiscal year as a whole, implying comp sales growth of around 2% in the fourth quarter.
However, while Macy’s started the holiday season on a strong note, its sales pace slowed in mid-December and didn’t rebound until the week of Christmas. That limited Macy’s to a 1.1% comp sales increase for the nine-week holiday period.
Based on this disappointing sales result, Macy’s reduced its full-year outlook for comp sales growth to 2%. Additionally, it will have to take greater markdowns this month to clear out excess inventory. As a result, Macy’s now expects gross margin to decline slightly on an annual basis — compared to its previous forecast for a small increase.
Higher-than-expected asset sale gains and credit card earnings should partially offset this margin pressure. Nevertheless, Macy’s was forced to cut its full-year guidance for adjusted earnings per share from a range of $4.10 to $4.30 to a new range of $3.95 to $4.00.
Kohl’s results also fail to impress
Kohl’s posted a similar comparable store sales increase of 1.2% during the November-December period. But whereas Macy’s management was disappointed about a 1.1% comp sales gain, Kohl’s executives had lower expectations going into the quarter. That was largely because the retailer was facing an extremely tough comparison after comp sales surged 6.9% in the same period a year ago.
As a result, Kohl’s raised its full-year guidance for adjusted earnings per share to a range of $5.50 to $5.55 from a range of $5.35 to $5.55 as of mid-November.
Clearly, investors were hoping for stronger numbers. The slowdown in comp sales growth probably has investors worried about whether Kohl’s will be able to return to a faster growth rate in fiscal 2019.
Investors are overreacting
Shares of Macy’s and Kohl’s are likely to bounce back from this setback. For Kohl’s, the results were really quite solid in light of the difficult year-over-year comparison. Furthermore, the company announced several restructuring moves that should boost profitability going forward. During fiscal 2019, it will shutter four underperforming stores, close one of its three customer service centers while expanding the other two, and offer a voluntary retirement program to some of its longer-tenured employees.
As for Macy’s, the company is still in the early stages of refining its in-store experience with new technology, Macy’s Backstage off-price sections, and merchandise enhancements. The modest slowdown in comp sales growth during the holiday season doesn’t mean the comeback is doomed at Macy’s.
In addition, Sears Holdings is closing hundreds of stores as it fights to survive, while J.C. Penney is also contemplating another round of store closures. Macy’s and Kohl’s could both benefit from any further downsizing by these rival department store chains.
Lastly, Macy’s and Kohl’s both have huge opportunities to cash in on their valuable real estate portfolios in the coming years. Kohl’s plans to downsize some of its stores and lease the excess space to other high-traffic retailers such as discount grocer Aldi. Macy’s is selling certain properties for which the value of the real estate outweighs the value of the store. It is also investigating opportunities to make excess parking lot space that it owns available for development.
Macy’s — and to a lesser extent, Kohl’s — hit speed bumps during the holiday season. But that’s no reason for panic. Both stocks are incredibly cheap and should deliver big gains for patient investors.
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