Shoppers are still tight with the buck, but they're starting to buy clothes again -- and they're using their store cards -- according to Target Corp. (TGT), which reported earnings that easily beat expectations.

Target reported an 18.4% increase in profits for the third quarter over that period last year, even with a modest 1.4% increase in sales and a 1.6% drop in same-store sales. Net income of $436 million, or 58 cents per share, easily beat Wall Street's expectations of 50 cents per share.
The profits came from a combination of cost-cutting and better results in Target's credit-card operations, which showed a 72% increase in profits and lower delinquencies. Store traffic showed a moderate 0.6% increase during the quarter, but lower prices led to a a 2.2% drop in average transaction size, which pushed down total sales numbers, said CEO Gregg Steinhafel.

While there more shoppers are coming into stores, he said, they appear to be spending sparingly, using sales, coupons, rebates, private-label products, and other strategies to hold down their total receipts.

Low prices have taken a bite out of discounters' sales this quarter; Wal-Mart Stores (WMT) executives had a similar complaint when they reported earnings last week. Still, Wal-Mart and Target executives say they will continue their strategy of undercutting each other in a battle for market share among tight-fisted shoppers during the recession.

"I think the consumer is in a better place, and more confident," Steinhafel said. "We're getting some of those [shopping] trips back that we had lost. On the other hand, you're seing the consumer be more disciplined."

While shoppers are still cautious, the comeback of clothing sales accounted for most of the improvement in merchandise profit margins for the quarter, said Target executives. But even in that segment, shoppers are being selective, said Kathryn Tesija, executive VP of merchandising. Most of the sales strength in both apparel and home departments were basic and must-have items, she said, and less of the more discretionary "fashion" items.

"The big story in Q3 was apparel," Steinhafel said. Target has had strong sales in low-margin necessities such as food and health and beauty aids, but apparel and home -- the two areas where its "cheap-chic" had set it apart from Wal-Mart and other discounters -- had taken a beating in recent quarters.

The upturn in apparel sales was one encouraging sign in a mixed bag of retail sales statistics released yesterday by the U.S.

But Target's management is not ready to call it a recovery yet, and is planning conservatively for the fourth quarter, expecting sales to be "in the neighborhood of flat," according to Steinhafel. Sales in early November have been weaker than expected, he said, but he cautioned against using that as a gauge to call the holiday season yet.

"We have a lot of season ahead of us," said Steinhafel. "So much of the fourth quarter will be resolved in two days after Thanksgiving and three weeks before Christmas."

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