Why Bank of America is down on department store inventory – 24/7 Wall St.

Retail stocks have had a particularly tough six weeks or so since Target reported miserable results with weak guidance and the stock price plummeted 25% in one day. At Wednesday’s closing bell, Target shares were down about 33% since mid-May.

Among the retailers hardest hit are the four major department store operators: Kohl’s Corp. (NYSE: KSS), Macy’s Inc. (NYSE: M), Nordstrom Inc. (NYSE: JWN) and Dillard’s Inc. (NYSE: DDS). Bank of America global research analyst Lorraine Hutchinson on Thursday downgraded Kohl’s from neutral to underperforming, bringing the company in line with other department stores, which already had underperforming ratings.

Hutchinson cut its price targets on the four by an average of 35%, citing lower sales due to inflationary pressures and “gross margin headwind associated with inventory accumulation.” She continues:

Department stores were in structural decline before the pandemic, with sales plummeting in the years leading up to the pandemic. 2021 has been a year of rising revenues thanks to pent-up demand and above-peak margins thanks to lower inventory and higher-than-expected sales.

Given a BofA forecast for a 40% probability of recession next year, Hutchinson’s price target changes are based on the sustainability of 2021 pent-up demand growth and pandemic recovery margins and the extent to which a recession will exacerbate these two factors.

Along with the rating downgrade, Hutchinson cut its $50 price target for Kohl’s to $26, largely due to the company’s rejection of a $53-per-share takeover bid from Franchise Group. . With the takeover’s upside potential now gone, Kohl’s commitment to an accelerated $500 million share buyback program carries little weight with investors, or BofA.

Kohl’s said it continues to explore other strategic options, including selling some of its real estate as a way to build shareholder value. So far, Hutchinson is unimpressed: “It represents a shift in tone towards a more flexible stance, but we would view any significant sale-leaseback negatively. Although unlikely, it would add leverage during a period of slowing demand and deteriorating margins.

BofA notes upside potential based on better-than-expected results from the Sephora partnership and the future “possibility of outsized buyouts” if Kohl’s enters into a sale-leaseback agreement. Despite a temporary increase in share price, Hutchinson calls such a deal a negative because it adds leverage and threatens margins to deteriorate faster due to rent payments.

Kohl’s stock traded down around 2% midday Thursday at around $27.90. That’s nearly $2 above BofA’s new price target.

BofA cut its price target on Dillard from $215 to $150, which analysts said is in line with the company’s peers and given BofA’s overall expectations for the group of weak retail sales trends and deterioration of margins. Higher-than-expected consumer spending, better inventory control and further spending cuts are upside risks. On the downside, an increase in capital spending, a slowdown in apparel and accessories sales, ongoing inventory issues and higher costs are weighing on the stock price.

Dillard’s stock traded at around $208.50 on Thursday, down 1.3%, in a 52-week range of $160.51 to $416.71. That’s nearly 40% above BofA’s new price target on the stock.

Hutchinson’s new price target for Macy’s is $15 per share, down from $22 previously. The company faces tough comparables to levels of recovery from last year’s pandemic. BofA notes upside risks, including paid sales initiatives, cost savings and increased real estate monetization. On the downside, lower consumer spending, lower credit income, pressure on margins and slowing sales growth are cause for concern.

The stock traded down around 2.4% on Thursday, at around $18.00, in a 52-week range of $15.68 to $37.95. Thursday’s trading price is about 33% above BofA’s price target.

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BofA cut its price target on Nordstrom from $21 to $15, in line with analysts’ views on the department store peer group. As such, the new target reflects Nordstrom’s weak sales and limited margin expansion potential. Rising consumer spending and falling investment provide some upside to Hutchinson’s valuation, while ‘severe cuts in high-end consumer spending’ or poor execution of Nordstrom’s expansion plans are risks on the decline.

Nordstrom’s stock traded down around 1.5% at midday Thursday. At around $20.60, it’s nearly 30% above BofA’s new price target. The stock’s 52-week range is $18.65-$38.48.