Narrow-Moat Nordstrom Retreats From Canada With a Focus on Profitability

Narrow-moat Nordstrom’s JWN 2022 fourth-quarter results were in line with our estimates (which had been lowered after its January update). However, the firm did deliver the surprising news that it will exit Canada, where it operates 13 stores (six full-line and seven Rack) and generates about 2.5% of its sales, within a few months. Nordstrom entered the nation in 2014 and had frequently highlighted Toronto as a key market but, likely due to a lack of scale and the pandemic, its operations were unprofitable. The firm expects one-time pretax charges of $300 million-$350 million due to closing costs and an investment write-down, but the move is expected to boost operating income by $35 million (or 7.5%) in 2023 relative to 2022.

Apart from the Canada news, Nordstrom’s quarterly report, as expected, reflected a promotional environment and subpar sales, especially at Rack. Sales fell 2.4% and 8.1% at its full- and off-price segments, respectively, versus our estimates of 1.5% and 8.0% declines. Nordstrom has been struggling to get the right assortment at Rack, but intends significant changes by midyear. The firm has shown better progress with cost control in its supply chain and store operations, leading to an operating margin of 4.5% in the quarter, better than our 4% forecast.

Excluding the Canada impact, Nordstrom’s 2023 guidance implies a sales decline of 1.5%-3.5%, short of our positive 0.7% estimate. However, its adjusted operating margin and EPS ranges of 3.7%-4.2% and $1.80-$2.20, respectively, are slightly above our (modest) expectations of 3.4% and $1.65 due to the cost control gains. Given this outlook, we do not expect to change our $40 fair value estimate, leaving shares undervalued. While Nordstrom has problems, it is addressing them through merchandising changes, cost cuts, and new management. One bright spot is that, in contrast to some peers that are struggling with excess merchandise, it entered 2023 with inventories down 15% from 2022.