Activist investing and special situations for the retail side.

Retail Sales Are Out, Should Investors Buy Kohl's (KSS), Macy's (M)?

Added on by Lee Ho Fook.

After January retail sales results were released earlier this month a number of clothing retailers saw a pop in their stocks. Is it finally time for investors to go shopping in the retail sector? I believe so, but not for the top performer Kohl's (NYSE: KSS); rather, I think there are many more reasons to buy Macy's (NYSE: M).

Macy's posted 11.7% January sales growth year over year, almost double expectations, compared to 13.3% from Kohl's--but Macy's is more likely to be able to continue this impressive growth, whereas Kohl's still faces headwinds related to a turnaround of its business. The January sales growth came in as follows:

Source: Washington Post

The International Council of Shopping Centers reported that total retail sales were up 4.5% in January on a year over year basis. These positive sales come on the back of rising employment and loosening consumer spending.

For Macy's latest quarter, the retailer managed to post its eleventh straight quarter of sequential earnings growth. Some investors may well be spooked, assuming Macy's might struggle to keep up its outperformance despite a poor economic backdrop. Even so, following the news of strong January retail sales, Macy's upped its next quarter earnings guidance. The retailer now expects earnings of $1.94 to $1.99 a share for the fourth quarter.

Kohl's saw December comp store sales up year over year, but remained below company expectations. A big hindrance of Kohl's is its non-existent international presence, leading to inherent overexposure to the U.S. market. The discounted pricing by Kohl’s has not allowed it to overcome the tough economic times.

Other major high-end retailer Nordstrom (NYSE: JWNcame in a close third behind Macy's on January sales growth. Nordstrom posted solid third quarterly results, showing EPS of $0.71 compared to $0.59 for the same quarter last year. The growth for Nordstrom has been due to resilience in spending by its consumer base.

Limited Brands (NYSE: LTD)and The Gap (NYSE: GPS)are two other retailers, coming in fourth and fifth for January sales growth, respectively. Limited’s same store sales in December were up 3%, which fell short of 5% expectations. Its Bath & Body Works brand saw the best same store sales growth of 7% and Victoria's Secret was flat. Gap continues to work on its turnaround, seeing weak traffic at Gap and Banana Republic specialty stores over the holiday season.


Kohl's and Macy's are very close when it comes to valuation, both trading at the bottom of the industry.

But with Macy's earnings resilience and strong expected future growth, should it really trade in line with Kohl's? The expected growth for Macy's towers above that of Kohl's, where EPS is expected to grow almost twice as fast for Macy's:

 5-Yr. EPS Growth (Wall Street expectations)5.30%Kohl's10.10%Macy's

Macy’s has been generating solid results, with January retail sales showing some of the best growth in the industry.Continued retail sales growth should allow Macy’s to repay debt, and return free cash to shareholders via dividend and share repurchases, where the company pays a 2% dividend yield. For the first three quarters of 2012, Macy’s generated some $889 million in cash flow from operations, which has allowed it to repurchase 10.3 million shares and pay out $246 million in dividends.

Macy's is expected to generate $3.77 in earnings per share in 2014 (ending Jan.). Putting a peer average multiple of 12.5 (which is still on the low end in my opinion) on Wall Street's 2014 EPS means possible upside of 18%.