January 29, 2015 Kohl s Corporation Current Recommendation SUMMARY DATA NEUTRAL Prior Recommendation Underperform Date of Last Change 07/22/2013 Current Price (01/28/15) $60.80 Target Price $64.00 52-Week High $62.50 52-Week Low $49.09 One-Year Return (%) 24.24 Beta 0.76 Average Daily Volume (sh) 2,145,666 Shares Outstanding (mil) 202 Market Capitalization ($mil) $12,282 Short Interest Ratio (days) 10.66 Institutional Ownership (%) 100 Insider Ownership (%) 4 Annual Cash Dividend $1.56 Dividend Yield (%) 2.57 5-Yr. Historical Growth Rates Sales (%) 1.7 Earnings Per Share (%) 4.0 Dividend (%) 15.2 using TTM EPS 15.2 using 2014 Estimate 15.1 using 2015 Estimate 13.6 Zacks Rank *: Short Term 1 3 months outlook 3 - Hold * Definition / Disclosure on last page (KSS-NYSE) SUMMARY In the third quarter of fiscal 2014, Kohl s missed the Zacks Consensus Estimate on both earnings and revenues. Earnings of $0.70 also declined 14% from the prior-year quarter due to a decline in revenues and margins. Net sales dipped 1.6% from the year-ago level to $4.37 billion due to a decline in comparable sales. Comps declined 1.8% due to lower footfall as the result of a volatile retail sales environment and lower consumer confidence. Gross margin shrank 30 basis points, while operating margin declined 130 basis points due to higher overhead expenses. Overall, we have faith in the company s strong fundamentals. Kohl s has a solid brand portfolio, a growing e- commerce business, a strong balance sheet, and impressive dividend yields. However, a sluggish sales environment and a weak view for fiscal 2015 are concerns. We thus remain Neutral on the stock. Risk Level * Below Avg., Type of Stock Large-Blend Industry Retail-Rgn Dept Zacks Industry Rank * 117 out of 267 ZACKS CONSENSUS ESTIMATES Revenue Estimates (In millions of $) Q1 Q2 Q3 Q4 Year (Apr) (Jul) (Oct) (Jan) (Jan) 2012 4,243 A 4,205 A 4,490 A 6,342 A 19,279 A 2013 4,199 A 4,289 A 4,444 A 6,099 A 19,031 A 2014 4,070 A 4,242 A 4,374 A 6,230 E 18,916 E 2015 4,138 E 4,317 E 4,462 E 6,294 E 19,211 E Earnings Per Share Estimates (EPS is operating earnings before non-recurring items, but including employee stock options expenses) Q1 Q2 Q3 Q4 Year (Apr) (Jul) (Oct) (Jan) (Jan) 2012 $0.63 A $1.00 A $0.91 A $1.66 A $4.17 A 2013 $0.66 A $1.04 A $0.81 A $1.56 A $4.05 A 2014 $0.60 A $1.13 A $0.70 A $1.60 E $4.03 E 2015 $0.63 E $1.21 E $0.77 E $1.85 E $4.46 E Projected EPS Growth - Next 5 Years % 8 2015 Zacks Investment Research, All Rights reserved. www.zacks.com 10 S. Riverside Plaza, Chicago IL 60606
OVERVIEW Headquartered in Menomonee Falls, WI, Kohl s Corp. is a U.S. based department store chain that operates specialty department stores and an e-commerce site in the U.S. As of Nov 1, 2014, the company operated 1,163 family-focused, value-oriented department stores and a website (www.kohls.com) that sells moderately-priced apparel, footwear and accessories for women, men and children; soft home products such as sheets and pillows; and house ware. The department store appeals to middle-class consumers as it sells discounted branded and private label clothing and home goods. The company's merchandise includes products from branded manufacturers, such as Nike and others, in addition to exclusive and private label brands. Private label brands are produced by wholesalers but sold under the brand name of the retailer, whereas exclusive brands are marketed under the wholesaler's name and are sold only in a particular chain. The company s national brands include Dockers, Levi s, Columbia Sportswear, Reebok, Champion, Oshkosh, Pfaltzgraff, Krups and KitchenAid. In addition, Kohl s also offers online shopping. Its website features a selection of items and categories beyond what is available in stores, with a primary focus on extended sizes, product line extensions and web-exclusive product lines. REASON TO BUY Strong Brand Portfolio: Kohl s offers moderately priced exclusive and national brand apparel, shoes, accessories, and beauty and home products. The company has established a strong brand portfolio with national brands such as Dockers, Levi s, Columbia Sportswear, Reebok, Champion, Oshkosh, Pfatzgraff, Krups and KitchenAid. Exclusive brands such as Simply Vera by fashion designer Vera Wang and the Chaps line by Polo Ralph Lauren helped draw customers to Kohl's stores in the past as the products can only be found at Kohl's. Private and exclusive brands like Jennifer Lopez, Marc Anthony, Rock & Republic, and Van Heusen brands, introduced in 2011, are still doing well in sportswear, dresses and other apparel categories. Regular Innovation: Kohl s regularly introduces new brands in order to keep the inventory assortment fresh and drive customer traffic to its stores and website. In 2013, Kohl s launched an assortment of over 20 new national beauty and fragrance brands in over 250 stores and online. Some popular launches of 2014 include Fit Bed under its active and wellness business; the Jumping Beans collection featuring Disney characters; IZOD branded menswear and Juicy Couture brand for women and girls. It also partnered with Awesomeness TV to launch S.o. R.a.d., a seven capsule limited-edition junior fashion line series on YouTube. During the third quarter, the company introduced the Gaiam Yoga product both in-store and online to expand its offerings in the rapidly growing active and wellness area. The company plans to roll out more of the Disney portfolio at regular intervals. Also, the company plans to introduce the Puma brand in the first half of 2015 in a number of stores. Kohl s, under its concept DesigNation, showcases clothes from premier U.S. designers. The limitedperiod collection is inspired by various international destinations, with a different designer for every new collection launched. The collection is showcased exclusively at Kohl s stores and the company s Equity Research KSS Page 2
website Kohls.com. The Kohl s DesigNation collection was introduced in fall 2012 with designer Narciso Rodriguez and followed up by Derek Lam, Catherine Malandrino, Peter Som and Elie Tahari. The upcoming collection will have famous U.S. designer Michelle Smith showcasing women s apparel, which is expected to offer customers with more fashion options and drive top-line growth for the company going forward. Initiative to Boost Traffic and Sales: The company is undertaking initiatives to drive traffic and thereby improve its sales which have been trending soft for the past few quarters. Kohl s started an initiative during the first quarter of 2014, known as "the Greatness Agenda" in order to increase transactions per store and sales. Under this initiative, the company will focus on providing the right merchandise mix and tailoring products to every customer across every channel. For example, the company tested different beauty department formats and the results showed that beauty sales received a boost in renovated stores. The company has renovated around 512 stores as of Nov 1, 2014 and expects to have the new beauty department in approximately 900 stores by the end of fiscal 2015. Kohl s has also designed a reward system for its customers to offer additional savings and to increase customer loyalty in addition to the value offered through Kohl s Cash and Kohl s branded credit card. The company already has a customer loyalty program in place which allows enrolled customers to earn various rewards based upon the volume of their purchases. Prior to the nationwide launch in Oct 2014, the company had approximately 10 million customers enrolled in the program. By the end of the third quarter of 2014, over 17 million customers had enrolled, which signals that more and more consumers are shopping at Kohl s. In addition, the company focused on enhancing the shopping experience on tablets and smartphones in 2014, and thus launched a buy online and pick up in store service in approximately 100 stores during the third quarter of 2014. The company expects to offer this shopping option in all of its stores by the second quarter of 2015. Kohl s is hopeful that these measures will drive store traffic over a period of time. Growing E-commerce Business: The company has experienced significant growth in its e-commerce business since the last few years. Its e-commerce sales have almost doubled since 2011 and increased at a compound annual growth rate of almost 40% over the last 5 years. In order to facilitate online sales, Kohl s has been opening distribution centers. Currently, the company has about three distribution centers to fulfill its online orders. Kohl s has also made significant technology investments to support its online business. In early fiscal 2014, the company upgraded its e-commerce platform by rolling out the e-sign technology, which will help in strengthening the omni-channel platform. Till now, approximately 800 of its stores were equipped to fulfill online orders, which helped improve shipping times and provided additional e-fulfillment capacity. The company remains optimistic on its e-commerce business and expects e-commerce sales to increase over the near term. Attractive Shareholder Returns: Kohl s regularly returns value through dividends and share buybacks. In 2012 and 2013, the company returned a total of $1.3 billion and $799 million, respectively, through share repurchases and dividends. As of Nov 1, 2014, the company had $2.3 billion of authorized share repurchases remaining from the $3.5 billion program approved in Nov 2012, which the company is expected to complete in early fiscal 2016. Equity Research KSS Page 3
Kohl s started its dividend payment program in 2011 with an annual dividend payout of $1 per share. Thereafter, Kohl s increased its dividend every year - 28% in 2012 to $1.28 per share, 9.4% in 2013 to $1.40 per share and 11% in 2014 to $1.56 per share. These measures attract both growth and income investors and thus support its stock price. REASONS TO SELL Challenging Retail Environment: The health of the retail industry largely depends upon consumer confidence and spending patterns. Kohl s has been facing lower traffic in its stores owing to a challenging retail/sales environment in the U.S. as consumers are now increasingly conscious about their spending habits and avoid any unnecessary expenses. Lower traffic is leading to declining comps. We note that the company s comps have been declining for more than a year now. In fact, the company does not expect the situation to improve, as the gloomy consumer spending environment is likely to persist in the near term. Rising Apparel Costs: Inflation has remained a hurdle for Kohl s in addition to a tough retail environment, resulting in higher costs regularly. The company has employed many ways to combat the rising prices of apparels. However, the company still expects inflation to increase apparel costs in fiscal 2015. Absence of International Exposure: Kohl's is vulnerable to a weak U.S. economy and declining consumer spending in the U.S. markets. The company has no stores outside the U.S. and therefore no international presence to serve as a buffer to fluctuations in the U.S. economy. Other departmental store chains like Wal-Mart Stores, Inc have a strong international presence. RECENT NEWS Kohl's Misses on Third Quarter Earnings, Revenue Estimates Nov 13, 2014 Kohl s Corporation posted third-quarter fiscal 2014 earnings of $0.70 per share, missing the Zacks Consensus Estimate of $0.76 by 7.9% and prior-year quarter earnings by 14%. On a year-over-year basis, both revenues and earnings dropped as comps and margins declined. Sales and Margins Net sales decreased 1.6% from the year-ago level to $4.37 billion due to a decline in comparable sales. Sales also missed the Zacks Consensus Estimate of $4.42 billion by 1.1%. Comps declined 1.8%, comparing unfavorably with a 1.6% fall in the prior-year quarter as well as the prior quarter when comps declined 1.3% year over year. We note that the company has delivered sluggish results in all the three quarters of fiscal 2014. Soft sales in the first quarter was due to unfavorable weather disrupted usual shopping trends and therefore resulted in higher inventory levels during the second quarter. The companies had to give high discounts in order to clear the piling stocks. This resulted in a highly promotional environment and exerted pressure on margins. The decline in sales in the third quarter was the result of declining footfall due to a volatile retail sales environment and lower consumer confidence. The company stated that third-quarter revenues were impacted mainly by sluggish sales in October. In spite of lower cost of merchandise sold, gross margin shrank 30 basis points (bps) to 37.2% due to lower revenues and due to unfavorable mix. Operating margin shrank 130 bps to 6.9% due to higher selling, general and administrative expenses. Equity Research KSS Page 4
Store Update As of Nov 1, 2014, Kohl s operated 1,163 stores in 49 states compared with 1,158 stores in the prior-year period. The company opened three stores and reopened one which had been closed in the first quarter. Other Financial Details As of Nov 1, 2014, Kohl s held $631 million of cash and cash equivalents compared with $745 million as of Aug 2, 2014. The company ended the quarter with long-term debt of $2.79 billion, flat sequentially. Guidance Based on the sales result so far this fiscal year, Kohl s expects fiscal 2014 earnings per share to be at the lower end of the prior guidance of $4.05 $4.45. The company has lowered its earnings outlook during its investor conference call held in Oct 2014. VALUATION Kohl s current trailing 12-month earnings multiple is 15.2x, a discount of 1.3% to the industry average of 15.4x. Over the last five years, Kohl s shares have traded in the range of 9.9x to 17.0x trailing 12-month earnings. Based on 2015 earnings estimate of $4.03 the stock is trading at 15.1x, a premium of 0.7% to the industry average of 15.0x. Our target price of $64.00 is based on approximately 15.9x our 2015 earnings estimate. At the end of the fourth quarter of fiscal 2014, the P/B multiple of the stock was approximately 2.1x, a 12.5% discount to the industry average of 2.4x. The stock is highly attractive given a trailing 12-month ROE of 14.2%, which is significantly ahead of the negative industry average of 0.2%. On a P/B basis, the price target is based on a P/B multiple of approximately 2.3x. The stock currently holds a Zacks Rank #3 (Hold). Equity Research KSS Page 5
Key Indicators F1 F2 Est. 5-Yr EPS Gr% P/CF 5-Yr High 5-Yr Low KOHLS CORP (KSS) 15.1 13.6 8.0 7.3 15.2 17.0 9.9 Industry Average 15.0 12.1 11.6 6.7 15.4 NA 10.6 S&P 500 16.0 14.9 10.7 16.1 18.4 19.4 12.0 MACYS INC (M) 14.9 13.3 13.0 9.4 15.0 15.4 10.3 SEARS CANADA (SRSC) PENNEY (JC) INC (JCP) NA 16.0 DILLARDS INC-A (DDS) 14.9 13.3 11.8 8.8 15.9 34.2 10.4 TTM is trailing 12 months; F1 is 2014 and F2 is 2015, CF is operating cash flow P/B Last Qtr. P/B 5-Yr High P/B 5-Yr Low ROE D/E Last Qtr. Div Yield Last Qtr. EV/EBITDA KOHLS CORP (KSS) 2.1 2.2 1.7 14.2 0.8 2.6 6.2 Industry Average 2.4 2.4 2.4-0.2 4.3 1.2 4.0 S&P 500 5.1 9.8 3.2 24.8 2.0 Equity Research KSS Page 6
Earnings Surprise and Estimate Revision History Equity Research KSS Page 7
DISCLOSURES & DEFINITIONS The analysts contributing to this report do not hold any shares of KSS. The EPS and revenue forecasts are the Zacks Consensus estimates. Additionally, the analysts contributing to this report certify that the views expressed herein accurately reflect the analysts personal views as to the subject securities and issuers. Zacks certifies that no part of the analysts compensation was, is, or will be, directly or indirectly, related to the specific recommendation or views expressed by the analyst in the report. Additional information on the securities mentioned in this report is available upon request. This report is based on data obtained from sources we believe to be reliable, but is not guaranteed as to accuracy and does not purport to be complete. Because of individual objectives, the report should not be construed as advice designed to meet the particular investment needs of any investor. Any opinions expressed herein are subject to change. This report is not to be construed as an offer or the solicitation of an offer to buy or sell the securities herein mentioned. Zacks or its officers, employees or customers may have a position long or short in the securities mentioned and buy or sell the securities from time to time. Zacks uses the following rating system for the securities it covers. Outperform- Zacks expects that the subject company will outperform the broader U.S. equity market over the next six to twelve months. Neutral- Zacks expects that the company will perform in line with the broader U.S. equity market over the next six to twelve months. Underperform- Zacks expects the company will under perform the broader U.S. Equity market over the next six to twelve months. The current distribution of Zacks Ratings is as follows on the 1116 companies covered: Outperform - 17.0%, Neutral - 76.3%, Underperform 5.8%. Data is as of midnight on the business day immediately prior to this publication. Our recommendation for each stock is closely linked to the Zacks Rank, which results from a proprietary quantitative model using trends in earnings estimate revisions. This model is proven most effective for judging the timeliness of a stock over the next 1 to 3 months. The model assigns each stock a rank from 1 through 5. Zacks Rank 1 = Strong Buy. Zacks Rank 2 = Buy. Zacks Rank 3 = Hold. Zacks Rank 4 = Sell. Zacks Rank 5 = Strong Sell. We also provide a Zacks Industry Rank for each company which provides an idea of the near-term attractiveness of a company s industry group. We have 264 industry groups in total. Thus, the Zacks Industry Rank is a number between 1 and 264. In terms of investment attractiveness, the higher the rank the better. Historically, the top half of the industries has outperformed the general market. In determining Risk Level, we rely on a proprietary quantitative model that divides the entire universe of stocks into five groups, based on each stock s historical price volatility. The first group has stocks with the lowest values and are deemed Low Risk, while the 5 th group has the highest values and are designated High Risk. Designations of Below-Average Risk, Average Risk, and Above-Average Risk correspond to the second, third, and fourth groups of stocks, respectively. Research Analyst Copy Editor Content Ed. QCA Lead Analyst Reason for Update Sneha Nahata Debasmita Banerjee Kinjel Shah Kinjel Shah Sneha Nahata 3Q14 Earnings Equity Research KSS Page 8