These 3 factors will determine how Target and Kohl’s fare beyond the pandemic

Published Wed, May 26 20213:44 PM EDTUpdated Wed, May 26 20215:24 PM EDT

Melissa Repko @in/melissa-repko @melissa_repko

Key Points

Target and Kohl's will go head-to-head at suburban strip malls in the coming months as customers buy apparel and makeup.
Both retailers said eager shoppers are returning to stores as they refresh their wardrobes and plan for gatherings.
The two stores face different challenges as they emerge from the pandemic. "Target needs to retain its customer and Kohl's needs to reengage its customer," said Steph Wissink, managing director of Jefferies.

Some of the biggest battles in retail used to play out in shopping malls. Now, that retail rivalry has moved to strip centers, where Target and Kohl's compete for customers. "The mall used to be the magnet," said Mark Cohen, former Sears Canada CEO and director of retail studies at Columbia University. "It used to be the more convenient alternative. But the focus has now shifted off-mall and obviously online." Target and Kohl's have gained a strong following, particularly among suburban families, as longtime department stores like Macy's and J.C. Penney have floundered. The off-mall players have riffed off the same formula — offering a wide variety of merchandise in one place. The retailers face different challenges as they emerge from the coronavirus pandemic . "Target needs to retain its customer and Kohl's needs to reengage its customer," Steph Wissink, managing director of Jefferies, said. Yet both stand to benefit as the economy reopens and they compete with weakened mall-based players. As shoppers take off masks and step up spending, Target and Kohl's plan to drive sales by adding beauty boutiques, focusing on fashion-forward apparel lines and enticing customers to visit more. Here's a closer look at three factors that will determine how they fare. 1. At the beauty counter Starting this summer, Target plans to open mini Ulta Beauty shops and have 100 up and running by years' end. Kohl's expects to add about 200 Sephora shops by the fall, and the number will grow to at least 850 by 2023. In an interview on CNBC's " Squawk Box ," Target CEO Brian Cornell said shoppers seem eager to socialize and celebrate. Those occasions could benefit beauty. Wissink expects Kohl's will get a bigger bounce from its partnership. She said Target already retooled its beauty department with design cues from Ulta, Sephora and Macy's-owned BlueMercury. Sephora at Kohl's, however, will be a compact version of what shoppers find in the mall, she said. The marriage will give Kohl's what it's long been missing — sights, sounds and smells of a busy beauty counter. Wissink said this should attract younger and more diverse customers. Kohl's plan is also to spruce up the area next to Sephora, CEO Michelle Gass said on an earnings call. The goal is to "capitalize on cross-selling opportunities," she said. The company will put national brands like Calvin Klein on display nearby, hoping customers will fill up baskets with underwear and denim, too. Stacey Widlitz, founder of SW Retail Advisors, favors Target's approach. She said Ulta will complement its personal care and beauty mix. Shoppers can buy low-priced shampoos and nail clippers in the CVS pharmacy inside of Target, and head to the Ulta shop for more "fashion-forward" items. Jefferies rated Kohl's shares as a buy and set its price target at $71, saying rebounding apparel demand and the Sephora deal will help it drive long-term growth. The retailer's shares are trading hands at about $55 apiece. Jefferies rated Target's shares as a hold. It raised its price target for Target after its first-quarter earnings report to $235. Shares last traded around $227. Jefferies pointed to the retailer's strong start to the fiscal year, including shoppers' bigger baskets and the rebound of "social categories." 2. In the apparel department Both retailers stand to benefit from shoppers seeking outfits for social gatherings. Target's apparel sales were up more than 60% in the first quarter compared with the year-ago period. It recently debuted a collection of bright-patterned and fashion-forward dresses from three designers at a slightly higher price point of $40 and up. Target's own brands have become a central part of its strategy, Widlitz said. In the first quarter, Target said sales of private labels rose 36% from the same period a year ago — the sharpest jump in its history. Target has also layered in national apparel brands, such as Levi's, and had limited-time designer collaborations. It has invested in remodels to spruce up stores. At Kohl's, the apparel mix is nearly reversed, with some brands that have fallen from favor. Kohl's is trying to refresh racks with national labels including Lands' End and Cole Haan. Later this fall, it will add Tommy Hilfiger for men. Kohl's also confirmed that it ditched a number of dated women's brands in recent months — including Jennifer Lopez, Mudd, Candie's and Juicy Couture — which it says were underperforming. In turn, it is leaning more into casual options, including Levi's, and some of its private brands like Croft & Barrow and Lauren Conrad. Kohl's biggest push has been in active and "on-the-go" clothing. While it already invested in the category before the pandemic hit — carrying brands like Nike , Under Armour , Adidas and Champion — it is filling its stores with more workout gear. In March, that became more clear when Kohl's launched FLX, an exclusive athleisure brand for men and women. Gass said this month that Kohl's remains on track to grow its active department, which includes more day-to-day lifestyle pieces, to represent 30% of its overall business. It accounted for 23% of total sales during the first quarter. Kohl's plans to grow sales in this space by devoting more square footage to active and outdoor merchandise in certain stores. "Kohl's is trying to transform," said Jane Hali & Associates retail research analyst Jessica Ramirez. "The launch of FLX follows consumer sentiment." Ramirez said, however, that Kohl's biggest "downfall" remains its overall women's apparel assortment. She said Kohl's trimmed back the dated dresses it sells, but there's still room to be more on-trend. Jane Hali & Associates has a neutral rating on Kohl's shares, and a positive on Target, primarily because of how the companies have performed in apparel. 3. The secret sauce Target's use of grocery items to drive frequent store trips is part of its secret sauce. The retailer has leaned into the category that mall stores — and Kohl's — do not offer. Last year, it added fresh and frozen items to its popular curbside pickup service. Widlitz said the power of its assortment became clear during the health crisis, as people consolidated shopping trips. That is, shoppers came for soap and bananas, and left with a cute workout top or throw pillow. "They discovered that Target is their all-around solution for everything from their kids' needs to their apparel to stocking their kitchen," she said. "Perhaps, going forward, they don't feel the same need to go to several retailers for discretionary shopping." Widlitz said Target is "the new mall" with many miniature shops for well-recognized brands, including Starbucks , Levi's and Disney , and a combination of items that customers need and want. Kohl's might still be looking for its secret sauce, as evidenced by the recent attempt by activist investors to take over its board . That's where Target could have a key advantage. At one point, many people though that Kohl's superpower to drive sales was going to be Amazon. Kohl's began accepting Amazon returns at 10 of its stores in the spring of 2017, rolling out Amazon returns kiosks nationwide by summer of 2019. The expectation was that this would drive foot traffic and boost Kohl's sales. The retailer had been quiet about how the tie-up was working out until its publicized battle with the activist investor group earlier this year. Under pressure in March, Kohl's said it added at least 2 million new customers last year, thanks to the Amazon returns program. Kohl's is now betting big on Sephora and a return to shopping. The company said it gained new customers during the first quarter, though it didn't disclose how many. Cowen & Co. analyst Oliver Chen estimated that Sephora could boost Kohl's fiscal 2021 comparable store and digital sales by more than 1%. It may be the company's last chance to get the formula right. After the activist investor push, it has three new independent directors sitting on its board: Margaret Jenkins, Thomas Kingsbury and Christine Day. Jenkins was previously chief marketing officer of the restaurant chains Denny's and El Pollo Loco , and Kingsbury previously served as the CEO of Burlington Stores , while Day served as CEO of the athletic apparel chain Lululemon from 2008 to 2013. "Arguably, the addition of Sephora will help Kohl's attract shoppers, but the company must go over and above this and use other tools in its armory to engineer growth," said GlobalData Retail managing director Neil Saunders. "It has a number of strategic advantages over other traditional department stores … but it is vital it capitalizes on these quickly and decisively." "All retail players are looking to pivot their businesses into positions of strength, and Kohl's cannot afford to be left behind as others adapt," Saunders said.