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Would Amazon Really Buy Target?
By: The Motley Fool | December 14, 2018

A deal isn’t as crazy as it seems -- but it still has plenty of flaws.

Amazon (NASDAQ:AMZN) should buy Target (NYSE:TGT) to counter Walmart's (NYSE: WMT) growth, according to Loup Ventures analyst Gene Munster. Munster floated a similar idea last year, but his firm is now doubling down on the radical suggestion.

Loup Ventures admitted in a recent post that its prediction that Amazon would acquire Target in 2018 was wrong, but it still believes the combination "makes sense," primarily because Amazon "needs to acquire Target-like footprints (1,800 stores) in order to continue growing its retail presence."

Would Amazon really buy Target, which has a whopping enterprise value of nearly $50 billion? Or is this simply an analyst's pipe dream?

Why buying Target would make sense
Amazon's biggest rival in North America is Walmart, which owns over 5,300 retail stores in the United States and more than 400 stores in Canada. Walmart is turning that brick-and-mortar presence into a massive logistics and fulfillment network for online orders.

It's also expanding its e-commerce ecosystem and acquiring a long list of smaller retailers, including Jet.com, Shoes.com, Bonobos, and Bare Necessities. Those initiatives boosted Walmart's U.S. e-commerce revenues by 43% annually last quarter.

Meanwhile, Amazon's brick-and-mortar presence includes about 500 Whole Foods stores and 107 first-party stores, including Amazon Go stores, Amazon bookstores, pop-up stores, and its new Amazon 4-star store selling items that have at least that rating on its site. It also operates over 75 fulfillment centers across North America. That network pales in comparison to Walmart's brick-and-mortar footprint.

Therefore, acquiring Target -- which owns 1,850 stores and 39 distribution centers across the United States -- would help Amazon narrow the brick-and-mortar gap with Walmart. It could also launch Prime-exclusive deals for Target shoppers and use the stores as showcases for its hardware products. Buying Target would boost Amazon's annual revenues by nearly 30% (which would offset its decelerating sales growth).

The buyout would also resolve the pesky issue of Target leveraging clauses in long-term leases to block Amazon from installing delivery lockers and using Whole Foods locations to fulfill orders. Amazon would also get to add Target's smaller Indian business to its portfolio, which would complement its initiatives in the country and counter Walmart's recent takeover of Indian e-commerce giant Flipkart. As an added bonus, it could dump Alphabet's Google as Target's cloud services provider and tether the retailer to its own Amazon Web Services (AWS) platform.

Why buying Target wouldn't make sense
Amazon paid a 27% over-the-stock-price premium for Whole Foods. If Amazon paid that premium on Target's enterprise value, it would need to pay over $60 billion to close the deal, which would dwarf the $14 billion it paid for Whole Foods and represent its biggest-ever acquisition.

Amazon finished last quarter with $20.4 billion in cash and equivalents, and it generated $13.4 billion in free cash flow (FCF) over the past 12 months. This means Amazon would need to finance a large portion of the deal with debt, which isn't ideal since it's already shouldering $24.7 billion in long-term debt.

Buying Target would also drag down Amazon's margins. Here's how Target's operating margin of 4.6% last quarter -- a 40-basis-point drop from a year earlier -- compares to the operating margins of Amazon's core businesses:

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