The U.S. economy could be starting to find its footing again. While unemployment as a total number remains high, it does appear to be flattening nationally, and has even starting to drop in a number of states. COVID-19 isn’t going away – in fact, if the weekend’s reports are accurate, I think that we are actually in the midst of a much-feared second infection wave. Even so, state governors across the country have expressed a determination to keep their local economies open. That means that the burden is on each individual to keep taking appropriate measures – including social distancing and masks – to keep themselves and their families safe.
If there is good news on the health care front, it is that hopeful progress is being made in R&D of antivirals and potential vaccines. I don’t think it’s too smart to bet on a quick turnaround in that particular arena – even with expedited regulatory processing, even the most optimistic health experts aren’t expecting to see either an antiviral or a vaccine available for widespread public consumption until sometime next year. I think the better news is that in the absence of those direct solutions, medical professionals have taken advantage of the last few months to develop novel treatment methods using existing products and methods that seem to be helping to manage the severity of the virus for those who are infected. I think that means that businesses can remain open, and consumers can continue to re-engage in measured fashion, both socially and commercially.
Some of the numbers about infection spikes are pretty alarming; regions that previously seemed to have contained infection spread better than most are now reporting higher numbers than ever. I attribute a big portion of those spikes to what I’ll call “isolation exhaustion” – people are just tired of being shut up in their homes and no way to get out and do anything. I think there is a learning curve that many have to go through to learn what it means to be in public but to try to manage their interactions and activities in a conservative way to stay safe.
I’m engaging in a longer-than-normal description of how I view the current pandemic environment, because I think this element of isolation exhaustion is something that has folks anxious to get back to many of the things they used to be able to do. Broad shutdowns and shelter-in-place orders have forced people to rely on things like e-commerce to buy basic goods products, and remote solutions to engage with friends, coworkers, and even family members. That’s why in the last few months, companies that were better-positioned for a remotely-driven world – including in the Consumer Staples sector – have survived, and some case prospered far better than anybody expected.
One pocket of the economy that really took a big hit is big-box, major retailers. That includes companies like Kohl’s Corporation (KSS), who were already struggling to adjust to shifting consumer preferences towards online shopping and reliance on private labels and brands before the pandemic began. KSS borrowed heavily to bolster its cash and liquid assets during the pandemic, which enabled the company to absorb much of the blow they took from an extended shutdown period. The real question, I think is whether the isolation exhaustion consumers – especially those in the more affluent demographics that KSS tends to emphasize – have been experiencing lead to an increase in shopping activities as stores reopen? If the company can see meaningful, improving trends in store traffic and in other aspects of its own long-term transformation strategy, which puts a big emphasis on a partnership with Amazon to handle local returns and on its own digital commerce platform, the company may have already survived the worst the pandemic has to offer. The potential boon for investors is that the stock is sitting at lows not seen in this century; the last time it was this low was in October of 1998. Does that mean the stock’s value proposition is more compelling than ever, or is just a long swoon that isn’t likely to end? Let’s try to find out.
Fundamental and Value Profile
Kohl’s Corporation (Kohl’s) is an operator of department stores. The Company operates approximately 1,154 Kohl’s department stores, a Website (www.Kohls.com), approximately 12 FILA outlets, and approximately three Off-Aisle clearance centers. The Company’s stores and Website sell moderately-priced private label and national brand apparel, footwear, accessories, beauty and home products. The Company’s Website includes merchandise that is available in its stores, as well as merchandise that is available only online. The Company’s merchandise mix includes both national brands and private brands that are available only at Kohl’s. The Company’s private brands include Apt. 9, Croft & Barrow, Jumping Beans, SO and Sonoma Goods for Life. The Company’s exclusive brands include Food Network, Jennifer Lopez, Marc Anthony, Rock & Republic and Simply Vera Vera Wang. KSS’s current market cap is $3.4 billion.
Earnings and Sales Growth: Over the last twelve months, earnings and sales both declined, with earnings -624% lower, whiles sales dropped -40.5%. In the last quarter, earnings moved -260.8% lower, while sales also dropped -64.5%. The company’s margin profile has historically been narrow, but started to show signs of deterioration pre-pandemic that has only become more severe. In the last twelve months Net Income was 0.48% of Revenues, and plunged to -22.3% in the last quarter. Much of the speed and severity of this decline is certainly attributed to pandemic conditions; but the acceleration of a pattern that was already troubling does not engender more confidence in the company’s near-term prospects.
Free Cash Flow: KSS’s free cash flow is generally healthy, at $735 million. That translates to a Free Cash Flow Yield of 22.6%, which admittedly is impressive given their narrowing Net Income; but it should also be noted that in 2019 free cash flow was markedly higher, at about $1.7 billion.
Debt to Equity: KSS has a debt/equity ratio of 1.55, which has been increasing steadily since early in 2019, when it was more manageable .7. Cash and liquid assets increased by almost triple their level at the end of 2019, to a little more than $2 billion in the last quarter, while debt increased from $400 million in the middle of 2018 to $6 billion in the most recent quarter. The increase in case lines up nearly perfectly with a big jump in debt in the last quarter, which I take as a clear indication management increased borrowing to build up cash.
Dividend: KSS suspended its dividend after the first quarter of the year.
Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but I like to work with a combination of Price/Book and Price/Cash Flow analysis. Together, these measurements provide a long-term, fair value target around $40 per share. That suggests that the stock is significantly undervalued, with about 84% upside from its current price. It is also noteworthy that the stock’s Book Value – what I like to consider a good barometer of a company’s intrinsic value – is above $30 per share, which is more than 42% above the stock’s current price.
Here’s a look at the stock’s latest technical chart.
Current Price Action/Trends and Pivots: The chart above shows the last year of price movement for KSS. The red diagonal line traces the stock’s downward trend from a November peak at about $59 to its low around $11 in April. It also provides the baseline for the Fibonacci retracement lines shown on the right side of the chart. The stock staged a nice little upward trend from that bottom until earlier this month, when the stock peaked at the 38.2% retracement line, and began dropping off of resistance at around $29 per share. It appears to have found support around $20, having used that level to rebound a couple of weeks ago to a short-term high a little below $26 before dropping back in the last couple of days. If the stock can use $20 as support again, it should have momentum to test that short-term high around $25, with almost $30 very possible if bullish momentum picks up. A drop below $20, however could see the stock fall to between $15 and $16 before finding new support.
Near-term Keys: KSS’s current price levels, compared to many of its valuation metrics are very tempting. Unfortunately, I’m not sure that current conditions are very conducive to helping the company navigate its way quickly out of the difficulties it was already trying to work through before the pandemic set in. I would wait to see some indications that Net Income and Revenues have begun to stabilize, and that the company’s long-term debt is manageable before taking its value proposition seriously. That means that the best probabilities lie in short-term trading strategies. If the stock can rebound off of support around $20, you could consider buying the stock or working with call options, using $25 as a good first-hit profit target, and $29 beyond that if bullish momentum is strong. A drop below $20 should be taken as a sign to consider shorting the stock or buying put options, using a range between $16 and $15 per share a good bearish profit target.