0

1

Table of Contents

Executive Summary ................................................................................................ 2 Overview......................................................................................................... 2 History ............................................................................................................ 3 Future Plans ................................................................................................... 4 Accounting Policies ........................................................................................ 5

Industry Overview .................................................................................................. 6 Ratio Analysis.......................................................................................................... 8

Liquidity Ratios............................................................................................... 8 Profitability Ratios ....................................................................................... 11 Long-Term Solvency Ratios.......................................................................... 14 Cash Flow Adequacy Ratios......................................................................... 16 Market Strength Ratios................................................................................. 18

Comparative Industry Analysis........................................................................... 20 Discounted Cash Flows Analysis ................................................................. 20 Ratio Comparison......................................................................................... 25

Buy, Hold, Sell Analysis ....................................................................................... 28 Bibliography .......................................................................................................... 30

2

Executive Summary

Overview

Merchandise Offerings: Operating family-oriented department stores, Kohl’s offers “moderately priced apparel, footwear, and accessories for women, men and children; soft home products such as sheets and pillows; and housewares” (Kohl's Corporation 10K). Although some differentiations exist between regions, the merchandise assortment available across stores is relatively consistent. The categories of brands are numerous, including private, exclusive, “Only at Kohl’s,” and national varieties. The apparel, accessories, and household items appeal to the “classic, modern classic, and contemporary” customers. With only minimal changes from year to year, the distribution of merchandise across departments is illustrated in the chart to the right.

Company Stock Information:

Ticker Symbol (New York Stock Exchange): KSS Price: $46.32 52 Week High on 11/01/12 - $55.25 52 Week Low on 01/03/13 - $41.35 YTD change YTD %change +7.77% Source: Bloomberg on 03/24/13

Chairman & CEO Kevin Mansell

Locations: located in 49 states operates 1,127 stores total

Company Headquarters: N56 W17000 Ridgewood Drive Menomonee Falls, WI 53051 Phone: (262) 703-7000

Ending Date of Last FY: Saturday, February 2, 2013

*The year-end date used by Kohl’s is the Saturday closest to January 31.

Independent Auditors: Ernst & Young LLP Milwaukee, Wisconsin

Company Headquarters Menomonee Falls, WI

3

History

In 1962, Max Kohl opened up the first Kohl’s department store in Brookfield, Wisconsin. Originally positioned on the quality scale between high-end department stores and discounters, the store offered a wide range of products, including food, motor oil, clothes, and sporting equipment. By 1972, Kohl’s expanded to include five department stores. Then, in 1978, BATUS, Inc., the U.S. division of British American Tobacco, purchased an 80% stake in the Kohl’s Food and Department Stores. Soon BATUS took full control of the company, and the Kohl family withdrew from the company’s operations. After expanding Kohl’s to include 39 department stores, BATUS sold Kohl’s Food Stores to Great Atlantic and Pacific Tea Company (A&P). By the mid 1980s, BATUS began selling its retail holdings, as it could not fit Kohl’s “value-oriented” culture to BATUS’s other ventures. In 1986, a group of investors formed Kohl’s Corporation, which acquired Kohl’s Department Stores from BATUS, Inc. Throughout the late 1980s, Kohl’s experienced impressive growth; it ranked Wisconsin’s top 100 privately owned companies, purchased 26 Main Street stores from Federated Department Stores, and increased sales from $388 million in 1988 to $1 billion in 1992.

By 1990, Kohl’s Corporation had officially acquired all of BATUS’s retail holdings. Throughout the 1990s, Kohl’s continued to refine the store format to complete its transition away from electronics products, and the company opened three new distribution centers–adding to its primary center in Menomonee Falls, Wisconsin. By 2000, Kohl’s operated 298 stores in 25 states with 43,000 associates. Throughout the 2000s Kohl’s expanded to new locations, such as Arkansas, Oklahoma City, Austin, Fayetteville, and El Paso, and opened up a fifth distribution center in Texas. Kohl’s also upgraded its brands to include products from Jones Apparel Group, Inc. (the Nine & Co.® brand), Liz Claiborne, Inc. (the Villager brand) and OshKosh B’Gosh®. The 2000s also included technological advancements; Kohl’s entered the online market with the introduction of Kohls.com in 2001. Despite emerging technologies, Kohl’s experienced a decline in net income and same-store sales in 2003; even though revenues were up by 12.7%, net income fell for the first time in ten years, dropping 8.5% to $581 million, and same-store sales also fell 1.6%. Kohl’s recognized that its stores were overstocked and that shoppers could not easily navigate product search. Kohl’s also noted that the assortment in Misses’ and Women’s Departments did not satisfy customers’ desires. In addition, its marketing was not sufficiently unique in a highly promotional retail environment. Although the early 2000s were not as successful as previous years, 2005 and 2006 marked a gain in momentum back toward Kohl’s progress with its new slogan, “expect great things,” and its adherence to this statement in refining existing markets and expanding into new territories, such as Northwest America. Kohl’s strong history of progress and adaptation has helped them survive even through the Great Recession of 2007-2009. Kohl’s customer-oriented approach and relatively high-end department store brands will continue to serve the company’s competitive advantage in the industry.

Kohl’s brands

4

Future Plans

Kohl’s is moving toward expansion in the future. In July 2012, Kohl’s made an agreement with the Village of Menomonee Falls, Wisconsin, benefiting Kohl’s expansion as well as the community development of Wisconsin. Under the agreement, Kohl’s assumed ownership of approximately 100 acres of vacant land in the Woodland Prime office park in Menomonee Falls and also acquired a small office building adjacent to the vacant land. The land and office space provide the perfect opportunity for Kohl’s to sustain long-term business growth. In return for the building and land, Menomonee Falls will assume ownership of Kohl’s distribution center in the area. While the transaction closed this past fall, Kohl’s will have to continue its expansion efforts in the region to facilitate effective employment of the new collaboration. Kohl’s sees the future of its company including job expansion and the development of stable businesses in Wisconsin communities. We do not know exactly how Kohl’s will use this entire range of land, and Kohl’s is now primarily focusing on renovating stores, rather than expanding. This 100-acre land investment, however, suggests the possibility of Kohl’s expansion in the future. In addition to steadily renovating stores, Kohl’s continues to work on developing its E-Commerce presence. Kohl’s focus on improving E-Commerce appears as a step toward expansion through online markets. Since the Great Recession, Kohl’s has been working to improve its services and to take on more liabilities, signaling its confidence in future expansion. As Kohl’s continues to take on more debt, the company also appears to be targeting more growth.

E-Commerce business, launched 2001

5

Accounting Policies

Kohl’s follows United States generally accepted accounting principles (GAAP). Kohl’s uses first-in, first-out (FIFO) basis of accounting and the retain inventory method (RIM). Under RIM, the company valuates inventories at cost, and calculates resulting gross margins by applying a cost-to-retail value of the inventories. Throughout the process of RIM, management must make certain estimates that may potentially affect the ending inventory valuation and gross profit margin. In retail industries, markdowns are taken as a reduction of the retail value of inventories, and therefore RIM generally produces inventories that are valued at the lower of cost or market. After RIM is accounted, management estimates the need for an additional markdown reserve. The reserve is based on a review of historical clearance markdowns, current business trends, expected vendor funding, and discontinued merchandise categories. In addition to the markdown reserve, Kohl’s also accounts for a reserve for estimated inventory shrinkage between last physical inventory count and the date listed on the balance sheet. While shrinkage may be a result of theft, loss, or inaccurate records, Kohl’s prepares for these unpredictable occurrences with a thorough policy on the shrink reserve, which is based on sales, and actual shrink results from previous inventories, which is carried out in each of their stores, distribution centers, and E-Commerce fulfillment centers. Regarding potential impairments, Kohl’s holds a policy to record impairment loss. The recorded impairment loss equals the amount by which the carrying amount of the asset exceeds its fair value. Kohl’s estimates fair value as the net present value of cash flows expected to result from the use of and, eventually, the disposition of the assets. Kohl’s estimates projected cash flows throughout the remaining life of the asset. However, changes in competitive landscape and Kohl’s ability to effectively manage the operations of the store can impact the accuracy of the estimate. To date, Kohl’s has not historically experienced any significant impairment of long-lived assets. Kohl’s accounts for depreciation using straight-line depreciation. Also, property and equipment is recorded at cost, less accumulated depreciation. Kohl’s did not pay dividends prior to 2011, but as of February 22, 2012, Kohl’s pays $0.32 per share.

6

Industry Overview

Kohl’s, a Wisconsin corporation organized in 1988, owns and operates family-oriented department stores in 49 states. An S&P Fortune 500 company, Kohl’s is one of many retailers selling moderately priced apparel, footwear, accessories, and housewares. Before beginning an in-depth analysis of Kohl’s Corporation, it is important to provide an overview of the retail industry as a whole. Doing so will prove advantageous in the forthcoming evaluation of Kohl’s Corporation alongside its competitors.

In the United States alone, the retail sector includes over one million stores and accounts for four trillion dollars of revenue in fiscal year 2013. To allow for more a detailed analysis, the retail industry is broken down into subcategories including food and beverage retail, motor vehicle dealers, drug and cosmetic retail, and apparel and accessory retail. Apparel retail, the largest of these sectors, generates most of its profits from women’s clothing, which accounts for 53% of total revenues. Also of great importance is the retailers’ ability to keep up-to-date on the trends because “being behind on what’s hot can lead to losing sales, reputation, and leftover inventory” (“Retail…”). Kohl’s Corporation falls under the department stores category of retail, the main focus of this industry overview.

Department stores such as Kohl’s were hit especially hard during the Great Recession that began in December 2007 and ended in June 2009. During those 18 months, real GDP fell a whopping 8.9%, and the department store industry was adversely affected by the declines in household consumption.

Over the next five years, industry value added, which

measures the Department Stores industry’s contribution to the overall economy, is projected to decline at 0.2% annually. Concurrently, U.S. GDP is expected to increase 2.1% annually. When industry growth is less than GDP growth, as in this case, the industry is said to be in a declining stage of its life cycle. Causes for this disparity can largely be attributed to the Great Recession, after which many companies have failed to adapt to changes in the

retail environment. Indeed, post-recessionary trends suggest that consumers now compare prices with greater ease and take advantage of online retail alternatives.

As mentioned in the 2011 Kohl’s 10K report, “a

continued or incremental slowdown in the U.S. economy and the uncertain economic outlook could continue to adversely affect consumer spending habits.” Ramifications of these trends could include lower net sales and profits across the industry. Although Kohl’s is similar to its competitors (Macy’s, J.C. Penney, Sears, and Nordstrom) in that it offers

Kohl’s competitor: J.C. Penney

Kohl’s competitor: Sears

Kohl’s competitor: Nordstrom

7

only domestic retail locations, Kohl’s is the only retailer out of the five that does not provide international E-Commerce business services. Shipping only to domestically located destinations, Kohl’s is particularly vulnerable to deteriorations in the U.S. economy, perhaps more so than its competitors.

Along with its competitors, Kohl’s Corporation must be careful in growing its E-

Commerce business because the online medium (which is marked with shipping costs, lower margin merchandise, and expensive investments for growth) can unfavorably yield lower profits than can the retail stores. In an effort to counteract this trend, Kohl’s Corporation remains committed to growing its exclusive and private brand sales as a percentage of total sales. In 2011, the “penetration” increased approximately 240 basis points to 50.3% of total sales for 2011. Among the new brand launches were Jennifer Lopez in the women’s, accessories, and bath & bedding departments and Marc Anthony in the men’s department. Kohl’s has found great success with its ELLE and Simply Vera: Vera Wang brands and is the exclusive U.S. retailer of Rock & Republic apparel (launched in early 2012). To keep up with the competition, Kohl’s competitors are introducing their own top brands. J.C. Penney’s most recent turnaround, detailed in a recent NPR segment, includes a partnership with Canadian retailer Joe Fresh. Although Joe Fresh is not widely known in the U.S., “trendy fashions in bright colors and prints, at low prices” are now being shelved in 682 J.C. Penney stores nationwide as part of a four-year deal. Interestingly, this deal came at a time when J.C. Penney saw a 25% decline in sales in the last

fiscal year while implementing its “shops within its stores” strategy. The effects of new brand introductions in Kohl’s stores, and 100 “boutiques” within each J.C. Penney store, will likely receive close attention as retailers attempt to pull ahead in the post-recessionary era. Kohl’s competitor: Macy’s

8

Ratio Analysis

Liquidity Ratios Ratio Formula 2013 2012 2011 2010 2009 2008

Working Capital

Current Assets – Current Liabilities

2,184 2,185 2,861 3,030 1,884 1,952

Current Ratio

Current Assets / Current Liabilities

1.86 1.84 2.03 2.23 2.02 2.10

Acid Test Ratio

(Cash + ST Investments + Accounts Receivable) /

Current Liabilities

0.21 0.47 0.82 0.92 0.35 0.37

Receivables Turnover*

Net Sales / Average Accounts Receivable

N/A N/A N/A N/A N/A N/A

Days’ Sales Uncollected*

Days in Year / Receivables Turnover

N/A N/A N/A N/A N/A N/A

Inventory Turnover

COGS / Average Inventory 3.54 3.73 3.81 3.73 3.65 3.85

Days’ Inventory On Hand

Days in Year / Inventory Turnover

103.11 97.86 95.80 97.86 100.00 94.81

Payables Turnover

(COGS +/- Change in Inventory) / Average

Accounts Payable

10.11 9.94 9.86 10.44 11.97 12.13

Days’ Payable

Days in Year / Payables Turnover

36.70 36.61 36.90 34.85 30.41 30.01

Operating Cycle

Days’ Payable + Financing Period or Days’ Inventory

on Hand + Days’ Sales Uncollected

139.81 134.47 132.70 132.71 130.41 124.82

Financing Period

Days’ Inventory on Hand + Days’ Sales Uncollected –

Days’ Payables

66.41 61.25 58.90 63.01 69.59 64.80

*Credit card operations were sold and run as a private label brand by Chase. Chase handles the approvals and risk management and almost certainly has no recourse back to Kohl’s since it is handling all aspects of the operation. Beyond a private label credit card, there is very little reason for Kohl’s to have accounts receivable, and what very small amounts it does have are lumped in other current assets. Also note that Kohl’s is including its credit and debit card receivables from this program in its “cash” line on the balance sheet ($71 million as of the end of the year). The $1.6 billion we saw as accounts receivable in 2006 was related to the credit card program, which they sold for $1.6 billion.

9

In terms of working capital, current ratio, and acid test ratio, 2010 was a great year for Kohl’s. Working capital saw a large increase from $1,884 million in 2009 to $3,030 million in 2010. After 2010, working capital decreased, showing an overall decrease of $846 million from 2010 to 2013. The decrease in working capital is not a huge concern as far as the investment health of the company because from 2012 to 2013, working capital only decreased by $1 million. The current ratio had a very slight decrease from 2012 to 2013 as well, signaling that the financial situation of Kohl’s is stabilizing and likely to grow in the near future. Kohl’s current ratio remains higher than that of competitors J.C. Penney, Macy’s, and Sears but is less than Nordstrom’s. Like working capital and current ratio, the acid test ratio results were at the highest in 2010 with a ratio of .92. While the .1 decrease in acid test ratio from 2010 to 2011 was not alarming, the following two years, 2012 and 2013, experienced a 50% reduction each year, showing a steady decline in quick assets. Kohl’s quick asset ratio is less than that of its competitors J.C. Penney, Macy’s, Sears, and Nordstrom. There is no indication that Kohl’s will acquire any additional quick assets during the next fiscal year. The decreases in working capital, current ratio, and acid test ratio are due to Kohl’s increase in current liabilities. The increase in current liabilities is due to Kohl’s investments in IT and Internet services, such as POS and Ship-From-Store initiatives, as well as investments in renovating stores to change the physical layout of Kohl’s stores. Kohl’s increase in current liabilities signals a greater confidence in their ability to pay off liabilities and debt—and therefore a greater confidence to expand. Potential investors should be aware that Kohl’s does not have any accounts receivable, as noted above. The deal with Chase was advantageous to Kohl’s as Kohl’s, and therefore Chase’s, cardholders can receive exclusive benefits such as extra discounts, Account Ease bill-payment protection, online account management, no annual fee, and the opportunity to earn Most Valued Customer (MVC) status for additional benefits. The deal with Chase was made in April 2011 and appears to be a high contributor to Kohl’s successful fiscal year in 2011. Since 2011, however, Kohl’s liquidity appears to be declining slightly compared to the company’s more successful years. While this is not a barrier to the health of the company, the benefits of the rewards and incentives appear not as strong as the overall financial situation of the company and the department store retail industry. As of 2013, the 3.54 inventory turnover rate is the lowest it has been for the past five years. Currently, Kohl’s is taking longer to convert its inventory into cash, which means that Kohl’s is now stocking more merchandise than customers are actually buying. This claim is also supported by the increase in days’ inventory on hand, as 2013 is the highest days’ inventory on hand in the past five years: 103.11 days. Although payables turnover has increased since 2010, it has seen an overall decrease from 12.13 in fiscal year 2008 to 10.11 in fiscal year 2013. This overall decrease signifies that, in general, Kohl’s is currently paying off its liabilities more rapidly than in previous years. These values signify that Kohl’s is continuing to meet its obligations in order to pay off its liabilities. Kohl’s 2013 value for days’ payable shows that Kohl’s pays off its liabilities in 36.7 days. Although Kohl’s is taking slightly longer to pay its liabilities than in past years, the increase in days’ payable is not consequential as Kohl’s remains in an efficient position to meet its obligations.

10

At 139.81 days, Kohl’s 2013 operating cycle is the longest it has been for the past five years. The longer operating cycle decreases the amount of cash the company is able to take in during a period as a result of sales, as the operating cycle is the period starting from the material acquisition and ending with the collection of cash. The increase in operating cycle reflects Kohl’s decrease in inventory turnover, and therefore the increase in days’ sales on hand. While longer operating cycles signify that companies have less cash available to pay short-term needs, this does not appear to be a problem for Kohl’s; Kohl’s payables turnover reflects that the company is able to pay off its liabilities and meet its obligations. Similar to its operating cycle, Kohl’s financing period has also seen increases throughout the past five years. Other than the 69.59-day financing period of 2009, the financing period of 2013 is the highest in the past five years at 66.41 days. Although the increases in financing period also reflect the increase in days’ sales on hand, these results are not very impactful on the health of Kohl’s.

11

Profitability Ratios

Ratio Formula 2013 2012 2011 2010 2009 2008 Profit

Margin Net Income / Net

Sales 5.11% 6.21% 6.09% 5.66% 5.40% 6.58%

Gross Margin

(Net Sales – COGS) / Net Sales

36.26% 38.18% 38.24% 37.83% 36.95% 36.51%

SG&A Net Sales

Selling, General, & Administrative

Expenses / Net Sales

22.13% 22.56% 22.78% 23.00% 24.02% 22.44%

Asset Turnover

Net Sales / Average Total Assets

1.38 times

1.30 times

1.25 times

1.33 times

1.50 times

1.68 times

Return on Assets

Net Income / Average Total Assets

7.04% 8.06% 7.64% 7.53% 8.07% 11.06%

Return on Equity

(Net Income – Preferred Dividends) / Average S/H Equity

15.71% 16.26% 14.50% 13.58% 13.78% 18.52%

An analysis of profitability ratios provides great insight into how Kohl’s is performing,

particularly in regards to the company’s ability to generate earnings as compared to its expenses and other relevant costs incurred. In order to evaluate the company’s success in terms of profitability, we consider measures of profit margin, gross margin, SG&A to net sales, asset turnover, return on assets, and return on equity.

The first profitability ratio to analyze is the company’s return on common stockholder’s

equity (ROE). This ratio measures how well the company employs the stockholder’s equity to earn net income. Kohl’s Corporation has seen its return on equity slowly increasing in percentage from when it “troughed” in June 2009, the end of the Great Recession. For every dollar of shareholder equity book value, Kohl’s Corporation has increased its returns from 13.6 cents to 15.7 cents. These figures indicate that the company is doing a better job employing the stockholder’s equity to earn net income as compared to the industry average, which falls just short of 13%.

Return on assets and asset turnover are two more ratios that indicate company

profitability. Return on assets measures how well assets have been employed by the Kohl’s Corporation’s management to generate income, while asset turnover (a component of ROE) reflects a company’s ability to use its assets to generate sales. Essentially, these ratios tell us how effectively Kohl’s uses its resources to make money. As shown in the profitability ratios table above, Kohl’s corporation’s asset turnover was 1.68 times in 2008 and continued to decrease to 1.25 in 2011 before rebounding to 1.38 during 2012. Generally speaking, high asset turnover rates are favorable. An asset turnover of 1.38 (such as the data for fiscal year 2013) means that each dollar of assets produced $1.38 of net sales. This turnover rate is an improvement from the $1.25 of net sales per dollar of assets in fiscal year 2011. Kohl’s Corporation’s relatively stable (and slightly increasing) asset turnover rate is advantageous in maintaining future profitability.

12

The more frequently Kohl’s turns over its assets, the more frequently the company generates profits. Another important and closely related measure of analysis is Kohl’s Corporation’s return on assets, where we see the effects of assets on profits, not just revenues. The trend analysis graph below reflects a relatively parallel relationship between asset turnover and return on assets. Receiving 7 cents of revenue in fiscal year 2013 and 8 cents in the previous year (2012), these statistics indicate that Kohl’s receives higher returns than the average industry competitor. Indeed, the reported industry average was approximately 4.7 cents of revenue for each dollar of assets in 2011.

Selling, general, and administrative expenses (SG&A) are another component used to assess profitability. In terms of the DuPont Analysis, where profitability is multiplied by asset efficiency and financial leverage to determine the ROE, these SG&A expenses are accounted for in the profit margin. Computed as a percent of net sales, the SG&A to net sales ratio indicates how much of the company’s sales goes toward coverage of selling, general, and administrative expenses (including compensations, benefits, operating costs of retail, advertising expenses, and freight expenses). Indeed, although SG&A has increased over time due to store growth, increased advertising, and investments in technology and infrastructure related to the Kohl’s E-Commerce business, increasing net sales has compensated for these increased expenses. This relationship is shown by the mostly stable SG&A to net sales ratio value of about 22%. Kohl’s was able to generate enough sales to cover the increased expenses associated with its continued rollout of electronic signs and increased advertising expenses for the Jennifer Lopez and Marc Anthony brand launches.

The next ratio of analysis is Kohl’s Corporation’s profit margin, otherwise known as

return on sales. As evident in the profitability ratios table above, profit margins for Kohl’s have fluctuated over the six-year period beginning in 2008 and ending in 2013. Profit margins significantly declined from 6.58% to 5.40% during the year 2008, indicating that during the most severe portion of the Great Recession, Kohl’s was earning 5.4 cents for every dollar in sales. As the economic recovery phase began, Kohl’s increased its profit margin to 6.21% by the end of 2011. Over the six-year period, the gross margin ratio stayed relatively consistent, indicating that about 37% of sales were available to cover expenses and provide a profit. Thus, the cost of goods sold relative to sales had little to no influence on the fluctuating profit margin. This relationship

60

70

80

90

100

110

2008 2009 2010 2011 2012 2013

Tren

d

Trend Analysis

Profit Margin

Gross Margin

SG&A

Asset Turnover

Return on Assets

Return on Equity

13

can be more easily visualized when one observes the trend analysis graph above. The gross margin line remains relatively horizontal despite the fluctuations in profit margin.

Closely related to the minimal impact of cost of goods sold (relative to sales) on profit

margin is Kohl’s Corporation’s success in setting adequate prices for its merchandise. Indeed, as stated in Kohl’s 10K report, “inflation in merchandise, raw materials, fuel, and labor costs” was particularly high in the year 2011. Despite the increased price of cotton, a key raw material in much of the retailer’s merchandise, minimal deviations in profit margin occurred during these few years. One concern Kohl’s has expressed, however, is that future fluctuations in price and availability coupled with an inability to mitigate these cost increases (unless sufficiently offset with pricing actions) might cause a decrease in its profitability. Adequately pricing merchandise while considering the associated cost and consumer demand will be critical in maintaining profitability. As Kohl’s looks to the future and continues to offer more private and exclusive brands, which have a higher gross margin rate than do national brands, attention to gross margin ratios will maintain importance. Finally, it is important to keep in mind that Kohl’s includes distribution center costs in selling, general, and administrative expenses, unlike some other retailers who include the expenses in cost of goods sold. Because of this, Kohl’s gross margin and gross margin ratio may not be comparable to some competitors in the industry. To maintain consistency in costs of goods sold between the different ratios, distribution center costs were not subtracted from the selling, general, and administrative expenses and added to cost of goods sold. Doing so would have only decreased the value of SG&A to net sales ratio by about 0.5%.

14

Long-Term Solvency Ratios

Ratio Formula 2013 2012 2011 2010 2009 2008 Debt Ratio Total Liabilities / Total Assets 0.57 0.54 0.47 0.47 0.48 0.50

Equity Ratio Total Equity / Total Assets 0.43 0.46 0.53 0.53 0.52 0.50 Debt-to-Equity

Ratio Total Liabilities / Total Equity 1.30 1.17 0.89 0.90 0.94 1.00

Interest Coverage

Ratio

(Net Income + Interest Expense + Income Taxes) / Interest

Expense

5.74 7.22 6.88 6.18 6.01 8.47

The debt-to-equity ratio and interest coverage ratio provide a great understanding of the

long-term solvency position of Kohl’s. The company aims to keep its debt-to-equity ratio at around 1, which means that its debt holders and equity holders have an approximately equal claim on the company’s assets. Kohl’s had a ratio of 1 at the end of fiscal year 2008, and it gradually fell to .89 by January of 2011. A lower debt-to-equity ratio indicates lower risk because debt holders have fewer claims on the assets. The Great Recession was going on during this time period, and Kohl’s chose to support more of its assets with equity rather than debt because the state of the economy would not allow them to confidently take on any more liabilities. However, this ratio jumped from .89 to 1.17 by the end of fiscal year 2012, a 31.5% increase. At this point in time, the Great Recession was slowing down and the economy was doing much better. For this reason, Kohl’s gained back some confidence and opened forty new stores at the end of the 2011 fiscal year. Debt holders began to have more claims on the company’s assets than did equity holders, but Kohl’s felt confident enough to allow this to happen. Now Kohl’s is focusing on renovating current stores, again demonstrating confidence in long-term expansion. The debt-to-equity ratio’s significant increase from 2011 to 2012 and then again in 2013 is not necessarily a bad thing.

The interest coverage ratios for the various years also indicate that the Great Recession had a large impact on Kohl’s. At the end of fiscal year 2008, Kohl’s ratio of 8.47 meant that the company made $8.47 in earnings to cover each dollar of its interest payments. Typically firms like to keep their interest coverage ratios above 2.5, and some even aim to keep it above 5. With the start of the Great Depression, Kohl’s net income dropped approximately $200 million from 2008 to 2009, and thus income taxes dropped as well. The interest coverage ratio went down to 6.01, a 29% decrease. Net income and income taxes then steadily increased until the end of the 2012 fiscal year, and the interest expense did not change drastically during this time period. Therefore, the interest coverage ratio remained at around 6 or 7. This ratio dropped from 7.22 to 5.74 by the end of fiscal year 2013, explained by the drop in net income from $1,167 million to $986 million, a 15.5% decrease. The reason for this drop in net income is that Kohl’s resorted to price cuts to sell more merchandise, simultaneously reducing profitability. The bulk of the company’s sales came late in the last quarter of the 2013 fiscal year after Kohl’s had discounted much of its inventory, leading to a drop in the company’s net income (and income taxes) while interest expense remained relatively consistent. However, the company does not expect net

15

income to continue dropping in the future. Also, a ratio of 5.74 is not a bad ratio overall, just a little worse than the company’s ratio in other years.

Overall, the long-term solvency ratios point to a position of steadiness and expansion for Kohl’s. Its debt-to-equity ratio shows that after the Great Recession ended, Kohl’s gained more confidence in its long-term solvency. Its interest coverage ratio indicates that Kohl’s earns enough in net income to cover its interest payments each year, therefore demonstrating long-term strength.

16

Cash Flow Adequacy Ratios

Ratio Formula 2013 2012 2011 2010 2009 2008

Cash Flow Yield

Net Cash Flows from Operating Activities / Net

Income

1.28 1.84 1.57 2.35 1.91 1.15

Cash Flows to

Sales

Net Cash Flows from Operating Activities / Net

Sales

6.56% 11.4% 9.55% 13.31% 10.31% 7.39%

Cash Flows to Assets

Net Cash Flows from Operating Activities / Average Total Assets

9.04% 14.81% 11.98% 17.70% 15.41% 13.66%

Free Cash Flow

Net Cash Flow from Operating Activities –

Dividends – Net Capital Expenditures

$209 $1216 $955 $1611 $675 ($307)

Net Cash Flow from Operating Activities / (Net

Income + Depreciation)

0.70 1.10 0.94 1.38 1.11 0.84

Net Capital Expenditures / Depreciation

0.94 1.19 1.07 0.98 1.60 3.99

The cash flow ratios of Kohl’s provide great insight into how the company dealt with the

Great Recession in 2008 and how it is now looking to its future. For instance, the net cash flows from operating activities compared to net sales ratio and the net cash flows from operating activities compared to average total assets provide insight into how much cash Kohl’s operating activities are generating. Starting in 2008, both these ratios basically rose until this year, where they dropped back down to the single digit percentiles. The drops imply that Kohl’s is now generating less from operating activities. The amount of free cash flow (net cash flow from operating activities – dividends – net income) also paralleled this trend. This implies that during the recession, like most companies, Kohl’s was forced to convert more of its earnings into cash in order to cover costs, and it had to tighten its credit policy. Now that the economy is finally recovering, however, Kohl’s cash flow is dropping back to regular levels, suggesting greater flexibility.

The ratio comparing net cash flows from operating activities to the sum of net income

and depreciation provides another view into how much the company converts into cash each year through operating activities compared to its earnings and inevitable depreciation expense. The ratio was below 1 before the recession, rose during the recession, and has now dropped below 1 again in 2013. Note that the ratio in 2013 will probably become even lower in the future because the net income of 2013 was considerably lower than 2012; in this year, Kohl’s was forced to sell

17

most of its merchandise in the fourth quarter at a discount. This change in income was further explained in the long-term solvency ratio analysis section.

Before the recession, the cash flow was negative because Kohl’s capital expenditures

outweighed its operating activities. The drop in cash flow suggests, like the ratios, a greater focus on investing activities. Note that Kohl’s began to pay dividends in 2011, which decreased its cash flow. A ratio that really pinpoints the amount of investing Kohl’s has been doing is the capital expenditures to depreciation ratio. This ratio analyzes whether Kohl’s invests into its business more so than it depreciates. Thus, a ratio resulting in less than 1 is bad, implying that is it depreciating more than it is improving, and a ratio greater than 1 is good. Before the recession, Kohl’s had a ratio of almost 4. During the hard financial times, the ratio decreased to between 1 and 2 and only dropped below 1 once in 2010. After 2010, Kohl’s opened 40 new stores, which is reflected in a 2011 ratio over 1. Now, the ratio has again dropped below 1, but like that of 2010, both ratios are still extremely close to one. Kohl’s has now opened fewer stores than in the past and is focusing on renovation instead. This new focus explains a lower ratio for this current year, but there are still statistics that show Kohl’s might look to expansion soon.

These cash flows demonstrate that during the recession, the amount of cash generated

from operating activities increased for Kohl’s. Now that economic times are improving, however, this flow is decreasing again, implying more flexibility (credit policies is an example). The ratios also suggest that Kohl’s had a large investment rate before the recession and was forced to decrease that rate during the recession. Despite a somewhat poor financial year last year, Kohl’s is beginning to increase its investment rate and mimic its actions towards growth from before the Great Recession.

18

Market Strength Ratios

Ratio Formula 2013 2012 2011 2010 2009 2008

Earnings Per Share (EPS)

Net Income / Total Shares Outstanding

4.17 4.30 3.66 3.17 2.89 3.39

Price Earnings Per Share (P/E)

Market Price Per Share / Earnings Per Share

11.03 10.86 13.99 15.89 12.70 13.55

Dividends Yield Per Share

Dividends Per Share / Market Price Per Share

3.03% 2.61% 1.94% 0 0 0

The earnings per share ratio has steadily increased for Kohl’s since 2009. This increase

implies that Kohl’s has become more efficient in its production processes as its net income has increased over the years (with the exception of this past year, which is healthy for any business). Part of this efficiency comes from redesigning store layouts by placing customer service at the front of the store along with electronic signs. Both of these measures have helped decrease payroll costs. The concerning portion of this section is that the price earnings per share ratio has been decreasing over the past several years, which indicates that investors are projecting less growth for the company in the future. Again, this is concerning because Kohl’s has been focusing on increasing revenues by renovating and supporting online sales, the way that many modern shoppers like to shop. This technique allows them to reach a greater number of customers who may have geographical or time complications. However, the price to earnings per share ratio for Kohl’s (11.03) is lower than those of Macy’s (13.06) and Nordstrom (15.16). With a lower P/E ratio relative to its competitors, Kohl’s is seen as less expensive to invest in. The decreasing P/E ratio once again indicates that analysts seem to be projecting significantly lower growth for Kohl’s than it has had in the past few years. Yet, when the current economic conditions of the nation as well as the improvements that Kohl’s plans on making in the near future are taken into consideration, it seems that Kohl’s will in fact beat expectations in sales. Kohl’s plans to focus on its E-Commerce business, specifically in reducing the shipping costs by focusing on developing both in-store pickup and same-store shipping. Last year alone Kohl’s saw a 43% increase in E-Commerce sales. Although this large increase is partially due to the website being fairly new, we believe that the current economic conditions favoring middle-class individuals will favor online retailers and purchases of low- to medium-priced goods. We also see increased online revenues because Kohl’s is renovating the site to make it more user-friendly, thanks to its new partnership with Oracle. Kohl’s focus on getting back to a proper low price will increase revenues as it still attracts many shoppers with promotional sales. Kohl’s has also been cutting expenses in other areas, including renovating stores rather than building more new stores, as it has experienced less in-store purchase growth in the past years. Also, a new advertising campaign will focus on digital and broadcasting advertisement to modernize Kohl’s advertisements out of the newspapers in order to target middle-aged moms, who will be the largest commercial spenders as the economy begins to recover. Increased customer service and lower prices will attract mothers to make Kohl’s their choice to clothe their families.

The dividend yield per share ratio has been steadily increasing since Kohl’s declared

dividends for the first time in FY 2011. Annualized dividends have increased slightly each of the

19

past three years; they started at $1.00, increased to $1.28, and are currently $1.40. The increase in dividends paid out demonstrates that Kohl’s is a stable company and is confident that its future growth will continue to generate significant profits. The increase in dividends paid out also shows that Kohl’s has made a new commitment to reward its stockholders. Typically, companies that pay consistent dividends are companies that have steady cash flows, which we believe Kohl’s already has and will continue to enhance.

20

Comparative Industry Analysis

Discounted Cash Flows (DCF) Analysis *As a preliminary note to the DCF analysis, certain comparables and ratios may be slightly less valid in terms of analysis due to the current state of JC Penny and Sears. Both companies are experiencing difficult times with debt and nearly potential bankruptcy which affects particular measures in the analysis as you will see. However, these issues do not affect the actual intrinsic value per share. *The full Excel workbook for our DCF is available in the Final Project dropbox on Angel.

Kohl’s DCF Excel Workbook: Comparables

21

Kohl’s DCF Excel Workbook: Ratios

22

Kohl’s DCF Excel Workbook: Projections

Kohl’s DCF Excel Workbook: DCF Valuation

23

To begin, we will analyze the comparables of Kohl’s and its competitors. Kohl’s has a 2013 price to earnings per share ratio of 10.7 times, which is equivalent to that of Macy’s and smaller than only Nordstrom’s. The following year, the ratio is expected to decrease to 9.6 times, which is once again only smaller than that of Nordstrom’s. The decrease in this ratio could mean one of two things: either the price of the share would have decreased or the earnings per share increased. We believe that in Kohl’s case, the decrease has resulted in an increase in earnings per share. We feel this is the case because Kohl’s is currently investing in further IT systems, store renovations, and E-Commerce, which will all reduce expenses and improve efficiency. In terms of comparing it to its competitors, the high Price/EPS ratio indicates that analysts value Kohl’s potential growth greater than that of all competitors other than Nordstrom. However, Nordstrom tends to sell high-end clothing whereas Kohl’s targets middle-income families. Since these retailers serve two different client bases, we believe that Kohl’s will be able to experience extensive growth at the same time as Nordstrom. The ratios of J.C. Penney and Sears are very negative because their stock prices have recently taken significant hits due to debt issues and fear of potential growth prospects.

We would also like to discuss the growth rate of the EV/EBITDA ratio. Ideally, this ratio should be negative, indicating that the cash flow proxy EBITDA is growing faster than the enterprise value of the company. Fortunately, Kohl’s has an EV/EBITDA growth rate of -1.48%. However, this rate is not as negative as that of both its competitors Macy’s (-3.96%) and Nordstrom (-6.17%). We can rationalize the Nordstrom rate by stating that its growth rate is better mostly due to the fact that its products tend to be higher-margin items that require less capital to generate greater revenues, thus improving their EBITDA much faster than their EV. It is unfortunate to see that Kohl’s rate is worse than that of Macy’s, but we believe that the E-Commerce growth will outpace expectations. Since its inception in 2001, Kohl’s e-commerce business has grown at a compounded annual growth rate of more than 50%. In addition, with the new mobile POS system, Kohl’s will be able to better track its in-store inventory and shipping locations, which will allow for online orders to be picked up in-stores.

The EPS growth ratio is also a vital ratio that must be considered in the analysis of Kohl’s. Kohl’s has the lowest EPS growth rate other than that of Sears. This fact shows that, once again, analysts are not predicting very good growth for Kohl’s. Therefore, since analysts don’t project much growth for the company, now is a good time to buy if we believe they will outpace their expectations; the cost of the stock is lower now than it would be if analysts believed that the company had good growth prospects. We do believe that Kohl’s will increase its earnings per share with increased revenues due to the commitment to E-Commerce and the focus on renovating stores rather than opening new ones in order to cut down payroll expenses and to become more efficient.

We would also like to highlight the profit margin growth rate. Clearly this ratio should be positive in order to increase revenues in the future. Kohl’s has a profit margin growth rate of 4.21%, which is lower than only that of Macy’s, which was 9.47%. Note that this rate is greater than that of its wealthiest competitor Nordstrom, which shows that although Nordstrom is currently in a better financial state, Kohl’s is expected to increase its margins by adding new lines to target middle-class individuals. Recently, Kohl’s partnered with designer Catherine Malandrino to introduce the new collection DesigNation that will offer exclusive clothing lines

24

to Kohl’s customers from premier designers. The new collection will be a slightly higher-margin product than that of Kohl’s typical lines and will target the priority consumer—the middle-aged woman. As Kohl’s continues to grow its margins while selling at promotional prices, the value of the stock will increase.

A vital advantage that Kohl’s holds over its competitors is the weighted average cost of capital (WACC). WACC declares how expensive it is for a company to generate capital in order to expand the business. Kohl’s WACC is 6.78%, which is by far the lowest WACC out of all of its competitors. This supports our claim that as Kohl’s intends to become more efficient and sell higher-margined products, it will be able to generate capital fairly cheaply in order to reduce expenses and increase overall net income. The lower WACC is a distinct advantage that Kohl’s has over its competitors; at any opportunity for growth, Kohl’s will have an easier time getting access to capital to take advantage of these opportunities. Finally, the low WACC demonstrates that lenders find Kohl’s capital structure attractive and stable.

The earnings per share for Kohl’s is $4.30, which is higher than that of both of its top competitors, Macy’s ($3.51) and Nordstrom ($3.56). The fact that Kohl’s has greater earnings per share indicates that the company is more efficient in managing its expenses and revenues than are its competitors. We believe that this trend will continue, as Kohl’s will place an emphasis on renovating its stores and cutting costs.

Kohl’s revenue per share is also a valuable statistic, as it 84.6 times compared to that of Macy’s, which is 69.3 times. Although Sears is stated at 376 times, we believe that this fact is due to its erroneous data from recent struggles. Regardless, compared to the rest of its competitors, Kohl’s clearly generates more revenue per share. This fact, in addition to Kohl’s EPS, enforces that Kohl’s is typically more efficient than its competitors in managing expenses while still maintaining excellent revenue flows.

One of the most telling ratios in the DCF is the price to book value ratio. Kohl’s has a price to book value of 1.7 times compared to its competitors Nordstrom and Macy’s, which have price to book value ratios of 5.7 times and 2.8 times, respectively. Typically, this either means that the stock is undervalued or that there is something fundamentally wrong with the company. However, when analyzing the rest of the ratios and comparables, we feel that the price to book value shows that Kohl’s is undervalued, as most of the other statistics show future growth and profitability. Therefore, Kohl’s appears to be selling for a fairly cheap price at the moment, considering its potential growth.

Finally, we will discuss the actual discounted cash flows. To begin, our model utilized a discount rate of 6.78%, as this is supposed to be identical to WACC. Our first nine years of cash flows combine for a total present value of $8.52 billion with a terminal value of $12.65 billion. Therefore, we currently value Kohl’s as having a present value of $21.17 billion. We have derived an intrinsic value per diluted share of $75.24. Kohl’s trades at $46.32 per share (as of 3/24/13). Therefore, we see approximately a 29% upside to Kohl’s due to its future growth. Although this seems to be a rather large jump, we must look to the past five years: leading up to the Great Recession, Kohl’s was trading around $75. This fortifies our beliefs that Kohl’s currently has a great growth capacity in order to regain the status it once held.

25

Ratio Comparison

The chart to the right shows the changes in stock values over the past five years of Kohl’s and its competitors: Macy’s, J.C. Penney, Nordstrom, and Sears. Among the group, Kohl’s stock, remaining around the zero percentile, has performed the most consistently in the past five years. During the Great Recession, all companies’ percent changes in stock price were negative. Kohl’s was able to stay above the others due to its promotional sales techniques, which attracted low- and middle-income consumer groups.

The chart to the left shows that over

the past year, J.C. Penney and Sears have struggled with debt and identity issues and have thus consistently failed to meet analyst expectations. Therefore, their stock prices have decreased significantly. Macy’s and Nordstrom have experienced a slight increase in stock prices. Kohl’s stock, on the other hand, has remained fairly consistent and is currently priced below its current year average—Kohl’s has not recently experienced positive percent changes in stock price. This makes us believe it has extensive growth potential.

FY 2013 Ratio Kohl’s Sears J.C. Penney Macy’s Nordstrom

Inventory Turnover 3.54 3.68 3.39 3.17 5.93 Sales Per Store 16.32 12.94 16.91 29.39 56.59

Debt-to-Equity Ratio 1.30 6.02 2.11 2.72 3.39 Net Cash Flows from

Operating Activities / Net Sales

6.56% 0.76% 0.08% 7.56% 9.19%

Price Earnings Per Share (P/E)

11.03 N/A N/A 13.06 15.16

Kohl’s (Pink) and Competitors’ Change in Stock Value: Past 5 Years

Kohl’s (Pink) and Competitors’ Change in Stock Value: Past Year

Selected FY 2013 Ratios

26

Liquidity Comparative Analysis

While Kohl’s inventory turnover has decreased since 2008, Kohl’s inventory turnover ratio currently ranks in the middle of its competitors’. Kohl’s has consistently outperformed J.C. Penney and Macy’s. Currently Sears is converting their inventory into cash faster than Kohl’s, but for the past four years, Kohl’s has held higher inventory turnover rates than Sears. FY 2013 represents one dip in Kohl’s inventory turnover, but it does not appear as a continuing trend. Nordstrom has a consistently higher inventory turnover ratio than all of its department store competitors; however, Nordstrom serves a unique market, as it maintains higher-end brands and a higher-end clientele, which has served to differentiate it in the department store industry. Therefore, Kohl’s inventory turnover decrease does not seem alarming, as Kohl’s still maintains an inventory turnover ratio of 3.54, which is higher than that of most of its competitors.

Profitability Comparative Analysis

When analyzing Kohl’s Corporation’s average sales per store alongside its competitors, we see that Kohl’s generates significantly less sales. Nordstrom, a high-end department store offering name brands, generates over $50 million per store each year, the highest out of all competitors in this analysis. On the other end of the spectrum, Sears only generates about $13 million per store on average per year. With $16.32 million of sales per store, Kohl’s falls below three of it’s four competitors – J.C. Penney, Macy’s, and Nordstrom. We do not view this relatively smaller amount of sales per store to be of major concern because of the retailer’s moderately-priced current merchandise coupled with the expectations to introduce more exclusive brands in the future. Indeed, the Derek Lam collection will be introduced in Spring 2013 and Kohl’s third designer, Catherine Malandrino, will release a collection in the fall. Judging by past performance, and as stated on the most recent 10K report, “the success of Kohl’s Corporation’s recently-launched brands, as well as the growth of their other exclusive and private brands, continue to drive increased penetration of their exclusive and private brand sales as a percentage of total sales.” In 2011, this penetration increased 240 base points to 50.3% of total sales. We are confident that the introduction of these new, exclusive brands will set Kohl’s apart from its competitors and drive forthcoming sales. The lower sales dollars generated per store is closely related to Kohl’s strategy in terms of future growth. Rather than increasing expenses by opening new stores, Kohl’s has slowed its opening of new stores in recent years as it continues to remodel existing stores. Compressing the remodeling duration period to just 7 months on average, Kohl’s has minimized its cost and store disruptions in an effort to drive sales and sustain favorable customer experiences. Kohl’s asserts that its stores “have fewer departments than traditional, full-line department stores,” which in turn provides “a convenient shopping experience for an increasingly time-starved customer.” Thus, short-term remodels, attention to customer satisfaction, and an effort to drive down costs by limiting an overabundance of new stores imply that Kohl’s maintains a favorable position amongst its competitors. Finally, the lower sales per store ratio relative to its competitors could potentially be

27

offset by Kohl’s projections to grow its E-Commerce business. As emphasized in Kohl’s 10K report, the corporation is “aggressively working to improve the profitability of its E-Commerce business.” During the last quarter, Kohl’s proved to be successful in this regard, as E-commerce sales jumped 43%. This figure is much better than J.C. Penney’s 34% drop in online sales, and it is relatively comparable to Macy’s 48% increase in online sales during FY 2012. These E-Commerce figures suggest that, once again, Kohl’s maintains a fairly equitable, if not better, position relative to competitors.

Long-Term Solvency Comparative Analysis

In the previous analysis of only Kohl’s debt-to-equity ratio, the company seemed like it could potentially be in some trouble because its liabilities were increasing a lot faster than was its equity. However, in comparison to its competitors, its FY 2013 debt-to-equity ratio of 1.30 is very impressive and, in fact, was the closest to 1. The next best ratio was that of J.C. Penney: 2.11. J.C. Penney and all of Kohl’s other competitors have a large portion of their assets claimed by debt holders. Kohl’s, on the other hand, has done a much better job of maintaining a ratio close to 1, which means that debt holders and equity holders equally claim Kohl’s assets. Therefore, Kohl’s is currently in a better long-term solvency position than are its competitors.

Cash Flow Comparative Analysis

Compared to its competitors, Kohl’s ratio comparing net cash flow from operating activities to net sales seems to be doing quite well. Both Sears and J.C. Penney are experiencing some dramatic financial times, so they cannot be compared in the same context as Kohl’s, Macy’s and Nordstrom. Their ratios are so low because they are experiencing very dramatic decreases in cash flow from operating activities. Considering the three financially stable companies, however, Kohl’s seems to be comparably financially flexible. Like Nordstrom, Kohl’s was able to decrease its ratio between the years of 2012 and 2013. This slight decrease in generated cash implies that Kohl’s has been loosening up policies—such as credit policies—thus hinting that the company is taking more risks and looking to grow in the future. Macy’s, on the other hand, received more generated cash compared to its sales in 2013 compared to 2012. Although Macy’s technically had a better financial year than Kohl’s this past year, a statistic like this implies that Kohl’s can expect to experience greater success compared to Macy’s in the future, given that it is more financially flexible.

Market Strength Comparative Analysis

Kohl’s P/E is lower than that of its two competitors Macy’s and Nordstrom. This lower number implies that the market is currently predicting less growth from Kohl’s compared to its competitors. It is willing to pay less per dollar of earnings for Kohl’s in comparison to its competitors. However, we believe that Kohl’s earnings will outpace analysts’ estimates with expansion, particularly in E-Commerce. Considering these predictions, the current stock price of Kohl’s seems fairly cheap.

28

Buy, Hold, Sel l Analysis Kohl’s is a customer-oriented retail department store company that has great growth

potential. Over the past five years, Kohl’s has demonstrated consistency in generating revenue, even in harsh economic climates. After analyzing Kohl’s ratios and investment transactions, we view Kohl’s as positively moving towards growth.

One of the reasons that we believe Kohl’s is destined for growth is because Kohl’s has dedicated increased expenditures towards investing in E-Commerce. We have realized that Kohl’s E-Commerce has demonstrated accelerated Internet sales in the past few years after its inception in 2001. With the increase in online sales and the increased opportunities in online markets, Kohl’s continues to adapt to changes in the industry while remaining true to its customers’ values.

Kohl’s has also dedicated a great deal of time and resources toward developing its IT systems and store renovations. As previously mentioned, Kohl’s recognized a decreasing amount of traffic in its stores and thus a slight decrease in in-store sales. The decrease in in-store sales is an industry-wide trend. Unlike its competitors, Kohl’s is taking action to combat this decrease in in-store activity in several ways. Clearly its focus on E-Commerce development will recapture a greater number of customers that prefer to shop online. Additionally, in order to reduce expenses and improve its bottom line, Kohl’s has focused on renovating stores rather than building additional sites. The decrease in new-store construction is a clear indicator that Kohl’s has recognized the industry-wide trend of fewer in-store purchases. On that note, Kohl’s has also renovated a great number of stores (and will continue to do so in the future) to decrease their payroll expenses and improve store efficiency. The investments in IT have also served to revamp both E-Commerce and in-store sales and efficiency. Some of the IT improvements include a POS system and an enhanced inventory tracking system. All of these investments will help Kohl’s reduce its expenses and improve its margins. Both of these measures will help to boost Kohl’s stock price down the road.

When analyzing Kohl’s in the context of the industry at large, we find that the company has maintained a competitive edge amongst competitors. Indeed, Kohl’s plans on continuing its growth of private and exclusive (“Only at Kohl’s”) brands. Among these new brand launches are Jennifer Lopez, Marc Anthony, ELLE, Simply Vera: Vera Wang, and Rock & Republic. These higher-end brands, which Kohl’s hopes to increase as a percentage of total sales, will prove advantageous in expanding its customer base to slightly wealthier shoppers. Nevertheless, Kohl’s still offers its “moderately-priced” merchandise and remains keenly aware of the other key competitive factors of the retail industry—style, merchandise mix, quality service, and convenience.

A large component of Kohl’s competitive edge includes its appeal to price-sensitive

middle-class shoppers, specifically the middle-aged women within this group, usually mothers. This demographic allows Kohl’s to find that competitive edge among its competitors like Macy’s and Nordstrom, who both cater to a higher-income consumer group. Its discounts and sales

29

incentives not only maintain its focus on its customers’ financial state but also keep customers loyal to Kohl’s and peak the interests of new customers. Especially as the economy recovers, people’s budgets are becoming somewhat more flexible, and people are enjoying slightly greater disposable income. Thus, Kohl’s is likely to be attractive to customers who are looking for low- to middle-priced products. These customers will then be able to purchase products at Kohl’s while still possessing extra money for other products and services they desire. With this projected increase in sales, we anticipate that Kohl’s inventory turnover rate will increase and that Kohl’s will once again outperform Sears in inventory turnover.

A large portion of why we feel that Kohl’s is such a value buy at this time is due to the fact that the market is undervaluing Kohl’s. Compared to its competitors, Kohl’s is essentially predicted to have no growth in the coming years. However, when looking at several ratios and new initiatives, we feel that Kohl’s will significantly outpace analyst expectations and competitors. One of the most telling ratios is the price to earnings ratio. Kohl’s P/E is 11.03 times while its competitors Macy’s and Nordstrom have ratios of 13.06 times and 15.16 times, respectively. In the past years, Kohl’s has shown to be just as profitable as both of these companies. We find it rather surprising that investors value the potential growth of Macy’s and Nordstrom to be more than that of Kohl’s. The low value is confusing because we believe that with the current rebound of the economy, consumers will begin to have more disposable income. Yet, they will not want to spend all of their income on clothing. In doing so, they are likely to purchase low- to middle-priced clothing rather than higher-end clothing that its competitor Nordstrom offers. In addition, the EV/EBITDA ratio growth rate demonstrates that Kohl’s is generating cash flows faster than it is taking on debt, preferred stock, and increasing stock prices. Thus, we believe that with its reduction in expenses through investments in IT and store renovations, Kohl’s will continue to generate extensive cash flows, which will help their bottom line and boost its stock price. The low WACC also demonstrates that as Kohl’s intends to grow, it will be able to attain new capital for a fairly cheap price. Finally, we feel that Kohl’s low price to book value compared to that of its competitors is a rather telling indicator that Kohl’s is currently undervalued as it continues to compete and outpace its competitors on discounted products, which are crucial considering the current state of our economy.

Considering ratio analyses, the industry analysis, recent investment history, competitive advantages, DCF breakdown, economic conditions, and other telling factors, we recommend that investors buy stock in Kohl’s. In addition to the aforementioned analyses and components, by far the most telling factor as to why Kohl’s is a “must-buy” is the fact that Kohl’s is an undervalued stock. We derived Kohl’s intrinsic value per diluted share in our DCF model and found that Kohl’s current value strongly supports our recommendation to buy. The intrinsic value of $75.24 represents a 29% upward capacity for growth from the current share price. We believe that with its new initiatives and expense-cutting tactics, Kohl’s will be able to capitalize on its potential growth capacity, significantly raising the price of its current share. As investors, it is particularly advantageous to buy stock when undervalued, because as the company exceeds performance expectations and its price per share grows, investors will receive high returns on their investments. We certainly “expect great things” from Kohl’s.

30

Bibl iography "Analysis of Kohl’s Corporation Financial Statements." Bankingonbusiness. N.p., n.d. Web. 01 Apr. 2013. Goetz, Kaomi. "J.C. Penney Hopes Joe Fresh Partnership Will Reboot Sales With New

Customers." NPR. NPR, 20 Mar. 2013. Web. 01 Apr. 2013. "Investor Relations - SEC Filings." Investor Relations - SEC Filings. N.p., n.d. Web. 01 Apr. 2013. "JC Penney Says Turnaround Could Take Longer." CNBC.com. N.p., n.d. Web. 01 Apr. 2013. "Kohl's." Wikipedia. Wikimedia Foundation, 31 Mar. 2013. Web. 01 Apr. 2013. "Kohl's (KSS)." Property and Equipment for KOHLS CORPORATION (KSS). N.p., n.d. Web. 25 Mar. 2013. "Kohl's 4Q Net Income Drops 17 Pct, Profit Predictions for 1Q and 2013 Fall Short of Estimates." The Republic. N.p., n.d. Web. 14 Mar. 2013. "Kohl’s Careers." Kohl's Careers. N.p., n.d. Web. 25 Mar. 2013. "Kohl's Charge Card | Credit Card Reviews | Credit Karma." Credit Karma. N.p., n.d. Web. 20 Mar. 2013. Kohl's Corporation 10K. Rep. Washington, D.C.: United States Securities and Exchange Commission, n.d. Print. "Kohl's Debt to Equity Ratio:." Kohl's Debt to Equity Ratio (KSS). N.p., n.d. Web. 16 Mar. 2013. "Kohl's Department Stores Announces Plans to Support Long-Term Business Growth in Wisconsin." Kohl's Department Stores Announces Plans to Support Long-Term Business Growth in Wisconsin. N.p., n.d. Web. 25 Mar. 2013. "Press Room — Background — Kohl's Milestones." Press Room — Background — Kohl's Milestones. N.p., n.d. Web. 20 Mar. 2013. "Profitability Ratios." Definition. N.p., n.d. Web. 01 Apr. 2013. "Retail Industry Analysis 2013 – Cost & Trends." Retail Industry Analysis 2013. N.p., n.d.

Web. 01 Apr. 2013.

*We used Bloomberg for most of our financial data and Google Images for all pictures.