目標百貨 (TGT) 2003 Q1 法說會逐字稿

Welcome to the Target Corporation's first quarter Earnings Release Conference Call.

During the presentation, all participants will be in a listen-only mode.

Afterward, you will be invited to participate in a question and answer session.

At that time, if you have a question, you will need to press star 1 on your telephone touch pad and star 2 to cancel.

As a reminder, this conference is being recorded Thursday, May 15th, 2003.

I would now like to turn the conference over to Mr. Douglas Scovanner, Executive Vice President and Chief Financial Officer.

Sir, you may begin.

Good morning.

And welcome to our 2003 first quarter Earnings Conference Call.

On the line with me today are Gerald Storch, our Vice Chairman, Gregg Steinhafel, President of Target stores, Diane Neal, President of Mervyn's, and Linda Ahlers, President of Marshall Field's.

Bob Ulrich, our CEO, is unable to join us this morning for this conference call due to a prior outside board commitment.

This morning, I will review our first quarter results, which were released earlier today, then Gregg will provide an update on Target's current business and outlook for the remainder of the year.

Gerry will update you on the growth and performance of our credit card operations and describe current developments in our web-based strategies and supply chain initiatives and at the conclusion, we will open the phone lines for a question and answer session.

As a reminder, we're joined on this conference call by investors and others who are listening to our comments today live via webcast.

Also, please note that any forward-looking statements we make in our remarks this morning, should be considered in conjunction with the cautionry statements contained in our SEC filings.

In addition, any reproduction or rebroadcast of any portion of this call is prohibited.

This morning, Target corporation announced first quarter net earnings of $349 million, an increase of 1.3% compared with earnings of $345 million in the first quarter of 2002.

Diluted earnings per share for the quarter were 38 cents in the first quarter of both this year and last year.

We did not meet our internal profit plan for the quarter as a direct result of softer than planned sales.

Beyond sales, we're pleased with our overall performance.

As we discussed three months ago, we're cycling periods of exceptional prior year financial strength in the first two quarters and today we were not able to show much bottom line improvement against the first of those two challenging bench marks.

Our overall revenues grew by 7.6% in the first quarter, driven by 9.8% year-over-year growth at Target stores.

Our consolidated gross margin rate was about even with last year's rate of a little over 32%.

By division, gross margin rate was slightly favorable to last year at Target stores and modestly lower than last year at both Mervyn's and Marshall Field's.

In all three divisions, gross margin rates reflect very healthy core merchandise profit formulas.

Our consolidated SG&A expense rate, which excludes depreciation and expenses related to our credit card operations, was unfavorable in the quarter, principally reflecting a lack of sales leverage at all three divisions.

Depreciation and amortization expense grew 9.5% for the quarter to $317 million, reflecting increased capital spending for new stores and the necessary distribution and systems infrastructure to support this growth.

Total interest expense increased $7 million from $135 million in first quarter 2002 to $142 million in the most recent quarter.

This increase is due to higher average funded balances for both our new store investment and credit card receivables growth, partially offset by a lower average rate.

Our effective tax rate for first quarter 2003 was 38.0%, unchanged from this quarter last year.

Now let's briefly review our results by segment.

At Target, our segment profit grew by $56 million or 8.2% to $734 million.

At Mervyn's and Marshall Field's, segment profits fell by a combined $41 million as a direct result of soft sales.

Other expense recorded outside our three segments was $72 million this year, up $1 million from last year.

Now, let me turn to the balance sheet.

Over the past 12 months, net assets grew by over $3 billion, principally due to growth in net property and equipment and accounts receivable, as we continue to invest aggressively in new stores and distribution facilities and in our credit card operations.

We funded this growth through a balanced combination of growth in our shareholders investment and growth in our debt, with each rising a little more than $1.5 billion over this time.

During the most recent quarter, we completed two very attractive term debt offerings.

We borrowed $500 million for five years at a fixed annual interest rate of 3 3/8% and we borrowed $200 million for 15 years and simultaneously swapped to a floating rate initially set at about 1.4%.

Inventory levels for the corporation at the end of the first quarter were 8.3% above prior year levels on a total basis, in line with the 7.6% increase in consolidated revenues.

On a net basis, all of this growth occurred at Target, where inventories increased 12.3%, slightly faster than our 10.6% increase in square footage.

The growth in inventories of $379 million overall was far more than fully funded by the $784 million increase in accounts payable, resulting in payables leveraging of 90% at quarter end, compared with 81% last year.

On balance, we are comfortable with our current inventory position.

In our credit card operations, we ended the quarter with gross accounts receivable of $5.7 billion, an increase of about $1.4 billion from the same point last year and a decrease of about $300 million compared to year-end.

During the quarter, we essentially maintained our level of Target Visa receivables at approximately $3.8 billion, against the backdrop of typical, seasonal reductions in the rest of our portfolio.

Consistent with our expectations and consistent with our guidance three months ago, we experienced another sequential increase in net write-offs in the quarter to an annualized rate of 8.4%.

We again, recorded bad debt expense in the quarter in excess of our net write-offs, reflecting about a 9% annualized net rate.

Looking forward, we expect both our net write-offs and our provision for bad debt expense to stabilize on a quarterly basis, generally in this 8.5 to 9% annualized range for the foreseeable future.

Overall, the contribution from our credit card operations in the first quarter, that is our profits after all costs and expenses other than funding costs and income taxes, was $151 million, up from $115 million in the same period the prior year.

This year's performance reflects a 10.4% portfolio yield and we expect to maintain a yield in the range of 10 to 11% for the balance of the year.

In summary, we expect our credit card operations to continue to be a Strachan, positive contributor to our 2003 earnings, while giving our guests reasons to want to visit our stores more frequently and to spend more on each visit.

Gerry will discuss other aspects of our credit card strategy in a few minutes.

On an accounting note, as required, we adopted new accounting guidance in the quarter, regarding various forms of consideration that are receivable by us from our vendors.

This guidance is known by the Arcane label of EITF issue number 02-16.

As we predicted in our recent 10K filing, this adoption did not have a material impact on net earnings, cash flows or financial position.

Although in our case, it did have immaterial and generally offsetting effects on sales, cost of sales and SG&A expense.

In summary, in light of our sales performance, we were pleased with our first quarter performance and remain optimistic about our prospects for earnings growth both in the current year and in the future.

Today, the medium EPS expectation on First Call for 2003 is $2.03, representing about 12% expected growth.

In the current economic and competitive environment, this seems to be a reasonable estimate and it is in line with our internal profit plan.

Consistent with our guidance three months ago, we continue to expect more modest year-over-year growth in quarterly earnings per share next quarter, followed by a better growth in the third quarter and more robust EPS growth in the fourth quarter, reflecting gradually easing comparisons to last year.

For the second quarter, the current First Call median EPS expectation is 42 cents per share.

While the figure is clearly within reach, it is slightly above our current internal profit plan.

Now, Gregg will review Target's results and current business trends as well as our plans and outlook for the remainder of the year.

Gregg?

Thanks, Doug.

Though our sales growth at Target stores was weaker than expected in the first quarter, we were pleased with our financial results, particularly in light of the challenging environment and the exceptional strength of our 2002 first quarter.

During the quarter, total revenues increased 9.8% to $8.8 billion, primarily due to the contributions from new stores and our credit card operations.

Additionally, comparable store sales increased 1.1%, reflecting a somewhat Strachaner contribution from guest traffic than average ticket.

We managed our inventories well during the quarter, though we may have some typical markdown exposure in selected seasonal categories, due to our softer than anticipated sales growth.

We believe that we have incorporated this risk into our outlook for the second quarter.

Target's first quarter pretax profit rose 8.2%, to $734 million.

While pretax profit margin declined by 12 basis points to 8.3%.

Our gross margin rate in the quarter was slightly improved, compared to last year, reflecting improved markup due to better sourcing, partially offset by higher markdowns.

Target's expense rate was unfavorable to the prior year, principally due to a lack of sales leverage.

The strength of our performance is affirmation of our expect more pay less strategy as we continue to fine-tune the balance between our merchandise differentiation and our focus on delivering exceptional value.

Our guests continue to be attracted to our offering of unique trend right merchandise and clever marketing and we are firmly committed to sustaining this competitive advantage through exclusive brands, new design partnerships and innovative events.

However, we are equally intent on providing substantial value to our guests on each shopping trip and believe this objective is increasingly important in the current economic environment.

As a result, we remain committed to our long-standing practice of matching Wal-Mart's prices in local markets on identical items and are becoming more aggressive in communicating our value message in our stores as well as in our marking, including both our broadcast advertising and our weekly circular.

For example, we are leveraging the end cap space within our stores through the use of more single price point merchandise presentations to create heightened price visibility.

We are modestly, increasing the emphasis in our advertising toward items that drive shopping frequency and we are strategically timing the marketing of selected key brands and items to be more interruptive and generate incremental excitement.

To deliver more convenience to our guests and fuel greater market share gains, we are also, significantly, expanding our commitment to consumable and high-frequency products.

Beginning with many of our new store openings this fall, we are increasing our assortment of food and food-related merchandise in our traditional discount stores and reducing the space devoted to categories such as men's apparel, home improvement, automotive and sporting goods.

We believe this new assortment offers our guests more compelling reasons to shop at Target more often and drives increased growth in sales and profitability as well.

Our commitment to food, to delivering superior value and to the increased guest convenience of one-stop shopping, extends to Super Target as well.

Despite being satisfied with the performance of these stores, we continue to refine our merchandising and operations to improve our financial results, just as we do in our discount stores.

For example, beginning about 9 months ago, we began to gradually eliminate Super Target's weekly newspaper circular to reduce dependence on promotional pricing for consumables and perishables and to increase our focus on delivering exceptional value everyday.

The impact of this change has been to provide more consistent value to our guests and improve both the gross margin rate and expense rate of Super Target.

We also, continue to expand expand our assortment of Archer Farms and Market Pantry products in light of our tremendous success to date.

In 2003, we expect to double our sales volume of these private-label brands as we increase our penetration of current SKUs in existing Super Target and Target discount stores, add to our store base and introduce new items.

We are pleased that our guests recognize and appreciate the value these brands offer and are excited about their growth opportunities, particularly as we continue to leverage our increasing scale and acknowledge the greater importance of food within our overall assortment.

During the first quarter, Target opened 8 Super Target stores and 12 net new discount stores.

At quarter end, we operated 1,167 stores in 47 states, including 102 Super Target locations.

In light of the current economic environment, our out look for 2003 remains conservative.

We continue to expect somewhat slower growth in the first three quarters, combined with an opportunity for somewhat Strachaner growth in the fourth quarter.

For the balance of the year, our comparable store sales are planned to increase in the range of 3 to 4% with total revenue growth in the low teens.

We expect to continue to experience both the pressure of deflation on our top line and the benefit of deflation in our cost of goods, although we don't expect the impact to be as large as in 2002.

Pretax profit, including a favorable impact of our credit card operations, is expected to rise essentially, in line with our top line growth.

So, we can certainly envision a scenario in which we exceed these expectations, we believe this discipline and conservatism in planning our business is appropriate and is consistent with our long-term corporate earnings growth objectives.

Now, Gerry Storch will give you an update on our credit card business, Target's supply chain efforts and the corporation's e-commerce initiative.

Gerry?

Thanks, Gregg.

As Doug mentioned, our credit card operations continue to produce Strachan growth in the first quarter.

With both net credit revenues and pretax profits growing over 31%.

The Target Visa is propelling this growth as our guests are attracted to the loyalty programs on the card, including a higher rate of contributions to their designated school and the reward of earning 10% off shopping days at Target.

Target Visa receivables were approximately $3.8 billion at the end of the quarter, in line with our plans.

For the full year, we continue to expect an average increase in Target Visa receivables of approximately $1 billion.

The credit quality in each of our portfolios remains very good and our overall delinquency and net write-off trends are within our anticipated ranges.

Included in our results, consistent with the experience of other national credit card issuers, we did see a higher than expected uptick in bankruptcy write-offs in April.

This period is normally a seasonal peak for bankruptcies and over the last several weeks, we have seen the volume of bankruptcy filings moderate, both in the national statistics and our own results.

Overall, we are pleased with the performance of our credit card operations but what really excites us, is the sales-building potential of both our credit cards and our initiatives in guest relationship management.

These remain important contributors towards our goal of deepening our relationships with our guests.

We are proceeding with our installation of smart chip readers at every point of sale in our stores and expect to complete the installation in the third quarter.

This technology will allow us to begin offering electronic coupons to our Target Visa cardholders, later this year and we believe it provides an important element of differentiation for Target that will deliver meaningful financial benefits in the future.

Now, a brief update on developments at Target Direct.

Through the first three months of this year, we have exceeded our expectations for traffic and sales at our website.

Compared with a year ago, sales grew by approximately 50% and traffic increased by 35%.

Additionally, we are making significant progress in updating the content in our Field's catalogues to offer more differentiated targeted assortments and expand their circulation.

We now offer three unique merchandise catalogues, including one more women's apparel, one for home and one for general merchandise.

We are also continuing to integrate our online direct mail and in-store efforts to strengthen our bonds with our guests and drive greater sales and profitability.

For example, by the end of this year's third quarter, we expect to offer our guests a single common wedding registry, accessible from within the Target and Marshall Field's stores as well as on our website.

We plan to make an additional 50,000 items that are only available, today, in our Marshall Field's stores available for sale on our website, as well.

We believe, these initiatives at Target Direct allow us to deliver our guest preferred online shopping experience, more often and more consistently, while using this channel to fuel more guest visits to our stores, as well.

Finally, we continue to make substantial strategic investments in our supply chain, to grow -- to support our new store growth, to increase our productivity and to improve our store service levels.

And we expect to continue to make Strachan forward progress on supply chain improvements as we implement innovative new processes and add incremental capacity.

Specifically, we are pleased that our in-stock levels, especially for the highest volume, most important items to our guests, remain among the best in our history.

And we are intensifying our focus this year on our in-stock levels for advertised goods and during seasonal transitions.

We have had a tendency to get a little ragged in the past.

Additionally, to improve the level of service to all of our stores, particularly during peak volume time periods, we're significantly increasing our distribution capacity this year.

We plan to open four new regional distribution facilities, including one each, in California, Iowa, Pennsylvania and South Carolina, bringing our year-end total to 19.

In addition, we will add two new import warehouses during the year.

One on the Pacific coast in Washington and one on the Atlantic coast in Virginia, enhancing our ability to achieve maximum sales and minimal markdowns on seasonal merchandise.

Another significant advancement 2003, is our new automated receiving technology, which we are implementing in most of our distribution centers this year.

This system will help us substantially reduce inventory carrying costs and labor expense in our dc's by eliminating a meaningful portion of manual cart and sortation from the receiving process and will also, greatly increase receiving accuracy.

Finally, we believe that the tangible benefits of RFID, are still five or more years in the future, we are actively participating in a number of pilot programs for this technology, including testing RFID tags on overseas containers, on pallets in our import warehouse, on cartons in one of our regional distribution centers and on selected items in a single store.

We're working in partnership with other retailers and the MIT auto ID lab to evaluate opportunities to improve data integrity and supply chain intelligence using this technology.

In the future, we believe that the potential benefits of RFID will include seamless self-checkouts, increased efficiency and accuracy of guest service and better visibility throughout the entire supply chain process.

As evidenced, by the efforts I have just described, as well as our pursuit of other initiatives, including CPFR, transition timing and trapping, direct imports and speed sourcing, we continue to look for new applications of technology and new approaches to retail fundamentals that will further strengthen our competitive position.

We are confident that our efforts will contribute to continued profitable growth at Target Corporation for many years.

One last note.

Though Target was not a named party in the law suit, related to signature based debit pricing from both Visa and Mastercard, we are pleased that a settlement has been reached on this issue and expect the outcome will be a more competitive environment, that will result in savings for both retailers and consumers in the future.

Now, Doug has a few final comments.

Thanks, Gerry.

In summary, in right light of our soft sales performance, we're pleased with our first quarter results and remain comfortable with the outlook for the remainder of 2003.

We are confident that we have ample growth opportunities to build new Target discount stores and Super Target stores for many years and we are excited about the potential of Target Visa, Target direct and our initiatives in guest relationship management.

We firmly believe that the investments we are making today in technology and in our supply chain will help us better serve our guests in the future and we believe that in total, these efforts will allow us to continue to generate substantial value for our shareholders over the long-term by continuing to meet or exceed our financial objective to enjoy average annual growth in earnings per share of 15% or more, over time.

That concludes our prepared remarks.

Now, Gregg Diane, Linda, Gerry and I will be happy to respond to your questions.

Jana?

Thank you, Mr. Scovanner.

At this time, we will begin our question and answer question using our polling feature.

If you have a question or a comment, you may press star 1 on your telephone touch pad.

Should you need to cancel, you may press star 2.

If you are using speaker equipment, you may need to pick up your handset prior to pressing star 1.

Once again, that's star 1 if you have a question or comment and star 2 to cancel.

One moment while the questions register.

Our first question comes from Daniel Barry from Merrill Lynch.

Good morning, a question for Gregg.

Gregg, if I heard you correctly, you said you're going to cut back a little on newspaper promotions and move more toward everyday low prices, if I heard you correctly.

That brings up the parallel, unfortunately, with K-Mart did the same thing with the blue light special.

Can you explain the differences or if you've tested this to be sure it's going to work?

I think you misinterpreted what I said.

In Target, we have not changed our emphasis on circulars, the page count, what we've done there is we've just beefed up our broadcast committed to the higher frequency categories.

It was on the Super Target side of the business where we have essentially eliminated the four-page circular that we were running in addition to the Target circular in Super Target markets, in favor of a Strachaner everyday price position and a hand-out that we are giving in-store.

On groceries?

On grocery items only.

Does that mean that you've been reducing prices on groceries to offset the circular?

So, more everyday prices -- lower everyday pricing --

That's correct, we have a Strachaner everyday price position on our grocery side of the business, in Super Target.

Gotcha, okay, thank you.

Thank you.

Our next question comes from George Strachan from Goldman Sachs.

Thank you.

Sort of leveraging onto that question, two other questions about traffic drivers, Gregg, given that you've -- I recognized this is a balancing act in a sense, but given the heightened focus on traffic drivers, has it shown up in your mix at all at Target, you know, the greater emphasis on traffic drivers in the circular?

And of greater interest, could you elaborate a little bit on the timing and rollout of these changes in the mix that will occur in the Fall?

How long that's going to take?

Will it create any store disruption?

How, exactly, will it affect the look of the format?

And do you expect it to have an impact on sales trends and mixed trends when you have it fully implemented?

Sure, as it relates to the first question, regarding the mix, we've seen all along that the nondiscretionary businesses have been out performing our discretionary businesses and that has continued throughout the Spring season as we continue to emphasise price on some branded consumables, that business continues to be Strachaner than our home business or our apparel business.

As it relates to the timing and the rollout of our food initiative for fall, it's focused primarily on new stores and remodels and then in selected cases, we will go back and retrofit some of our existing small -- our existing store base, but the primary emphasis will be on the stores that we open and remodel, going forward from the Fall into 2004.

So, you don't anticipate any -- any disruptions, mostly new stores?

It's primarily new stores and our -- and our last cycle of remodels in '03 and -- and there are a handful of stores that we are going to -- that we are going to retrofit this in, but it is less than 100 stores and we really don't expect a lot of disruption in the stores.

We do remodels and -- and -- and make minor changes and we're not -- we're not wholesale changing the stores, we're just making some modifications that enable us to double the size of our snack and beverage area in -- in about 80 stores.

So, you -- you won't be abandoning categories like auto or DIY, you're just going to downsizing them a bit?

We will shrink some categories.

If we were devoting 24 feet, that might get reduced to 16 feet or 20 feet.

We will, essentially, stay in the same businesses, but just reduce the footage in those categories and -- and shrink proportionately.

So, we give a little bit back from automotive, a little from sporting goods and men's, but we're not walking away from any businesses that you see in the store today.

So, no big margin shift as it gets implemented over time?

I guess the idea is to drive more traffic through the more profitable businesses, is that way you see it?

Right, right, this is a frequency-based strategy, and again, a reflection of the long-term trends happening in our store and consistant with how we've been adjusting space and committing more space in the future to growth businesses and this is a natural outgrowth of that.

We're just accelerating the emphasis a little bit this year compared to prior years.

And as we've seen over the past couple of years it does puts slight pressure on the gross margins as we increase the space and emphasis in consumables, but we're more than offsetting that with increased traffic.

Great, thank you very much.

You bet, George.

Thank you.

Our next question comes from Debra Weinswig from Smith Barney.

Actually, another question for Gregg on the food side.

You talked about increasing your penetration of private label food.

Can you talk about where you are now and what your goal is?

And also, I know that the Archer Farms brand is looked as a premium product.

Can you talk about your pricing strategy there, as well, please?

Sure, while our current penetration percentages in our private-branded products are still somewhat small, it is in that 5% level.

Our anticipation is, we would double it this year and perhaps get up to 10%.

We're aggressively adding SKUs and seeing good growth in our existing categories.

We're also, extending our Archer Farms and Market Pantry brands to our Target discount stores, as well.

Archer Farms is positioned as a premium private brand and Market Pantry is the opening price point brand.

Market Pantry would be priced very much consistent with where Wal-Mart would be pricing their opening price point, their private brand products like Equate or -- or Great Value products and our Archer Farms is going to be priced very consistent but -- it will be -- the quality levels are consistent with the premium national brands, but priced lower than them.

Okay.

And a question for Dianne, as well.

Can you talk about the future plan for the Mervyn's store base of kind of remodels and new stores for '03?

I saw in the press release there was one new Mervyn's store opened in the quarter.

Can you talk about the location of that and how it's doing?

Yes, we opened a store in Las Vegas in March and it's doing right around our expectations.

We have two more opening this year, one in Folsom and one in the Flatten Ranch, both in Northern California.

And for our remodel, I think I mentioned before, we're remodeling , we're actually, finishing up California this year, remodels and upgrades, and will continue to be on a remodel upgrade program going forward based on the need of the stores.

Okay.

And then one last question for Gerry, on the credit cards, in the press release, you disclosed the net write-offs as a percentage of average receivables for both Target Visa and propriety cards.

The Visa number was higher.

Is this just really a function of the maturity of the portfolio?

And should we see Visa be lower than the proprietary cards come 2004?

Primarily it is a function of the age of the portfolio.

You know, Doug, do you want to add more?

Additionally, was I add that Gerry commented earlier regarding current trends in bankruptcies.

The Visa portfolio quite naturally is a portfolio where the write-offs, a larger portion of our write-offs, are bankrupcy related, than in our proprietary portfolios.

Thank you very much.

Thank you.

Our next question comes from Jeff Klinefelter from U.S.

Bancorp Piper Jaffray.

Yes, I have a -- three questions I will try to roll into one here.

You mentioned that the inventory in the seasonal and apparel categories, Gregg, were a little higher coming out of Q1.

And Doug, you mentioned that Q2 at 42 cent consensus may be a bit high.

How is the markdown assumption of that excess inventory factored into the Q2 guidance?

And then, secondly, I think we all know you want to get more aggressive on pricing or at least promoting how competitive you are on prices on some key items.

How do we interpret this, in terms of not getting into or starting any kind of price war with Wal-Mart?

Maybe, and aside to that, is with K-Mart emerging from bankruptcy, how do you feel that that adds to the balance of price competitiveness in the marketplace?

And then finally, the key, back-to-school and holiday seasons are coming, you have easier comparisons.

Maybe you could touch, Gregg, on a couple of the key categories that were particularly weak last year, that could show some potential for improvements this year, such as toys, electronics, et cetera?

Thank you.

I will tackle the first question and let Gregg comment on the competitive environment and the last question, as well, in just a moment.

I think if you reflect on the comments that I made earlier, we're quite comfortable with the outlook for the rest of the year on balance.

What I was trying to focus on in my comments was that when one compares what's now in First Call, Q3, Q2, Q4, to our internal profit plan,in the aggregate across those three quarters, there's a match.

But, our internal profit plan is a bit lower in the second quarter and a bithigher later in the year.

That internal profit plan, of course, has lots and lots and lots of discreet assumptions.

One of which is markdowns.

I would characterize our second quarter outlook for markdowns as being typical for the season, compared to the quite atypical experience, but quite remarkably favorable experience we enjoyed Q1 and Q2 last year.

Those two quarters at Target stores set all-time records for quarterly operating margin rates by a country mile, compared to anything we had ever experienced outside the fourth quarter in the past.

The quarter just ended, we tied the lower of those two figures from last year and I expect to be in the ballpark of tying that same figure yet again in the second quarter.

Gregg?

Yeah, our merchandising strategy is -- is focused on both growing the top line and protecting the bottom -- the bottom line.

We don't see that as an either/or proposition, so, as we become more focused on driving traffic in our stores and -- and through promotions, we're very careful, we're very selective to be sure that we're identifying the right items and the right time frames.

Yet, we're not -- we're not going overboard, we're not changing our wholesale pricing promotional strategy.

We're looking at selected opportunities, we're making sure that the -- the seasonal content in our circular and the fashion that -- that the trend items, it's the combination of those effects that are going to both drive traffic while protecting our bottom line.

K-Mart is a wait and see.

We will see what happens as they emerge and we will watch and observe and make adjustments accordingly, but we expect the environment to remain -- remain very competitive, both on an everyday and promotional basis.

So, we're not expecting anything out of the ordinary there.

And then as we head into the back-to-school and Fall, again, our business and priorities will be on driving traffic in the key categories that are going to enable us to win during those seasons and so back-to-school will be focused on our apparel business and basic back-to-school supplies and as we move into the fourth quarter, the focus will shift and we will aggressively go after both the entertainment, the electronics and the toy business, and as always, they will be very competitive but we will make sure that we have, you know, great in-stocks on the top selling items and we offer them at competitive prices day in and day out and selectively, we're exceptionally aggressive through pricing in our circulars.

Okay, thank you.

Thank you.

And our next question comes from Todd Slater from Lazard.

Thank you very much.

Just a follow-up on the inventory.

Could you give us a sense of the level of comp store inventories at Target?

And where you'd like that to be for the back-to-school season?

And also, if you could just touch on any specific classifications, I know you sort of generally said some seasonal areas, maybe even apparel, there was an excess versus your current sales trend.

I'll tackle -- tackle that one.

I tend think of inventories as a function of scare footage as opposed to comp stores because as you know, a number of our real estate efforts have surrounded relocating to much larger stores in many cases, Super Target stores, in trade areas where we close an existing smaller capacity runt.

In those trade areas, inventories increase quite a bit.

In the quarter just ended, our total inventories at Target were up 12.3% quarter ending this year versus the same point last year.

That compares to a growth in retail square footage across the same period of 10.6%.

So, squeezing those two figures in essence, our inventories per foot, if you will, increased 1.7%, in line, frankly, with our current underlying same store sales trends.

Okay, and how about sort of the apparel?

It seems it's a little worse in apparel and/or seasonal areas, is that spread wider in those classifications?

That certainly is a classic compared to what question, certainly compared to where we would have forecast inventories 90 days ago, yes, of course, we're wider in apparel because our sales were softer in apparel for the quarter than we expected.

In isolation, that's true.

In the aggregate, there is no fundamental markdown problem here compared to anything, other than the spectacular performance, the all-time record favorable performance achieved in the first two quarters of last year.

Okay, great and can I ask a quick credit question?

Yes, absolutely.

Deceleration in the growth of the reserve, is that to about $8 million, is that kind of level you see now for the next couple of quarters?

Where do you forecast that reserve -- change in reserve going?

Well, you refer to it as an acceleration in the growth of reserve --

Decell.

I misunderstood.

Pardon me.

Yes, in the current quarter, the expense that we recorded reflected about a 9% annualized rate compared to average receivables and the write-offs in the current quarter, net, reflected an annualized rate of range 8.5%.

I think that both of those figures, each of those figures, is most likely, by quarter, to stay in that 8.5 to 9% range or maybe a little wider range.

Please, don't hang it on the last 10 basis points, for the foreseeable future.

Quarter by quarter, which one's higher than the other?

More likely we will continue to have net very modest additions to the reserve, but I, certainly, want to make it clear that along the way, it may well be appropriate to have very slight difference in favor of higher write-offs and lower expense.

Those -- that relationship hangs on the edge of our assessment throughout time of the then-current risk of the portfolio that leads to a judgment call regarding the expected future write-offs that would arise from the then-current portfolio.

We have consistently across time struck our reserve, somewhat more conservatively than our middle of the road expected case.

Thanks very much for that answer.

You had huh -- uh-huh.

Thank you, our next question comes from Mark Vandell from Blaylock partners.

Thanks, good morning.

With respect to your increase in the food offering, is most of this increase in the private label area?

Or are you also increasing your branded product?

It's a combination of both private label and branded product.

I'd say it's more branded product than it is private label in a Target store.

Okay.

And does this increase in the food business or in the consumables area change your thoughts on self-distribution?

No, it really doesn't, in Target, this is part, you know, this is service by convenience operators and really doesn't have, you know, the same relative weight as our Super Target distribution, but this really doesn't change our thinking.

With respect to the accounting adoption, the EITF, you noted there was no material effect, but there was an effect on both the cost of sales and SG&A.

Can you give us an idea of how much that shift was?

The Fidelity on this call on -- is very difficult understand precisely what you asked.

Can you repeat that question?

Sure, the EITF pronouncement, what was the impact?

I know there's no consolidated impact, but with respect to the line items, the cost of sales and the SG&A, can you give us some idea how many basis points impact there was?

Well,essence there, was no meaningful timing impact.

If you were to compare our sales replaces in the quarter that were prepared before application of this accounting standard to today's release, what you'd see is, in a -- in the aggregate about, a $10 million effect on revenues, decreased revenues and most of that revenue effect was offset at the cost of sales line, separately there were some very modest effects between SG&A expense and costs of sales, but in the aggregate, quite a small issue with very little in the way of basis point effect on the over all numbers.

And other assets up 50% year-over-year, a reason for that?

I will need to have you follow up with Susan Kahn for an explanation on that.

Anyone interested in that, feel free to call Susan.

Thank you.

Thank you, our next question comes from Emmy Kozloff from Sanford Bernstein.

Hi, there, just a quick question on credit.

It looks like you added $930 million of average receivables during the quarter and on the last call, and I think just now, Gerry said you're guiding to an increase of a billion for the year.

It seems like you're almost at the target.

Is this a function of faster growth you anticipated?

Or perhaps, have payment rates come down so that the post holiday seasonal decline in recievables has been more muted?

No, let's make sure we're looking at the same facts, first of all.

When I look at total average receivables, first quarter last year was $4,143,000,000.

Total average receivables this quarter, $5-775,000,000, that's an increase in average recievables, this year versus last year in the quarter, of a little over $1.6 billion.

Gerry's comment about a billion dollars increase in average receivables, was focused on what will happen throughout the year, as I commented at the beginning of this quarter, we expected far higher year-over-year growth in the first half of the year and far lower year-over-year growth in the last half of the year, averaging a billion dollars year-over-year.

The numbers in this quarter were about $1.6 billion.

O.k., I was just looking at Q1 over Q4, in terms of the nimbers

That's a different issue.

Okay.

Q1 versus Q4, there's natural seasonality that, of course, causes our receivables to fall, all else being equal.

Q1 versus the prior quarter end.

And in our case, that was offset in the current quarter by continued natural organic growth in the Target Visa program.

Okay.

And then just quickly, Gregg, you know, what is the expected margin impact, in terms of increasing food in the Target discount stores?

I realize, you know, it's going to be new stores, it's going to fall.

Is there anything to think about going forward in terms of the gross margin?

As you know, the margin's associated with the food and consumable business are slightly lower than the store in general.

But it is not material enough to have a, you know, a significant impact on the bottom line of -- of the company.

This will be a -- this will be a, you know, a long-term trend where our -- our margin rate should moderate or maybe it will come down slightly as our penetration increases, but we are also working aggressively to increase our higher margin businesses as well.

So, as we perform well in stationary and home decor and domestics that, will be -- that will be an offsetting factor to what kind of declines we may see as we expand our food business.

Over the last five to 10 years, we have typically seen in isolation, a 10 to 20 basis point decline in gross margin rate per year, due to the faster growth of these lower margin categories.

But, of course, you haven't seen any decline in our overall margin rate, quite the contrary, our over all margin rate is up several hundred basis points, because of all the rest of the levers that we are adjusting that tend to overwhelm the issue over time.

Great, thanks.

Thank you.

Our next question comes from Sherry Eberts with JP Morgan.

Good morning, everybody.

Gregg, I wanted to follow-up, if you could be more specific in terms of what type of food will be expanded in the Target store, will it be all-dry grocery, will there be any frozen cases added?

And then also, if you could talk about how you identified which categories would be shrunk to make the room for the food.

The -- the growth in our food business is going to come from a number of different areas.

We are adding space to our beverage category.

We're adding space to dry groceries, dairy and frozen.

So, all of those categories are going to see an increase in space, increase in the number of coolers or refrigerated products and frozen cases that we have in our stores and as -- as we do on an ongoing basis, we are constantly evaluating and looking at how our categories are performing throughout the store and making adjustments and this is no different than what we've done over the last 10 years.

As you know, we have -- we have reduced the space in automotive and home improvement over the years, this is a continuation of that.

Our sporting goods area is another area we felt was over spaced compared to the business potential and as you know, men's has been an under performing category nationally for some time and we're adjusting to the space to be reflective of what we beleive the outlook in the future, which is, again, a softer -- softer than average growth.

So, on the apparel side, it's really just the men's apparel side?

Well, there's a few other tweaks that we're making, actually in lady's, we're expanded lady's a little bit by increasing space in our ready to wear division by increasing our space in maternity, in our kids area, we're going to slightly de-emphasize boys and emphasize girls a little bit more aggressively.

We're adding space in our infant and toddler and layette business.

We're going to slightly reduce our commitment to footwear.

So, there are a number of changes, the dynamics are changing quite a bit overall on the apparel side of the store.

In total, it's coming down just slightly, but we're making some shifts and trades to more accurately reflect the business potential in the future.

We're looking at rack density and looking at, you know, fixture compilations in terms of how to mitigate reductions in floor space to see if we can deliver the same or close to the same product content and look and impact as we currently have.

So, we're looking at ways to offset declining space with improved productivity and -- and -- and fixture utilization, as well.

Okay.

And then just a question on Super Target, if you could talk about the same store sales performance for Super Target versus the Target average in the quarter?

Super Target has performed pretty consistently with where Target discount stores, in general, have performed.

There has not been -- there is not a significant difference in the comp store sales growth.

Clearly, in the weeks where we were up against a circular last year, we have a slightly lower rate of increase than where we had no circular last year and no circular increase, we see a slightly Strachaner comp in those weeks.

Okay.

And last question, is house keeping on the corporate expense line, you had mentioned, I think, in previous conference calls, you were expecting it to be about flattish this year.

I was surprised to see it be so high in the first quarter, given I think there were some one-time issues last year, can you just update us on how to model corporate expense for the year?

Thank you.

Your memory is good.

If anything, I would expect corporate expense for the year to be either generally flat to perhaps even down slightly.

There are a number of issues that affect the timing of the recording of that expense and it's a fact that the actual for the quarter is somewhat higher than our beginning of year expectations.

So, it is -- that difference at this point, appears to be a timing difference and not something that's likely to affect the full-year total.

Thank you.

I'll even be more specific here in the second quarter, I would definitely expect year-over-year favorability.

Thank you.

Our next question comes from Philippe from Credit Suisse First Boston.

Yes, good morning.

Actually, three questions from me here.

The first one, given the increased focus on the foot category, can you perhaps update us on your distribution strategies, particularly in light of the chapter 11 of Fleming?

We continue to have many alternatives for food distribution.

Obviously we use Supervalu and have increased our Supervalu after Fleming's bankruptcy.

Fleming also continues to service us and we're watching that situation very carefully to see how they perform and how they, you know, how they succeed going forward.

And additionally, we have many other options, including third party providers and various other things that are available to us should we need them.

At this point, we don't view this as a long-term critical event in the evolution of our food strategy.

Have you given any thought to move anything to a Supervalu at this moment?

We evaluate all alternatives as we look at what -- what -- what we want to do.

But generally speaking, we don't think it's a good idea to have all of our business with one supplier.

Okay.

My second question is actually for Doug.

Doug, can you share with us your funding requirements for 2003 in light of your Cap Ex as well as growth in the receivables portfolio?

Yes, even though our Cap Ex is expected to exceed $3 billion, actually to lie in the range of 3.2 to 3.4 billion and even in light of expected growth in accounts receivable, let's bear in mind that we generate billions and billions of dollars of cash out of our core operations.

On a net basis, I would expect our overall debt at year-end to be at or only slightly above year-end levels of the year just ended.

As I mentioned in my earlier remarks, we have already achieved $700 million of term funding here in the first quarter and that goes a very long way to achieving our annual goal.

I would certainly expect another visit to the term debt markets or perhaps to the securitization markets, but the lion share of our funding needs have already been accomplished in the first quarter.

And should we assume no share repurchases for this year?

Certainly, share repurchase is an activity that we've engaged in to a quite meaningful level in our past.

In the short run, I certainly don't expect any material share repurchase activity.

I wouldn't say zero.

But over the longer term, that's an issue that we will continue to monitor and balance against our current capital needs and current capital structure.

Share repurchase was utilized by us as a tool, a couple of years ago, to rebalance our capital structure during a period when we were generating substantial enough cash flow, relative to our needs, to actually have more equity and less debt than we wished we had.

And my final question, given Wal-Mart's increased focus on global sourcing as a way to drive margins, can you share with us what you're currently doing in terms of global sourcing?

I would say that in the of global sourcing, we clearly have a head start relative to Wal-Mart in my view, but rather than make a compare and contrast out of this, I will let you ask Wal-Mart's careful questions about their global sourcing efforts and ask Gregg to summarize where we are right now.

Yeah, we've been a part of a global sourcing organization for many years and for the past five years, we've owned our own internal sourcing organization.

That's called AMC.

So, we continue to aggressively pursue global sourcing opportunities.

We have secured lower acquisition costs.

We have offices in over 40 countries.

And -- and through AMC, we've been able to secure low-cost, high-quality merchandise throughout the world.

So, we're very pleased with where we are on the global sourcing, it's expanding rapidly.

We continue to expand the amount of merchandise we buy directly through AMC and it's been a -- an important source for us in -- in reducing the -- the cost of goods.

Would you have a percentage for us in terms of what is currently being sourced overseas?

Well, approximately -- between 15 and 20% of our merchandise is -- is -- is part of our direct import purchase and AMC is a meaningful portion of that -- that 15 to 20%.

Great, thanks very much.

Thank you.

Our next question comes from Bruce from Morgan Stanley.

Hi, I'd just like a quick follow-up on the last question, can you give us any different sense on deflation, I mean, the -- the import deflation numbers, I think, were out this morning or yesterday were at their -- they were down more, it sounds like you're seeing somewhat less deflation and how do you think about that as you look at the second half comp?

And then maybe, just a quick comment, Gerry, on Visa MasterCard, can you give us an idea as to what portion of sales come from debit and whether -- or how that mix goes for signature versus online?

First of all, in terms of deflation, as you know last year, deflation in our top lines in our sales in Target stores, ran in excess of 3 percentage points, the highest rate in our history.

A fair rate of that was engineered by us as a direct result of enjoying sharply higher rates of deflation in our acquired product costs.

So, we acquired product at much lower costs and we passed some of the benefit along to our guests in the form of lower pricing, the rest went to the bottom line in the form of sharpley higher gross margin rates.

Looking forward into '03, cycling our on own numbers, others may have different cycles, cycling our own numbers, I would expect year-over-year deflation in both cost of sales and in sales, to moderate to a lower figure than last year's experience.

Okay, thank you.

Go ahead, sir.

At Target stores, in very round numbers, about half of our sales are on some form of plastic, a credit card or a debit card, whether from a third party or a card-issued by ourselves, about half of that half, let's call it a quarter, is debit cards and more than half of our debit transactions are signature debit, less than half pin debit.

I think, Bruce, what is more important than the specifics of this one case is that we're finally seeing some pressures that might bring interchanged rates down overall and push this in the right direction.

We pay literally, hundreds of millions of dollars a year in interchange fees for all plastic combined and this is the first time I can remember anything that would put downward pressure on that expense.

So, generally we're very pleased with this development.

So, you don't see incremental costs on the credit card side of it, offsetting whatever balance you have on the debit side of it?

They're unrelated in one way.

I don't think one will go up because the other went down.

That makes sense to me, but there are people say that's the risk.

I don't -- I don't think so.

Well, if that turns out to be true, I would say we're better hedged than about any other retailer by virtue of enjoying a handsome profit stream on the receiving end of credit card interchange fees, but I don't think has likely to happen.

The other thing is that -- that debit has been the most rapidly growing form of payment and this push towards offline debit is almost inexplicable aside from the benefits that issuers are getting from the higher fees on it.

It makes no sense, from the guest perspective, to do that at all.

This should restore a more logical development of the payments market.

Terrific.

Thank you.

Thank you.

And our next question comes from Steve from Berman Capital.

Yeah, hi, hi, guys.

Most of the questions have really been asked and answered.

One question, if you could kind of spend a couple of seconds on your credit card program.

One of the real intents of starting the Target guest Visa program was to be able to market to them on a more direct basis.

Okay.

Are we -- are we now, going to start seeing in of the benefits of that here in the second half of the year?

Is that still in '04, '05 event?

Or what are your experiences so far in that area?

Well, we've done a number of programs all already.

In particularly, at this juncture, in terms of targeted direct mail, where we have, obviously, very good data on where our guests are shopping besides Target and that enables us to send them the correct -- the correct incentive to drive their business back where it should be, which is at Target.

To get to the second half of the year, we will intensify those efforts, but then additionally we will roll out electronic couponing, which I mentioned before, which will give guests a further incentive to shop at our store.

They will be able todownload those coupons on the Internet and we will use our rapidly-growing website to promote that directly to -- to guests as well.

So, this is an area that will continue to grow for us.

We are very enthused about the entire topic of guest relationship management and we believe we are among the best-positioned retailers, if not the best-positioned retailer, to accomplish this both because of our Target Visa program, our extensive and growing Internet presence and -- and also, our developing skills in the database area.

Jana, we're now beyond the 60-minute mark and what I'd like to do is to entertain prance two more questions here and then anyone who has further questions, please feel free to call up with Susan Kahn or myself.

Thank you.

Our next question comes from Aram from Banc of America Securities.

Hey, thanks.

Quick question on inventories, I guess given the fact that there is some seasonal hangover, not surprising, that inventories are up.

I also would have thought maybe something lifting inventories would be the fact that a push for consumables might lead to greater inventory commitment in that business as well.

Can you talk about what you've done with your inventories on that side of the business, to support your programs?

That part of the business, of course, turns about the most rapidly of anything imaginable, in any case, it's almost entirely leveraged.

But it would show up in the gross inventory, not the -- not the net?

Yeah, it's not a meaningful issue, certainly we're careful about in-stocks on the most rapidly moving products, we've talked about that in the past, but this focus that we've described here today, will not have a likely meaningful impact on our inventories moving forward.

And when --

And I really don't -- we really wouldn't characterize this as having any kind of seasonal hangover at this point.

In an accounting sense, our inventories are typically clean for this time of the year.

Just one follow-up on the circular comments, before when you mentioned that the Super Targets kind of backed off of the circulars.

You didn't explicitly say there would be no changes in the Target division.

Do you think your experience in the Super Target experience, would carry forward any lessons to the Target division as far as circulars are concerned?

We have no desire to make any significant changes to how we're running Target.

The number of circulars we run, the number of pages have remained fairly consistent, we're fully committed to running circulars 52 weeks a year in the same general fashion that we have up to this point.

Thank you.

Thank you.

And our final question comes from Michael from Credit Suisse First Boston.

Thank you.

Can you just talk about very briefly, the department store and Mervyn's business and any -- any way that you see any stabilization in the cash flow from that business and earnings prospects?

I will address the cash flow side of that head-on.

Those businesses continue to generate several hundred million dollars of positive cash flow on an annualized basis, despite the fact that we're in a period in which sales are difficult to come by, both for our stores and other competitors in those markets.

Profits, frankly, are a direct reflection of those cash flows, because we reinvest capital at Mervyn's and Field's and the aggregate at about a rate equal to depreciation and there are no meaningful working capital in those businesses.

Jana?

Yes.

I think, that will take care of us for today.

Again, thank you very much for joining us here on this call.

And if there are any further questions, please feel free to follow up with Susan or myself.

So, thanks for your participation.

That concludes our first quarter Earnings Conference Call.

Thank you very much, Mr. Douglas Scovanner.

At this time, this ends today's Target first quarter Earnings Conference Call.

Have a great day and you may now disconnect.