Don't Stop Living in the Red

Three-fourths of Target profits now from credit cards

Shabby Chic, indeed: The number of new debt-counseling clients seen by Lutheran Social Services of Minnesota with Target Visas is up 8.7 percent; their balances, 12 percent. According to a BusinessWeek analysis of Target's first-quarter 2006 earnings reports, three of every four dollars in profit made by the retailer now come from interest, late fees, over-balance fees and other earnings on its Visa cards. Some credit-watchers who parsed the numbers on the magazine's behalf say the fine print suggests that Target is more vulnerable than many card-issuers to the coming rise in defaults.

Higher interest rates and energy costs will squeeze some consumers; others will be hurt by a weaker housing market, which makes it harder to tap home equity to pay bills. The result, say experts, will be rising delinquencies and defaults for credit-card lenders.

That could be bad news for Target, one of the few retailers that underwrites Visa cards and keeps some of the risk on its books. "If the consumer weakens, Target will be hurt," says Allen Puwalski, senior financial analyst at the Center for Financial Research & Analysis in Rockville, Md. "And it will be hurt disproportionately to other lenders."

When the company added Target Visa to its regular department-store card in 2001, the idea was to attract high-credit-quality borrowers and expand the lending business. But only one of those things has happened. A close look at Target's $5.8 billion credit-card operation reveals a portfolio growing at four times the rate of other lenders and brimming with riskier borrowers -- a dangerous combination.

The story also suggests that the portion of Target's credit portfolio that's expanding the fastest are accounts with high balances. BusinessWeek's analysts speculate that the retailer may be raising credit limits to get existing customers to borrow more, while lowering underwriting standards for new customers--something Target denies doing.