Rundown: Target's earnings miss, REI cracks down on returns and Starbucks' woes in China

0:04Hello, everyone, and welcome to the Modern Retail Rundown. I am Cale Guthrie-Weisman, the editor-in-chief here at Modern Retail, and I'm filling in for our senior reporter, Gabriela Barco. In today's episode, we got a lot of news to catch up on. We'll first dive into Target's earnings, which were, I guess you could say, less than stellar. Then we'll talk about some retailers' new ways that they're avoiding or trying to crack down on serial returners. And then lastly, we'll check in on Starbucks' Chinese business, which I love talking about coffee, as I'm sure you all know. I'm joined here with my colleague, managing editor, Anna Hensel.

0:38Anna, how are you doing? I am good. I am currently trying to strategize about what I will buy for Black Friday. Honestly, maybe starting this weekend. There are a lot of sales that have started. I haven't checked to see what I all need, but I feel like I got to start shopping soon. I don't know about you. Yeah. Are you going to be doing gift shopping or just like things are cheap, I'm going to buy it for myself shopping? To be honest, things are cheap, I'm going to buy for myself shopping. Yeah, no, yeah. I think that that's what I'm going to do. I'm the worst at giving gifts, but because of this job, I have learned that I should really be checking in on these discounts.

1:15For the first Prime Day or the second Prime Day, I bought speakers and they weren't a gift. They were just on sale. And I was like, wow, I should do this more often. Yeah, no, a lot of people are. Yeah. Well, good luck. I hope you find your good items this weekend. Let's dive into the news. You ready? Yeah. So first, we have that Target posted a pretty glum outlook at its earnings on Wednesday with its biggest earnings miss in two years. So Ana, can you just tell me what kind of numbers did Target post? Yeah. So first of all, I feel like this is a bit of a, again, a glum outlook for the holiday season.

1:53And just as we were talking about, people are kind of waiting, seeing what sales come by to kind of treat themselves and buy for themselves. But I guess they're not doing that enough at Target. So in the third quarter, Target reported revenue of $25.7 billion, which is up just 1.1 % over last year. It's a bit of an unusual result for Target when you compare it to, say, the pandemic year is when sales were just going up a crazy, crazy amount. Its gross margin rate was also down compared to last year, which the company attributed to increased digital fulfillment as well as the cost of managing more inventory.

2:36So net earnings overall were$854 million, down 12.1 % compared to the third quarter last year. So that especially was the big earnings miss. And Target projects comparable sales will be flat during the all important fourth quarter. So not a great set of results for Target. No, like it's not good if your projection for Q4, especially for a big bucks retailer like Target is flat. I'm sure investors are not happy. So what what do you think are the big issues that are that are here for Target? Yeah, so a lot of this is kind of what Target has been experiencing all year. And I feel like it's just accelerated a bit.

3:19So they mostly saw sales declines in its discretionary categories. You think apparel, home and hard lines. There were just a lot of other comments on the earnings call about how Target is just trying to adjust to the fact that shoppers are being more careful. So according to CEO Brian Cornell, when it comes to essentials, shoppers are waiting to buy until the last moment of need, focusing on deals and then stocking up when they find a good deal. But he said consumers are still willing to spend when they find the right combination of newness and value. So I don't know. That's a lot of platitudes there.

4:00But basically, I do think that it's just something we've talked about all year. Like people are being really, really strategic about what they buy, when they buy it. They want to make sure that when their wallets are kind of tighter they are only buying things that are really good quality at like the price they want it so the trick for target is kind of how do you convince your core customer that like yes they need these extra discretionary things um so basically target is still trying to figure out that right balance it slashed prices on thousands of items over um the past few months I think they started doing a lot of that in the summer.

4:41And the company said it has seen a strong response to promotions, but it hasn't been enough. What I also found really interesting is Target said it faced some unique challenges related to the East Coast and Gulf port strikes. So those strikes didn't last too long, but basically Target rushed shipments to prepare for these strikes. but then when it also saw softer than expected sales that left target with more inventory than expected so that's why its gross margin rate took a hit oh that's interesting yeah i guess they have to prepare but i also feel like i'm sure it is true but it's also a very convenient thing to say that like it's the strikes that did this yeah but i mean it's really interesting because i like i think it was before the summer i want to say the spring when target was once again not doing very well.

5:33And it said it was slashing prices. And then my memory, though, correct me if I'm wrong, was that at its earnings before this last one, it pretty much said the price slashes seem to be working. And it had slightly rosier earnings where it said people are responding to it. I think you're right. But I also think especially if you look to this is just my hypothesis. But if you look later into the year, especially like during the holidays, that's really when people make those discretionary purchases. So it could be I do think that some of these promotions and price slashes are working, but like it also might not be enough to drive up sales in apparel or home goods.

6:14Makes sense. Is Target the only one I feel like it's usually it's about a certain sector, but it seems like other big box retailers are doing pretty well, right? Yeah. So Target's results, of course, always get compared to those from its chief rival Walmart. And Walmart continues to do really well. It posted strong revenue growth during its earnings this week. Its earnings were up 5.5 % year over year. Walmart has also benefited from the fact that it has a bigger grocery business than Target and more people come do it for essentials. uh walmart's profit was also aided by strong growth in its retail media business i think walmart especially has really invested a lot in that over the years and so you know of course there are also we're kind of just beginning retail earning season i think we'll continue to see a lot of soft results from other retailers but i think the challenge is is that target for so long has been held up as kind of this model of like operational excellence.

7:18And you think of the years when it's historically, it's like private label clothing business and it's like exclusives and collaborations with designers have done really well. But again, in apparel, you're not seeing, you're still seeing soft sales. Target did call out certain categories that's seeing positive growth in. It continues to see a lot of demand for pink and delivery. It had nearly 20 percent growth in same day delivery. And Beauty is also doing really well for Target. They have invested a lot in these Ulta Shop and Shops. And so Beauty overall drove a comp increase of more than 6 % during the quarter.

7:58But again, it's not enough to offset declines in more discretionary categories like apparel, like home. And I feel like if this continues on for much longer, it begs the question of whether they're doing enough to adapt to changing preferences. Because we've had a few quarters now of this of like, okay, shoppers are being pickier, you know, they're taking longer to buy things. And it's like, if you know that for a few quarters now, you know, it's on the executive team in the business, of course, to adapt to that. It's also and this is something that I've been noticing, there's a shift in perception where I feel like this year, it's been a couple of years, But this year specifically, especially in the press, people are talking about and Walmart is talking a lot about how it's attracting more affluent customers.

8:48And I think that Target was always the big box retailer that was more aligned with affluent people, people who made maybe six figures. You know, they got their essentials there, but they also saw it as a value option, but a little bit nicer than Walmart. And now Walmart is really encroaching on that space, which I think is super interesting because in a certain way, it's Target is saying people aren't buying discretionary. they're looking for value. And Walmart is saying, we've gotten those customers and they're just buying from us. They're buying groceries and they're buying the other things too.

9:16Right. You know, Target, of course, didn't talk during the earnings call about like how its customer, if its customers are, you know, going to Walmart or other retailers. But I do think that that is basically just at this time, I feel like if you're a shopper, and again, your budget is kind of stretched right now, you are going to go to the place where you feel like you can find the best deals and best value. Yeah, well, Target is still projecting that shoppers will be cautious, picky, discerning whatever, whatever buzzword you want to use during the holidays. So we'll have to look to 2025 to see if it's able to turn things around.

9:54And I'll you know, it's always interesting Target was always one of the big winners, even though it was always relatively smaller than Walmart. And so this is definitely a change. And so we'll be keeping an eye on it. Moving on, We have news that REI is cracking down on people who are making too many returns. That's bad news if you're a serial returner. But Ana, what exactly did REI announce? I just found this very interesting. So they are outright banning some people from making returns or exchanges. So REI said it will no longer accept returns from a, quote, small subset of its members who have repeatedly abused its return policy, which the company said in an email to Retail Dive.

10:37So REI has a very generous return policy, even when compared with other retailers. Members have up to a year to return an item and non-members have about 90 days, which is pretty crazy to me. So for me, returns are one of those menial tasks that I absolutely hate. So like I will never return stuff unless I absolutely have to. But apparently people at REI, because they make it so easy, some of them are returning too much stuff. Well, I actually like literally two weeks ago, I have a friend of mine who is an REI member, which I mean, like to be a member, I think you just pay. It's free. Yeah, I can't remember exactly.

11:19But yeah, I think it's very easy to become a member and you get really good perks. It's like very smart. But anyway, he had bought a backpack, I want to say nine months ago. And he was like, I'm going to the REI store to return it. Do you want to come? And I was like, nine months ago? That's insane. But yeah, we went no issue. And that actually shocked me. Anyway, continue. Yeah. But when you look at the numbers REI disclosed, this is pretty funny to me. So they will stop accepting returns from it equates to like less than 0.2 % of its 24 million members. So if I'm doing my math right, that would equate to around 48 ,000 people who apparently are returning too much stuff.

12:02And according to REI, this group had an average return rate of 79 % and returned about$2 ,400 worth of gear in the past year. Wow. Yeah, I have a lot of questions about that. But it makes sense that REI was like, if you're going to return about 80 % of stuff, that's too much. Yeah, I'll have to ask my friend if he's part of that. Did he get the email? Have other retailers been cracking down on serial returners? Yeah, so returns in general have just become a huge problem for retailers. shoppers have come to expect generous return policies, which have been normalized, especially, I think, by Amazon, but also other big online retailers.

12:46And so retailers are kind of in this catch-22 where customers still expect the generous return policy, but some people are abusing it. So retailers need to find ways to gently crack down on these people. And in the most extreme cases, they might be banning some people outright. But there are other ways that you can kind of crack down on returns or make them more cost effective. So first and foremost, some retailers are limiting how much merchandise someone can return or charging a restocking fee. So in 2022, Bath and Body Works said it would limit non-receipted returns, which is very, again, it's funny to me, I don't return much stuff.

13:29It is wild that you can return some stuff in store without a receipt. But I guess that's what people expect. But so they said that they would, in select U.S. stores, limit non-receipted returns to$250 or exchanges within a 90-day period. Some retailers, including Zara, PacSun, L.L. Bean, they deduct money from customers' refunds if they make a return by mail, which makes sense to me because it's probably a more costly way to process a return. So you're seeing other retailers kind of trying to nudge people to return stuff more cost effectively. And then you're also seeing some retailers try to find like clever ways, again, to crack down on people who are returning too much stuff.

14:17So earlier this year, ASOS started charging customers who regularly return a large amount of items, they'll charge them a fee unless they keep up to 40 pounds worth of their order. And ASOS in particular is a funny case on sites like TikTok or Reddit, you can find accounts of customers who are angry because they say they've been banned from ASOS for making too many returns. Yeah, I have seen those TikToks. And it's like one of those, can you believe this? I didn't, I have not done this. And like, we have the receipts, but I don't know, like, Yeah. People always say returns are a big problem, but like how big of a problem for retail as a whole are returns?

14:57Yeah. So according to a joint study conducted by the NRF and another firm, an estimated$743 billion worth of merchandise was returned in 2023. So you look at that, wow, big number. Of course, that's across like all of retail. And that amounted to a return rate of about 14.5%. In some categories, like apparel, that can be higher. And, you know, of course, returns are just costly to process because the customer has to send the item back. You know, in some cases, the retailer, of course, is going to try to resell it. But I think there are ways that retailers can try to limit the amount of returns, I think, by just like providing as accurate of info and detailed of information as possible about the item up front.

15:52But I do feel like maybe the bigger or like, just more interesting issue is that there are always going to be people who find very creative ways to flout the system. And it's just like, how do you deal with that? You know, again, if you look on sites like Reddit, I've seen posts of people who are like, oh, you know, I returned this used coffee maker I bought three years ago and they accepted it. Or I bought this item from one place and swapped it out with this old item. So like, you're always going to have people who just like find creative ways to flout the system. And like, how do you deal with that without alienating other customers who want like an easy way to make a genuine return.

16:37Yeah. And I mean, this is not a new problem. Like I have a memory of early 2000s or late 90s, like when Trader Joe's was just becoming a big thing. Like Trader Joe's two moms had an amazing return policy where if I remember correctly, you didn't need a receipt. And it was food. But my mom was like, my kids didn't like this food. And she was like obsessed with Trader Joe's return policy at the time. And like, I feel like that was like in the mom whisper networks like back then before there was like Reddit and things like that. And so it's interesting that it is only increasing, but it's not like a new problem these companies are facing.

17:12Yeah, I think the thing is, is that whatever system you come up with, people are always going to find ways to like get around it or again, like abuse it. And so it's just I feel like if you're a retailer, you just have to keep finding new ways to evolve your return system. Yep, exactly. And so, all right, let's move on. We're going to be talking about the international coffee world. According to one report, Starbucks is thinking of selling off some of its Chinese business. Ana, what exactly is the news here? Yeah, it's been a bit of a challenging year for Starbucks. They just named a new CEO recently.

17:51And so now they're kind of in the stage where they're evaluating, you know, potential options for different parts of their business that maybe aren't performing as well. And so it's Chinese business is one of those things. So Bloomberg has reported that Starbucks has begun talking with advisors about potentially selling some of its Chinese business. The company allegedly is looking for ways to grow this business. And one such way would be to introduce a local partner. And again, this comes as Starbucks has been having difficulties stateside. It also needs to obviously focus on its domestic business and it's receiving increased pressure from activist investors to review its Chinese business.

18:35So let's put some numbers to this. How is Starbucks doing right now? Not great. During its fourth quarter earnings, it missed on both revenue and earnings per share. So their new CEO, Brian Nickel, who comes from Chipotle, has said it is clear we need to fundamentally change our strategy to win back customers. We have a clear plan and are moving quickly to return Starbucks to growth. In the US, Starbucks has outlined changes it would make to bring that part of the business back to growth, including cutting down on order times and bringing back its condiment bar where like people could add milk themselves basically.

19:18So then baristas don't have to do it kind of simplifying the business. But international was also not faring well. So from its earnings release for the full year, international comparable store sales declined 4 % driven by a 4 % decline in average ticket. In China, comparable store sales declined 8 % driven by an 8 % decline in average ticket. Those are all numbers that point to the fact that Starbucks needs a new strategy in China. And that's what they're evaluating here. Yeah. And so this is something that I've read about and kept tabs on a lot. And pretty much this doesn't seem to be a new problem for the Chinese market, right?

20:00Correct. I think that Starbucks has been struggling to grow its business in China for a bit. So it first entered the country in 1999, largely a first mover in the international coffee space. But of course, the pandemic hurt Starbucks as it did most businesses. Its Chinese same store sales fell by 17 % in fiscal year 2020 compared to 2019. It did see some comparable store sales growth again in 2021, but it's gone up and down the last few years. And meanwhile, other local chains have been growing. Luckin Coffee, a Chinese company founded in 2017, actually outpaced Starbucks last year with Chinese store locations.

20:47So per a Business Insider report from this summer, Luckin has around 20 ,000 locations, more than double Starbucks's 7 ,300 stores. And then, you know, Luckin has had an interesting trajectory as well. It was also delisted from NASDAQ in 2020 for fabricating its sales. But it has been better at offering service, I think, that Chinese customers want. its focus has been on cheaper products and more seamless mobile orders which i mean that's been a issue for starbucks domestically as well i think just making sure that with mobile ordering that like things are available when customers want it um that its mobile order system is working seamlessly but that's especially a big given how many purchases happen on mobile in china that's a big thing to nail in that market in particular.

21:41And then another Chinese chain, Cody, has also been competing heavily with Starbucks. And a lot of Starbucks's China problems come down to consumer shifts over the last four years. So per Business Insider, someone they interviewed, a food and drinks consultant, said that Starbucks is third place model, which is the idea that it's an alternative space to work and home for people to spend time. It had worked in 2017 and 2018 when people were willing to pay more for premium products and wanted a comfortable place to sit and hang out, but that this is no longer the case. And Luckin, in comparison, has smaller format stores with less seating and a focus on automation and standardization.

22:30So I think regardless of what path Starbucks goes in China, it has to kind of figure out what it wants to be. Does it want to move away more from this third place model, focus more on automation and standardization? That's kind of one of the key things they have to figure out. And that's sort of a problem that they need to figure out here, because I've heard really diverging things about how Starbucks is going to go back to growth, where it sort of wants to go back to the third place model or be a destination for people. And a lot of its attempts to focus on mobile ordering, especially in the US, have kind of made it a much more frantic and frenetic place that people have not enjoyed going to.

23:08And so it seems like it's trying to make a more standardized US version, but it doesn't quite know exactly how to do that or what would resonate most with the US customer. Right. And I think that, of course, consumer preferences are going to be different in different markets. But the key right now is Starbucks has to figure out what it wants to be, which I feel like is the key line for any business that has been struggling for a bit that's kind of looking to undergo a transformation. All right. So what do you think comes next? So, of course, one way to help fix that region would be to bring in new owners or give an ownership stake to a group that specializes in China or has more experience operating there.

23:56I don't quite know who that would be. But as Bloomberg noted, it wouldn't be the first US based chain to do so. Both Yum! Brands and McDonald's have sold big stakes in their Chinese businesses over the last eight years. I think that Starbucks is an interesting case because it feels like a company that prides itself on like doing a lot of things themselves and like having a really exceptional operating model. But I think it's become clear that with the struggles it's had over the past few years, that selling a steak in its Chinese business would probably make sense. It's true. But it would also I think, as you said, like, it's focused very much on an experience and standardization.

24:41And so to sell would make sense. But also, I imagine Starbucks would not want its Chinese stores to be so fundamentally different from its other stores globally, like sort of the point of like, when I go to like Europe, I go to a Starbucks, I know exactly what I'm going to get. And it's pretty much the same experience of what I get in the US. And so it would be interesting to sell a steak in China and then have it look more like a Luckin, which is smaller, and focused on less premium and more quicker and cheaper service. So it'll be interesting to see how if it's able to walk that tightrope. Right, I think I mean, that's the challenge for any restaurant chain as it expands internationally.

25:20right? Like, what do you keep the same? What are things that you differentiate by market? Yeah, so it's clear Starbucks has its work cut out for it as it tries to bring sales back to growth. And China will continue to be an especially difficult region, region given the stiff competition. Well, that's all we have for today. Anna, it's been a pleasure chatting with you. Thanks. Thank you, Kale. Please don't forget to rate us anywhere you're listening. And don't forget to listen to Thursdays where I have my modern retail podcast, which are interviews with some of the leading retail executives around the world.

25:52Also, please follow us on social media at Modern Retail. And of course, come back every Saturday for the Modern Retail Rundown. Have a great weekend, everyone.