Ladies and gentlemen, thank you for standing by. Welcome to the Target Corporation Third Quarter Earnings Release Conference Call. [Operator Instructions] As a reminder, this conference is being recorded, Wednesday, November 17, 2021. I would now like to turn the conference over to Mr. John Hulbert, Vice President, Investor Relation. Please go ahead, sir.

Good morning, everyone, and thank you for joining us on our third quarter 2021 earnings conference call. On the line with me today are Brian Cornell, Chairman and Chief Executive Officer; Christina Hennington, Chief Growth Officer; John Mulligan, Chief Operating Officer; and Michael Fiddelke, Chief Financial Officer. In a few moments, Brian, Christina, John and Michael will provide their perspective on our third quarter performance and our outlook and priorities for the fourth quarter and beyond. Following the remarks, we'll open the phone lines for a question-and-answer session. This morning, we're joined on this conference call by investors and others who are listening to our comments via webcast. Following the call, Michael and I will be available to answer your follow-up questions. And finally, as a reminder, any forward-looking statements that we make this morning are subject to risks and uncertainties, the most important of which are described in our most recently filed 10-K. Also in these remarks, we refer to non-GAAP financial measures, including adjusted earnings per share. Reconciliations of all non-GAAP numbers to the most directly comparable GAAP number are included in this morning's press release, which is posted on our Investor Relations website. With that, I'll turn it over to Brian for his thoughts on the quarter and his perspective on our outlook. Brian?

Thanks, John, and good morning, everyone. Our third quarter results are consistent with what our team has been delivering quarter after quarter for years now. And they continue to demonstrate the extraordinary level of engagement we're seeing from our guests, both with our brand and with our team. In the third quarter, comparable sales expanded 12.7%, on top of a nearly 21% increase one year ago. Consistent with recent quarters, traffic was the primary driver of this year's growth as our guests increasingly turned to Target to serve their wants and needs. Across our sales channels, store sales were the primary growth driver this quarter, while same-day services propelled our digital growth. Since the third quarter of 2019, prior to the pandemic, Q3 store sales have expanded by $3.8 billion, while digital sales have increased another $3.1 billion. This provides a vivid demonstration of the flexibility of our operating model to serve our guests no matter how they choose to shop. All of these results reflect the level of guest engagement far beyond what many would have imagined a few years ago, when we started making huge investments throughout our business, in our stores, new brands, same-day services, supply chain, and importantly, our team. Back then, Target was already known for our world-class team, a differentiated shopping experience, unique assortment and an iconic brand. But we knew there was much more to do. We saw a clear opportunity to build on that solid foundation, finding new ways to enhance our capabilities, while strengthening the bond with both our team and our guests. And today, those bonds have never been stronger. As I mentioned, within our digital capabilities, more and more of our guests are trying and embracing our industry-leading same-day services. Third quarter sales through these services have expanded by…

Thanks, Brian, and good morning, everyone. Our third quarter results demonstrate what happens when our team lives out our purpose: to help all families discover the joy of everyday life. When we lead with our guests first, we continue to build upon the trust that we have carefully earned with them over time. And when our strategies are guest-led, we grow our business, which supports our team, our financial performance and our ability to give back to our communities and the planet. As you heard from Brian, third quarter comparable sales grew 12.7%, reflecting double-digit growth in every one of our core merchandising categories. Even within those core categories, sales strength was broad-based, and virtually every area of the business grew over last year. This shows the power of our multi-category assortment in driving guest relevance and affinity for Target. While growth came from all categories, third quarter performance was led by our Essentials, Beauty and Food & Beverage categories, all of which delivered comp growth in the mid-teens. These businesses continue to deliver substantial share gains on top of last year's gains through both trip frequency and basket growth. In Essentials, growth was led by baby care, pets and over-the-counter health care categories. Strength in Food & Beverage was most notable in our fresh and frozen categories as well as in snacks and candy. Hardlines, which comped in the mid-teens on top of mid-30% comps last year, was fueled by incredible momentum in our toys and sporting goods businesses, which both saw comp growth north of 20%. Electronics delivered low single-digit comp growth on top of last year's comp of nearly 60%. In our Apparel business, comp sales grew in the low double-digits despite unseasonably warm weather across much of the country. Performance was strongest in swim, young contemporary,…

Thanks, Christina. Every day, across the operations team, we focus on execution. On our supply chain team, the focus is on moving the right amount of inventory to the right place at the right time. In our stores, which fulfill more than 95% of our total sales, the team focuses on delivering a great guest experience across hundreds of millions of guest transactions every quarter. And on our properties team, the team focuses on optimizing our physical footprint, including the planning and construction of new stores and distribution facilities, along with our investments to maintain and enhance the productivity of our existing buildings. Of course, all of these aspects of operations matter all year long. But in the fourth quarter, when we handle the largest volumes of the year, everything moves faster, making the need for detailed planning and precise execution even greater. That's why, every year, we construct our plans with the fourth quarter in mind so we can remove distractions and roadblocks in advance of the holiday peak. That means on the properties team, we plan our remodeling new store projects so they're completed before the holidays. And our technology team rolls out new systems and tools on the same time line. In the supply chain and in our stores, we carefully plan the ramp-up of seasonal hiring and team member training in advance of the holidays so everyone is ready to handle the additional volume. That's what happens every year. But as Brian and Christina have already mentioned, this year, our teams have been facing additional out-of-the-ordinary challenges as they plan for and deliver record-setting volumes while facing unprecedented bottlenecks in the global supply chain. So while I'm lucky to work with our amazing team every day, it's at times like these that our team shines brightest.…

Thanks, John. Over time, we've emphasized our commitment to making the appropriate investments in our business, ones that will deepen Target's relationship with our guests, driving engagement, which ultimately leads them to shop at Target more often. And while it's our job to focus on driving performance every day, we've committed to making investment decisions with a long-term perspective, not limiting our horizon to a month, a season, a quarter or even a year, but thinking about how to position Target as a leading retailer for generations. That's how I think about our third quarter. In the face of multiple challenges in the external environment, we maintained our focus on our guests and took specific actions to ensure we have a healthy inventory position going into the holidays, even though those actions involve some incremental cost. And importantly, as we face those decisions, we had the resources we needed, including the best team in retail, a sophisticated global supply chain and a durable model that could accommodate those guest-focused investments. And while we're making these decisions with a focus on the long term, we've already seen the benefit of this year's inventory investments, given that they helped to power third quarter traffic and sales growth that exceeded our expectations. In addition, given strong expense discipline across the organization, we benefited from a compelling amount of leverage on our SG&A and D&A expenses, resulting in solid EPS growth despite the sizable investments we were choosing to make. As Brian mentioned, our 12.7% comp in the third quarter came on top of a nearly 21% increase a year ago. As expected, within the quarter, we saw a shift in a portion of our back-to-school sales back into August, given that most schools across the country began the school year with in-person learning.…

Thanks, Michael. Before we turn to your questions, I want to pick up on something Michael just mentioned, which is the growing agility of our team. This comes in part from a heightened focus on prioritization in which we ask our team to focus on a small list of key enterprise-wide priorities, with a goal of making much more rapid progress towards the goals that matter most. With prioritization, we've also seen more alignment across the organization. Regardless of where specific team members might work, our enterprise priorities guide their decision-making, allowing them to take action and change course faster when facing rapidly changing external conditions. Beyond prioritization and alignment, we've also achieved a higher degree of collaboration. When tackling business problems, it becomes easier for everyone to communicate and partner cross-functionally to achieve our common goals together. Prioritization, alignment, collaboration, 3 important concepts that deliver compelling outcomes in a large organization like ours. And in our remarks today, you've heard us highlight some of those benefits, which helped drive strong Q3 performance despite challenging macro conditions: a unified focus on serving our guests; collaboration between merchandising, marketing and operations teams as they optimize holiday promotions; joint efforts between our stores, supply chain, merchants and vendors to address supply chain bottlenecks and find solutions in support of our inventory. To say we're feeling the impact of those benefits already this holiday season would be an understatement. In fact, I place them alongside our multi-category portfolio, our unmatched same-day services and the skill of our extraordinary team as keys to our holiday readiness. So once again, I want to thank our team. There is no question that because of their dedication and connection to our guests, we stand ready for an exceptionally strong holiday season. Throughout the team, across every function, I've seen the energy and passion as they prepare for the busiest season of the year. And I'm confident that same energy and passion will ensure Target's consistent and sustainable growth over the longer term as well. Now Christina, John, Michael and I would be happy to take your questions.

[Operator Instructions] Our first question is from Michael Lasser with UBS.

Michael, you began the question already by suggesting you're not sure how long the gross margin is going to last. Can you at least help us understand if the third quarter was the peak gross margin degradation that you expect to realize over the next few quarters? And what are you doing to mitigate this gross margin pressure in terms of passing along price increases to the consumer?

Thanks for the question, Michael. As you know, we don't guide margins specifically out into future quarters. But I will say and reiterate what I said in my remarks. I think you're seeing in the third quarter, the result of some very specific investments we made. And the biggest of those investments is an investment to make sure we've got a great inventory position heading into the fourth quarter. And pulling all the levers within the system to ensure we're there for the guest has been our priority. And some of those levers, think of expediting product to come at a cost, and you saw some of that in the third quarter. But I feel really good about the payoff from an investment decision like that. We've got inventory of $2 billion north of last year, up almost 20% on a year-over-year basis. And that's fueling the continued top line growth that we see. So I feel really good about the set of investments that we're making and how they have us positioned for the back part of the year.

My follow-up question is, even without providing any context on the gross margin for at least the fourth quarter, can you give us a sense for how much you're able to offset or continue to offset this gross margin pressure with further SG&A reductions? Should we expect your SG&A dollars in the fourth quarter to grow at a similar rate that they grew in the third quarter?

Yes. On the SG&A side, I think the theme you see in Q3 is just an example of how powerful productivity improvements that come with growth are for our business. We generate astounding leverage when the top line is running forcibly in the right direction, and it certainly was in the third quarter. That's one of the reasons. We want to make sure we're so well positioned to support continued growth because the P&L works great when we're generating that SG&A leverage, just like you saw in Q3.

The next question is from Chris Horvers with JPMorgan.

So 2 question. My first question is, you raised the outlook for the fourth quarter, can you talk about what you're seeing from the consumer so far this holiday season? Are you seeing any indication of that holiday sales could be pulled forward? And does the guidance reflect any risk on stock-outs as we progress toward Christmas and then, obviously, stimulus slap in January?

Chris, as we sit here today, we see continued momentum in the marketplace, and our guests to shopping, all of our categories, utilizing both our stores and our digital channels, and we think that's going to continue throughout the holiday season. All indications are that the U.S. consumers looking to celebrate the holiday season, they are anxious to get together with family and friends. We've seen a great response to seasonal activity as we look at the first 3 quarters of the year. Record Halloween season, very strong back-to-school, back-to-college, a guest that we believe is going to enjoy Thanksgiving with family and friends and is really looking forward to the holiday season, which means robust gifting throughout the season. So we're off to a very good start. We think that's going to continue throughout the holiday season. And we think we made the appropriate investments in inventory. Our inventory levels are up $2 billion, almost 20%. And we think we're well positioned with those key items. The gifting items, the toys, those items the guest is going to turn to celebrate the season to make sure we build on our third quarter momentum and continue to take market share as we go through the holiday season.

Got it. And then I'll take a second cut probably of many on the gross margin and the gross margin outlook. Seasonally, usually, gross margin does sort of go down 200, 300 basis points just relative to the third quarter rate. However, you talked about a lot of -- I think there's like 2 components here to think about. One, you talked a lot about expediting product in during the third quarter. So there are some sort of periodic costs there. But then you have a lot of the product that comes in overseas, has all that ocean freight. And I think that product is hung up -- that cost is hung up in the inventory. So I guess as you sort of roll those 2 pieces together, and ignoring mix for a second, how are you thinking about those 2 relative costs? As sort of the freight component that's hung up in inventory get worse, but the periodic cost of bringing in 3Q comes down and those 2 things sort of net to neutral, or in which direction?

Yes. Chris, we -- you're thinking about it conceptually, I'd say, in the right way, in that the third quarter and fourth quarter kind of straddle the big inventory build and relief that happens for us in advance of the holiday season every year. And so those will be the factors at play, while I won't begin to get into the specifics of that level of gross margin for what that means in Q4. But I just zoom out and I feel really good about our ability to manage all of the levers and to see EPS growth of almost 9% in the third quarter, and yes, some investment in gross margin, but also a ton of leverage on the SG&A line. And we feel really good about how that positions us for the fourth quarter and the investments in inventory. And importantly, the investments in value for our guests, I think, will be investments that continue to pay off.

The next question is from Karen Short with Barclays.

Sorry to try this a little bit differently. So when you look at your top line growth in 3Q relative to your EBIT growth, and then -- so we look at the gap on those 2 in 3Q, and then back into 4Q, it looks like you will have much stronger -- a much wider -- or sorry, a much narrower gap on top line relative to EBIT growth in 4Q. So is that a function of the fact that a lot of the supply chain costs and inventory costs were pulled into 3Q? And then I guess what I want to ask bigger picture is, looking at '22, how should we think about that algorithm generally, top line growth relative to EBIT growth?

Well, thanks for the question, Karen. It's -- I guess I'd start by saying it's wrapped into the guidance we've given for the balance of the year. We would expect op income rate of 8% or higher. And that's inclusive of a lot of moving pieces and puts and takes throughout the P&L. But I'll tell you the place that starts is growth, and that's why high single-digit to low double-digit expectations for the fourth quarter are kind of where the short-term algorithm starts. And with that kind of growth, we feel confident in our ability to put together a P&L that works. The time will be right in the future to unpack the future year algorithm. But I will say, over time, we expect to be a growth company. We expect to be a company that's growing the top line and gaining share over time. And that's where that algorithm will start.

Okay. And then just a follow-up. You didn't mention markdowns or what your thoughts are on overall markdowns. I know originally, you'd hope that you would have enough excess inventory to be able to have a healthier markdown season. Just wondering where you stand on that.

Yes. I describe us as still chasing. The strength in the top line means that we're still not seeing those clearance markdowns return in force, like you've heard me talk about quarter-over-quarter. And so that said, we feel really good about how inventory is positioned for the fourth quarter. And so that $2 billion higher than last year, up almost 20%, it means we'll be ready to serve our guests for the important holiday season.

The next question is from Kelly Bania with BMO Capital.

Just wanted to ask really about the competitive environment. And clearly, you're maybe not passing on all the cost pressures that maybe you could. And my understanding is you're kind of investing here in that relationship with your guests. But do you see this as an investment to sustain these share gains? Or are you already seeing any signs of consumer price sensitivity? Or is it just an anticipation of that as we move forward and this is maybe more of a proactive absorption of those costs here?

Kelly, you've heard us say a number of times already today, we're investing in growth. We're investing to maintain and continue to build market share positions and build on the extraordinary results that we delivered last year, where we added $9 billion of market share and continue to see that momentum grow in 2021. So we're a company that's going to continue to invest in growth, do the right thing for our team, the right thing for the guest, and utilize all of our assets to continue to build on the momentum that we have today and build market share across all of our key categories.

That's helpful. And maybe just a follow-up on the supply chain. Obviously, you've been ahead of that year -- ahead of it this year and pulling inventory ahead of schedule. What is your expectation on when that resolves? And are you still pulling inventory ahead of schedule for early next year?

Kelly, I'll start, and then I'll ask John to provide any additional comments. But we've certainly seen supply chain challenges going all the way to the start of the pandemic as demand across the U.S. continued to build. So we've done a terrific job. And I think our teams have shown great agility. They've adjusted to the marketplace to make sure that we've been able to meet the demand in our system. But we don't expect those supply chain challenges to go away as we go into the start of next year. And I think they'll dissipate over time. So we're doing our fair share to make sure that we're alleviating some of the congestion in the ports and making sure that we're unpacking containers and off-peak hours. We've utilized other ports across the country to try to relieve some of the congestion in L.A. Long Beach. But as John can attest, we know that we're going to still face some supply chain challenges as we go into 2022. There's still uncertainty as we think about supply from Asia as different factories from time to time are closed. And we're just going to have to show great flexibility and agility to provide the products that our guests are looking for and our system requires as we plan for the next fiscal year.

The next question is from Kate McShane with Goldman Sachs.

I wanted to ask a quick question on labor. It sounds from the prepared comments, that from a staffing level, you might be in a good place right now. Could you maybe comment on how you're feeling about your labor in the stores versus the DCs, and what you're seeing in the competitive environment when it comes to wages?

Yes. Kate, I think we feel really good about where we're at. And this really goes back a little bit like the supply chain thing. This is something we've been on top of for a very long time. We've made investing in our team an absolute priority. You've seen us do that for years now, investments in wage, investments in training, investments in benefits and investments in their safety over the past couple of years. And so that all starts and leads to retaining our current team. And from our perspective, that's the way we achieve our staffing goals, is retain the team we have. This year, particularly in our stores, we spent a lot of time, individual conversations with every team member about what's the hours they want and what can we do to cross-train you to get you the hours you need. And so that's been a huge success for our team and for us as we've looked at staffing. More recently, we've said we're investing in our DC team, our supply chain teams to grow the staffing, and we feel great about applicant flow. We feel great about the turnover of our team. It's below 2019 right now. So overall, we feel we're really well positioned for the fourth quarter, and more importantly, for beyond the fourth quarter, because labor is going to continue to be tight, and we'll continue to focus on retaining our existing team.

The next question is from Paul Lejuez with Citigroup.

I know you don't give guidance. Obviously, you didn't for third quarter gross margin. I'm sure you had some view on where it would shake out. So I'm kind of curious just how much of what we saw in the third quarter was unexpected to you and maybe tied to decisions that you made during the quarter, intra-quarter and how much was tied to higher-than-expected sales. And I just want to make sure I'm clear. I don't know if you'd answered the question earlier, was there an aspect of some costs getting pulled forward into 3Q out of 4Q?

I'll start. I think one of the positive surprises for us in Q3 was just the continued strength in traffic. To see our traffic grow by almost 13% was something that we actually didn't anticipate. We certainly were planning for a very strong quarter and continued market share gains. But to see the type of performance across our business, the strength of stores, comping up almost 10%, in a period when we were comping over a 9.9% growth rate in the prior year, to see our digital business grow by almost 30%, comping over 155% growth the year before, those numbers are actually stronger than we might have expected. To see the consistent growth across every one of our major merchandising categories, double-digit growth, just the way the guest was responding to our assortment, the value we were delivering, the great in-store experience, those were all really positive results in the quarter and actually exceeded our expectations when we were planning for Q3. Operator, we have time for 1 more question today.

Our last question is from Robbie Ohmes with Bank of America.

Brian, I -- kind of a follow-up to what you were just talking about. I wanted to ask you about grocery. I know that Target historically has said, we're not a full grocery shop. But I'm looking at the numbers you guys have been putting up in grocery, Food & Beverage, Beauty and Essentials. And can you maybe just speak to longer-term opportunity given the momentum you have there? And could you do more there? And maybe also, does it tie into -- does it drive general merchandise? Is it key to driving these digital numbers on very strong digital numbers? Any help to think about that would be great.

Robbie, why don't I start and let Christina add to my comments. But I think you've highlighted one of the real success stories within our business over the last few years. And the progress we've made from a Food & Beverage standpoint, the changes we've made in assortment, the market share gains that we've seen quarter after quarter now for multiple years, and the great response we're seeing to our own brands, and the strength and response we're seeing to Good & Gather is a real highlight for us. But as Christina can build in more detail, we're also seeing tremendous growth in our Beauty business, and ongoing strength in Household Essentials. And that's helping drive trips and leads to cross shopping across our multi-category portfolio. So the position we're in today in Food & Beverage is dramatically different from where we were 5 years ago. We're connecting with the guest. The quality, the assortment, the value we deliver is being really well received from the guest who shops our stores. And we're seeing accelerated growth with our Food & Beverage business from a digital standpoint.

I was just going to add a little bit of commentary to Brian's point about how Food & Beverage fits into the broad portfolio. The multi-category portfolio and the strength across the entirety is part of Target's sweet spot. So Food & Beverage is certainly an incredible proof point that's grown and driven share acceleration and traffic, but we rely on all of our categories to play that role at different times of year. And it's that combination that makes it so compelling whether it's back-to-school whether it's Halloween, whether it's Memorial Day or whether it's just your everyday trip when you need to pick up milk and bread. So this is part of the strategy that's accelerating the relevance for the consumer across the board.

Robbie, thank you. And that, operator, concludes our third quarter conference call. We look forward to talking to all of you as we go into 2022. So thank you.