Equity Research Note

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					                  Louis Wilson Fund - Equity Research
                                                November 21, 2005

Kohl’s- KSS                       Analysts: Riley Hoekenschnieder & Justin Leblanc
PRICE: $49.08                                     52 Week Range: $58.9- $43.63
Company Rating: BUY
Reason for Stock Purchase:
                   Purchase:       $ 49                            Holding Period
             Target sell price:    $ 82                            Basis for Target Price: Ouma

Company Profile:

                Kohl’s currently operates more than 670 “off-the-mall” department stores in the United States.
                 These stores offer moderately priced merchandise ranging from apparel, shoes, accessories and
                 housewares. With recognizable brand names, they target middle-income customers.
                Kohl’s 5-year growth plan includes adding 500 stores and doubling its revenue to around $24
                 billion. As Kohl’s store base gets bigger, its long-term growth rate will slow and mimic the
                 growth of more mature retailers like target and J.C. Penney’s. Due to their less costly “big-box”
                 off mall concept, they are finding that they have healthy operating margins and solid returns on
                 invested capital.
                Driven by new store openings and respectable increases in same-store sales, Kohl’s revenue has
                 grown an average of 22% annually over the past decade. They have implemented a very lucrative
                 form of expanding, by opening stores in groups based on their region. They have been able to
                 save on such things as advertisement and distribution.
                Kohl’s has had 20% average annual store growth over the past five years.
                J.C. Penney has been putting forth great efforts in orders to reconnect with its consumers after a
                 five year turnaround effort and is planning to open about 10 off-the-mall stores. Wal-Mart is still
                 coming on strong in the apparel retail world. Target may also pose a threat.
                Kohl’s may also be seeing more competition coming from Linens’n’Things and Bed Bath and
                 Beyond which may cause problems as almost 20% of sales come from Kohl’s home products.
                Kohl’s falls between discount stores and department stores. They carry quality merchandise at a
                 discounted price. With expansion of their stores still going on in the West, Kohl’s is in a “rapid
                 growth phase.” They are managing to keep expenses down with their regional openings.
                 Eventually new store openings will slow causing sales growth to slowly decline.
                Management: Laurence Montgomery is has been the CEO since 1999. His compensation in 2003
                 was just over $1 million, which seams reasonable, and he owns less than 1% of the company’s
                 stock. Important to note that in 2003 when the company had disappointing performance, no
                 bonuses were paid to senior management.


                Sales growth will slow over the next five years to somewhere around 12%, down from the 21%
                 that has been maintained over the past five years. Gross margins are expected to stay around
                 35%, while operating margins will remain steady at 11%-12%, as promotional pricing offsets
                 improving economies of scale. Free cash flow should continue to improve. (Morningstar)
                Kohl’s third quarter ended October 29, with an increase in net income by 15.2% year-over-year to
                 $155.1 million.
                Total sales increased by 13.7% to $3.1 billion, the value of the average transaction was 1%.
                Revenues were also higher than estimated probably largely due to stronger sales in October.
                 Operating margin increased to 8.6%.
             EBIT in the last fiscal year covered interest expense by about 20-times, which is better than the
              five-year average of 16-times.
             The company’s trailing 12-month return on equity of 16% is below the company’s five-year
              annual average, but above those of such competitors as Federated and J.C. Penney.
             The company does not pay any dividend at this time, and management has said that they have no
              plans to initiate one.
             Margins took a bad turn in 2003 after miscalculations on inventories and had to resort to deeper
              discounts- however margins bounced back in 2004- Gross margin rose 287 bases points, the
              fourth consecutive gain. Kohl’s has since taken steps to improve inventory management and
              control costs, and with possible merchandising improvements we may see a boost in same store
             Kohl’s PE ratio is 24.3, which is average against its competitors and higher compared to LWF.
             The PE Range for Bloomberg and the Value Line had to be slightly altered in my Ouma Model to
              reach a more reasonable buy price. I recommend that with a PE of 15 (seems to be a happy
              medium), our target buy price should be around $58.
             This company fits in with the LWF strategies and would be a strong company for us to hold.
              They have strong management- which even through tough times has been able to bounce back; is
              building a strong franchise and has taken a significant portion of market share away from its
              competitors; has a growing market, which it has been penetrating year by year; has high rates of
              return and has demonstrated consistent and growing earning power; and is a relatively strong
              financial condition with its low use of debt and marketing strategies. This stock is also not over
              valued but shows good potential for growth.

Risks – Why they may not succeed:

             One of the greatest risks that Kohl’s faces at this time is loosing their niche in the market of
              quality discount merchandise.
             If plans for expansion change, for such reasons as greater-than-anticipated competitive pressure
              on its margins, we may also see a significant drop in their stock.
             Its value relies heavily on cash flows from stores that don’t yet exist.
             Some traditional department store chains have copied elements of the firm’s strategy in an effort
              to regain lost share.
             Weaknesses in demand for moderate apparel.
             Significant apparel price deflation.

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