Walmart and Target Clash With Investors Over Strategy to Keep Prices Low Despite Inflation

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  • Investors are selling off shares of Walmart and Target after the discounters pledged to absorb some higher costs rather than passing it on to consumers.
  • Both Walmart CEO Doug McMillon and Target CEO Brian Cornell say they are playing the long game to win new customers, deepen loyalty and keep up sales momentum.
  • "It's all about market share, market share, market share," Brian Yarbrough, a retail analyst for Edward Jones. "And typically when you're focused on market share that can come at the expense of profitability."

Walmart and Target put up strong third-quarter performances this week, beat Wall Street's expectations and spoke of holiday shoppers already starting to splurge on gifts and gatherings this season. Yet the investor response was swift: A brutal sell-off.

Target shares closed down about 5% Wednesday. Walmart closed down nearly 3% on Tuesday, after its earnings report. Shares continued to drop Wednesday, erasing all its gains year-to-date.

The two sides are at odds on the retailers' strategy of absorbing some of the rising costs of shipping, labor and materials rather than passing them on to customers with higher prices. Both Walmart CEO Doug McMillon and Target CEO Brian Cornell have drawn a clear line. Their strategy: Keep prices low in a bid for customer loyalty — even if it means a hit to profits.

The pushback they're hearing is: Why not charge shoppers more? Americans have had a ravenous appetite for shopping. They socked away money during the pandemic and the holiday forecasts are rosy.

McMillon said Walmart must uphold its reputation for value — or risk scaring away customers who feel sticker shock. He invoked the big-box retailer's founder in an interview on Tuesday with CNBC's "Squawk on the Street."

"We save people money and help them live a better life," he said. "Those are the words that came out of [Walmart founder] Sam Walton's mouth. He loved to fight inflation. So do we."

Cornell said Target is playing the long game, too, even as that means swallowing extra costs.

"We are protecting prices," he said on a call with reporters. "It's as important to our guests this year as safety has been throughout the pandemic." 

He and the company's team of executives defended that strategy, even as they were peppered with questions by analysts on an early Wednesday earnings call.

'All about market share'

Target and Walmart have seen significant sales gains during the pandemic, as consumers avoided the mall, bought more groceries and sought out items for more time at home from puzzles to loungewear.

Target, in particular, has seen eye-popping numbers that make for tough comparisons. The company's 2020 sales grew by more than $15 billion — greater than its total sales growth over the prior 11 years. And its stock, even with Wednesday's selling, is up more than 43%, putting its market value at more than $123 billion.

Target has touted its market share gains frequently on calls with investors. It picked up about $9 billion in market share in the fiscal year ended Jan. 30, based on research by the company and third-parties. It said it gained another $1 billion in market share in the first three months of this fiscal year.

Now, both retailers face new complexities. Consumers are juggling added expenses, from commutes to the office to vacations and meals at restaurants. They are spending through the extra cash that they saved up during the earlier part of the pandemic or received from stimulus checks. And they are seeing the price of groceries, gas and more jump. At the same time, the retailers are deciding to spend more on transportation — going so far as to charter their own ships, to make sure shelves are well stocked — and they have had to raise wages and sweeten benefits to ensure warehouses and stores are staffed and running smoothly.

Steph Wissink, a retail analyst for Jefferies, said after Target and Walmart's outsized gains in the last 18 months "giving up that momentum is hard to do."

"Price is one lever they have to continue to honor their customer promises and to aggressively defend their share," she said.

The unusual environment has led to mixed signals about consumers' mindset and potential behavior, according to Wissink.

"In the U.S., hyperinflation isn't something we regularly navigate so there's no precedent, recent experience, or muscle memory to tap into," she said. "We can observe other markets of the world as proxies but the U.S. economy is uniquely consumer-driven."

With the move to keep prices low, Target and Walmart have signaled the companies fear losing customers and sales if costs are passed through, she said. That's why, the retailers are "strategically putting their own margins on the line to ensure consumerism continues to advance," Wissink explained.

Brian Yarbrough, a retail analyst for Edward Jones, said it will take time to see if Walmart and Target are making a smart bet or a terrible mistake.

"It's all about market share, market share, market share," he said. "And typically when you're focused on market share that can come at the expense of profitability."

Inflation at a three-decade high

Inflation hit a three-decade high in October, according to the Labor Department. The consumer price index, which includes a mix of products ranging from gasoline and health care to groceries and rents, rose 6.2% from a year ago, the most since December 1990.

Some categories have seen a bigger jump than others. Fuel, for instance, surged 12.3% for October. Used vehicle prices rose 2.5% for the month. And food prices grew by 0.9% — with meat, poultry, fish and eggs collectively increasing 1.7%.

Food is a big category for Walmart and Target. Walmart is the largest grocer in the country by revenue. Target has used its grocery business as a traffic driver.

On a Wednesday earnings call, Target's Cornell called growth of its food and beverage category "one of the real success stories within our business over the last few years." He said pantry-stocking trips have inspired customers to toss a variety of other merchandise into their shopping carts and driven higher online sales as people get a gallon of milk through curbside pickup.

Cornell and McMillon said they are not seeing signs of price-sensitive customers, such as trading down to smaller packs or cheaper brands.

Katie Thomas, lead of the Kearney Consumer Institute, said some costs are easier to pass on to shoppers. With food, she said, a price hike is risky.

"Grocery is more complicated because consumers are going to feel it in their everyday," she said. "Even in the pandemic, we all felt like prices were already going up because people were buying more and they were taking less frequent [store] trips. People are very aware of it."

With other categories, she said, retailers can get away with bumping up price. The tricky part, she said, is for retailers to figure out where shoppers will pay a premium and what may spook them.

"Even in a period of a recession or of inflation, consumers are just going to make trade-offs in certain categories instead of trade downs across the board," she said. For instance, she said, some people are willing to buy off-brand grocery bags or ketchup — but are unwilling to buy a lower quality steak or skip a trip to the hair salon.

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