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Canadian Tire, Target learn home is where the profit is

Canadian Tire sales may have been slowed by a lack of snow, but analysts expect good things from fourth-quarter earnings.

Fernando Morales/The Globe and Mail

There's a cautionary narrative that links two big retailers – one Canadian, the other U.S. – that will report fourth-quarter results this week.

It was two decades ago that Canadian Tire, after suffering a string of mounting losses, pulled out of the U.S. market following an ill-fated expansion into auto parts and service retailing. In fact, it was the retailer's second doomed foray south of the border, having sold off the assets of Texas-based White Stores in the mid-1980s.

The company hasn't set foot in the United States since, and investors are probably better off for it. Canadian Tire's stock has roughly tripled since 2009, and investors will be hoping for more good news when it post results before markets open on Feb. 26.

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According to Bloomberg, analysts expect Canadian Tire – which also owns clothing chain Mark's and sporting goods retailer FGL Sports – to post adjusted earnings per share (EPS) of $2.50 for the fourth quarter ended Jan. 3, up about 6.3 per cent from a year earlier. It's worth noting that Canadian Tire has topped EPS estimates in six of the past eight quarters, Bloomberg data indicate.

In a recent note, CIBC World Markets analyst Mark Petrie said Canadian Tire's sales in the quarter were likely held back by a lack of snow, which drives sales of seasonal goods such as winter tires and toboggans. Still, he expects fourth-quarter consolidated sales to grow 6 per cent to about $4.22-billion, led by same-store sales increases at Mark's and FGL Sports and higher revenue at Canadian Tire Petroleum.

Nobody needs to remind Target, of course, of the perils of expanding into unfamiliar markets. The U.S. retailer, which will announce fourth-quarter results the day before, on Feb. 25, expects to report pretax losses of about $5.4-billion (U.S.) on its discontinued Canadian operations, which the company is currently liquidating.

Excluding the Canadian expansion debacle, however, Target is expected to post solid results. When it announced the Canadian store closings in mid-January, the retailer actually raised its U.S. same-store sales growth outlook to 3 per cent, up from a previous estimate of 2 per cent, for the fourth quarter ended Jan. 31, based on strong sales results in November and December. Driven by increased U.S. store traffic and better-than-expected online revenue, it also raised its guidance for fourth-quarter adjusted EPS from continuing operations by 6 cents, to a range of $1.43 to $1.47.

"We believe the writedown of the [Canadian] assets and the brisk exit will provide an immediate boost to earnings," Edward Jones analyst Brian Yarbrough said in a recent note. He rates Target's stock a "buy", based on "the company's strong competitive position and solid long-term growth prospects."

Among other positive factors, he cited Target's rewards program, which gives members a 5-per-cent discounts on purchases, and the hiring last summer of new chief executive Brian Cornell, an "outsider with a fresh new perspective to the insular thinking at Target."

Target's exit from Canada is also favourable, at least in the short run, for Canadian Tire and other domestic retailers, as it eliminates a major competitor from the market.

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"Though the net impact of Target on Canadian Tire has been modest, its exit is clearly a near-term positive, despite the liquidation of its inventory over the coming weeks," CIBC's Mr. Petrie said.

Longer-term, however, Target's retreat could put additional pressure on Canadian Tire, he said.

"If Wal-Mart ends up with a significant chunk [of Target's stores], it will end up as a modest negative for [Canadian Tire], as competing with a floundering Target was child's play compared to dealing with a reinvigorated Wal-Mart Canada," he said.

Still, Mr. Petrie rates Canadian Tire shares "sector outperformer," given its steady sales growth and increased focus on gross margins. He has a 12- to 18-month price target of $135 (Canadian) on the shares, which closed Friday at $119.76.

Of particular note, even as retail stocks have risen sharply, Canadian Tire's retail operations trade at an implied 4.9 times estimated 2015 EBITDA (earnings before interest, taxes, depreciation and amortization) – an "attractive valuation given the multiple expansion that has taken place across nearly all retail and consumer stocks," he said.

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About the Author
Investment Reporter and Columnist

John Heinzl has been writing about business and investing since 1990. A native of Hamilton, he earned a master's degree from the University of Western Ontario's Graduate School of Journalism and completed the Canadian Securities Course with honours. More

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