At around $22.57 per share, Kohl’s Corp. (KSS, Financial) has not been this cheap since the Covid market selloff in early 2020. However, the rapid share price decline has been accompanied by a sharp fall in profitability, so despite the low price tag, the GF Value chart rates the stock as a possible value trap rather than a value stock.
Not all of the signs are bad for Kohl’s, though. For example, multiple investing gurus have been buying this falling knife on its way down according to their latest 13F filings, including Jim Simons (Trades, Portfolio)’ Renaissance Technologies and Jeremy Grantham (Trades, Portfolio)’s GMO LLC.
Investors should be aware that 13F reports do not provide a complete picture of a guru’s holdings. They include only a snapshot of long equity positions in U.S.-listed stocks and American depository receipts as of the quarter’s end. They do not include short positions, non-ADR international holdings or other types of securities. However, even this limited filing can provide valuable information.
Kohl’s new CEO, Thomas Kingsbury, also bought shares of his company recently, picking up 92,500 shares on March 29 for a cost of around $2 million, nearly doubling his number of shares owned to 228,993.
Despite short-term headwinds, the company is focused on its long-term recovery with a renewed focus on partnerships, a refreshed image and proactive inventory management. These moves could help propel growth, but perhaps more importantly, they could keep the business afloat long enough for the economy to recover, which has the potential to raise the price it could demand from an acquisition offer.
Proactive inventory management
Kohl’s fourth quarter of fiscal 2022 saw a dramatic 1,000 basis points decline in its gross margin, driven mostly by inflation (200 basis points) and clearance markdowns (750 basis points) as it went all-out to clear excess inventory. Revenue decreased 7.2% year over year to $6 billion, which was nothing compared to the bottom line – the loss per share was $2.49 compared to earnings per share of $2.20 in the year-ago quarter.
The company’s outlook for fiscal 2023 was also far from encouraging. It expects revenue to decline about 2% to 4% with diluted earnings per share between $2.10 to $2.70 for the full year, which would be an improvement from its full-year loss per share of 15 cents in 2022 but only a third of its 2021 earnings per share of $6.32.
On the positive side, this strategy of getting rid of excess inventory quickly may be a better move than letting it continue to build up; if the merchandise is not going to sell, it just gets more and more expensive to keep and prevents the company from releasing new merchandise that may be more aligned with customers’ needs.
Time for a refreshed image
In 2022, Kohl’s had been on the lookout for a prospective buyer to carry it through the economic downturn, but after abruptly pulling out of a deal with Franchise Group (FRG, Financial), the company began making moves to revamp its inventory and fashion departments.
It can be all too easy for retailers to get complacent and maintain the same brand image for years, but evolving market conditions and consumer tastes can mean this strategy is a one-way ticket to business failure, no matter how successful the company was in the past. Thus, recent efforts to refresh its brand image could be just what Kohl’s needs to capture customers’ attention again.
Kohl’s efforts to shake up its offerings include a new section, Discover @ Kohl’s, as well as an expansion of its partnership with Sephora and a new partnership with Levi’s.
“We are making great strides in building a formidable beauty business with the addition of Sephora at Kohl’s,” Kohl’s Senior Vice President Karen Daoust said. “The completion of our 850 stores in 2023 is just the beginning as we look to expand Sephora at Kohl’s to all stores.”
Balance sheet risks
One of the main reasons Kohl’s was initially planning to find a buyer was likely due to its poor balance sheet condition. Even though the company’s management has decided to try and stick out the economic decline rather than sell at a bargain-basement price, this is a risk that cannnot be ignored. If Kohl’s cannot return to profitability soon, it may end up in even worse shape when it tries to find a buyer again.
The company’s cash-debt ratio is just 0.02, and since it is running an operating loss, it will have to raise additional liquidity somehow in order to make the interest payments on its debt. Surprisingly, the Altman Z-Score is 2.88, which implies the risk of bankruptcy is low for the time being, but that does not mean it is out of hot water just yet.
Kohl’s does pay a dividend, which yields 8.83% after the share price’s swan dive, and it is also buying back shares at a rapid pace according to the three-year share buyback ratio of 10.7%. This is encouraging because it shows the company still has room to shore up its balance sheet by reducing dividends and buybacks if need be.
Takeaway
There are good reasons why Kohl’s has seen its share price drop. The good news is, the company is taking steps to try and return to growth and profitability. It is relatively cheap with a forward price-earnings ratio of 9.53 even at the low estimates for 2023 earnings per share, and while the dividend will likely be reduced, its existence shows the company still has methods left to avoid bankruptcy. Even if Kohl’s cannot make it in the long run, it at least stands a chance of turning itself into a more attractive acquisition target for when the economy eventually recovers.
