Decide whether target should retain or fire its chief

Question

You chair the Board of Directors at Target Corporation. After the firm released its 2014 financial statements, you are faced with an important decision. The first agenda item at the next board meeting is whether to retain or dismiss the company's chief executive officer. As head of the board, you will introduce this issue, state your position, and moderate the ensuing discussion. As you contemplate this important recommendation, you consider the following items about your company and its industry.

Target Corporation is a Minnesota company incorporated in 1902. Target described itself in its 2014 annual report by stating, "We offer our customers everyday essentials and fashionable differentiated merchandise at discounted prices." Target is the second largest discount retailer in the United States behind Walmart when measured by sales revenues, total assets, and market capitalization.

Retailing is the economic sector that links the producer of products to end-use customers. It is the largest segment of the American economy. The totality of retail transactions constitutes about two-thirds of the gross domestic product (GDP) in the United States, according to U.S. Department of Commerce. Financial analysts view merchandising as a mature industry, defined by intense competition, low profit margins, and business consolidation.

Numerous economic factors affect retailers. Notable among them are real changes (inflation-adjusted) in GDP, levels of disposable income, and consumer confidence. In short, people shop when they have money, and they are confident that they will have it in the future. Consequently, retailers tend to thrive during economic expansions and suffer during economic contractions.

The 2007-2009 economic down turn hurt sales for all retailers. Sales have rebounded in the five years after the recession, but many analysts feel that industry performance remains sluggish. Marketers note the post-recession watchword for retail customers is value. Consumers, regardless of economic standing, want quality at a relatively low price.

A recent threat to traditional bricks and mortar retailers, such as Target, has been the rise of online retailing. Firms such as Amazon have taken sales and market share away from Target, Walmart and others who primarily sell their goods at fixed locations. In addition to this general industry threat, Target has faced numerous company issues. The primary ones are an ill-fated attempt to launch stores in Canada, an extensive data breach to its customers' information, and the erratic performance of its Target credit card business. More importantly, some analysts have criticized Target from losing sight of its objective as theupscale discounter; a purveyor of cheap chic, which differentiated the firm from its competitors.

You turn your attention to Target's four most recent income statements, balance sheets, and statements of cash flows excerpts:

 

Target Corporation
Income Statements (in millions of dollars)	2014	2013	2012	2011
Total revenues	$ 72,596	$ 73,301	$ 69,865	$ 67,390
Costs of sales	51,160	50,568	47,860	45,725
Gross profit	21,436	22,733	22,005	21,665
Operating expenses	17,207	17,362	16,683	16,413
Operating income	4,229	5,371	5,322	5,252
Net interest cost	1,126	762	866	757
Income before income taxes	3,103	4,609	4,456	4,495
Income tax expense	1,132	1,610	1,527	1,575
Net income	$    1,971	$    2,999	$    2,929	$   2,920
Target Corporation
Balance Sheets (in millions of dollars)	2014	2013	2012	2011
Assets:
Cash	$       695	$       784	$       794	$   1,712
Accounts receivable	-	5,841	5,927	6,153
Inventories	8,766	7,903	7,918	7,596
Prepaid expenses and other	2,112	1,860	1,810	1,752
Total current assets	11,573	16,388	16,449	17,213
Property, plant, & equipment, net	31,378	31,663	29,149	25,493
Other assets	1,602	1,122	1,032	999
Total assets	$ 44,553	$ 48,163	$ 46,630	$ 43,705
Liabilities and Shareholders' Equity:
Current liabilities:
Accounts payable	$    7,683	$    7,056	$    6,857	$   6,625
Other current liabilities	5,094	6,975	7,430	3,445
Total current liabilities	12,777	14,031	14,287	10,070
Long-term liabilities	15,545	17,574	16,522	18,148
Total liabilities	28,322	31,605	30,809	28,218
Shareholders' Equity:
Contributed capital	4,523	3,979	3,543	3,370
Retained earnings	12,599	13,155	12,959	12,698
Other shareholders' equity	(891)	(576)	(681)	(581)
Total shareholders' equity	16,231	16,558	15,821	15,487
Total liabilities & shareholders' equity	$ 44,553	$ 48,163	$ 46,630	$ 43,705
Cash Flow Data	2014	2013	2012	2011
Cash flow from operations	$    6,520	$    5,325	$    5,434	$   5,271
Fixed asset purchases	3,453	3,277	4,368	2,129
Cash dividends	1,006	869	750	609

As a competitive benchmark, you also gather the last four years financial statements for Walmart:

 

Wal-Mart Stores
Income Statements (in millions of dollars)	2014	2013	2012	2011
Total revenues	$ 476,295	$    468,651	$    446,950	$    421,849
Costs of sales	358,069	352,297	335,127	315,287
Gross profit	118,225	116,354	111,823	106,562
Operating expenses	91,353	88,629	85,265	81,020
Operating income	26,872	27,725	26,558	25,542
Net interest cost	2,216	2,063	2,160	2,004
Income before income taxes	24,656	25,662	24,398	23,538
Income tax expense	8,634	8,663	8,699	8,663
Net income	$    16,022	$      16,999	$      15,699	$      16,389
Wal-Mart Stores
Balance Sheets (in millions of dollars)	2014	2013	2012	2011
Assets:
Cash	$      7,281	$        7,781	$        6,550	$        7,395
Accounts receivable	6,677	6,768	5,937	5,089
Inventories	1,909	1,551	40,714	36,318
Prepaid expenses and other	460	37	1,774	3,091
Total current assets	61,185	59,940	54,975	51,893
Property, plant, & equipment, net	115,364	113,929	109,603	105,098
Other assets	28,202	29,236	28,828	23,672
Total assets	$ 204,751	$    203,105	$    193,406	$    180,663
Liabilities and Shareholders' Equity:
Current liabilities:
Accounts payable	$    37,415	$      38,080	$      36,608	$      33,557
Other current liabilities	31,930	33,738	25,692	24,927
Total current liabilities	69,345	71,818	62,300	58,484
Long-term liabilities	54,067	49,549	55,345	50,932
Total liabilities	123,412	121,367	117,645	109,416
Shareholders' Equity:
Contributed capital	2,685	3,952	4,034	3,929
Retained earnings	76,566	72,798	68,691	63,967
Other shareholders' equity	2,088	4,808	3,036	3,351
Total shareholders' equity	81,339	81,738	75,761	71,247
Total liabilities & shareholders' equity	$ 204,751	$    203,105	$    193,406	$    180,663
Cash Flow Data	2014	2013	2012	2011
Cash flow from operations	$   23,257	$   25,591	$    24,255	$     23,643
Fixed asset purchases	13,115	12,898	13,510	12,699
Cash dividends	6,139	5,361	5,048	4,437

You make a few final mental notes about the financial statements. First, Target did not report any accounts receivable in 2014. That is because Target sold its credit card business to TD Bank at the end of 2013. Second, the fiscal year end for Target and Walmart differ. Like most retailers, Target and Walmart end their fiscal years at the end of January, after the holiday selling and return season ends. In its annual reports, Target refers to its fiscal year in which the 11-month majority took place. For example, Target's 2013 annual report referred to the year started on February 1, 2013 and ended on January 31, 2014 as 2013. Walmart, on the other hand called that same fiscal year 2014. To avoid confusion in your analysis, you have recast Target's financial statements on a comparably-dated basis as those of Walmart.

Required: (1) Complete the following tables by computing the required 2013 and 2014 ratios for Target and Walmart.

Target Corporation	2014	2013	2012	2011
Return on equity			18.5%	18.9%
Return on total assets			11.4%	12.0%
Operating profit margin			4.2%	4.3%
Asset turnover			1.50	1.54
Working capital			2,162	7,143
Current (working capital) ratio			1.151	1.709
Inventory turnover			6.04	6.02
Days in inventory			60.4	60.6
Accounts receivable turnover			11.8	11.0
Days in accounts receivable			30.96	33.33
Operating cycle			91.35	93.96
Accounts payable turnover			6.98	6.90
Days in accounts payable			52.29	52.88
Net cash conversion cycle			39.06	41.08
Debt to capital			0.66	0.65
Debt to equity			1.95	1.82
Times interest earned (earnings coverage)			3.38	3.86
Cash flow adequacy			1.06	1.93

Wal-Mart Stores	2014	2013	2012	2011
Return on equity			20.7%	23.0%
Return on total assets			13.7%	14.1%
Operating profit margin			3.5%	3.9%
Asset turnover			2.31	2.34
Working capital			(7,325)	(6,591)
Current (working capital) ratio			0.882	0.887
Inventory turnover			8.23	8.68
Days in inventory			44.3	42.0
Accounts receivable turnover			75.3	82.9
Days in accounts receivable			4.85	4.40
Operating cycle			49.19	46.45
Accounts payable turnover			9.15	9.40
Days in accounts payable			39.87	38.85
Net cash conversion cycle			9.32	7.60
Debt to capital			0.61	0.61
Debt to equity			1.55	1.54
Times interest earned (earnings coverage)			7.27	8.18
Cash flow adequacy			1.31	1.38

Required: (2) Decide whether Target should retain or fire its chief executive officer. Write your rationale for the recommendation that you will read to Target's Board of Directors.