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Retailers have fixed a major profit-crushing problem: Excess inventory

Retailers are getting a better grip on inventory and it's a big win for investors

After struggling with swelling stockpiles for much of 2022, retailers have finally cleaned up their bulging aisles.

Recent earnings reports from retail heavyweights Target (TGT), Walmart (WMT), Home Depot (HD), TJX Companies (TJX), and Ross Stores (ROST) showed marked improvement in inventory levels.

With their inventory levels under better control — requiring fewer profit-killing markdowns — retailers were able to show stronger profit margins even in the face of a sluggish economy.

Target's inventory levels plunged 16% from the prior year as the discounter cleared through excess inventory in the home goods and apparel departments. Gross profit margins expanded to 26.3% compared to 25.7% a year ago.

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The company's chief operating officer John Mulligan told analysts on a conference call that last year's "excess inventory" problem was now in the "rearview mirror."

TJX Companies — the owner of T.J.Maxx, Marshalls, and HomeGoods — also posted better margins as inventory levels declined 8% and cost pressures eased.

On a call with analysts, TJX CFO John Klinger said the off-price retailer is “strongly positioned” to take advantage of the current deal-hunting environment and feels “great” about current inventory levels.

Walmart's US inventory fell 9.4% in the first quarter from a year ago, but profit margins still declined. In part, that was because shoppers spent more on lower-margin groceries and less on big-ticket, higher-margin items like home goods and electronics.

The inventory plunges represent a dramatic reversal from less than a year ago.

That's when levels were at record highs after stores over-ordered and were sitting on more than $730 billion of merchandise that more cautious consumers weren’t interested in buying.

"We're way past the peak [on inventory]," Bernstein Analyst Aneesha Sherman told Yahoo! Finance Live. "Many leading brands and retailers have cleared it off their balance sheets."

Further improvements in supply chains — after the COVID-19 pandemic wreaked havoc on the flow of goods —have also helped retailers.

"Many of the pandemic-fueled supply chain issues have resolved, so retailers can again count on delivery accuracy," former Toys 'R' Us CEO Gerald Storch told Yahoo Finance Live.

Storch added, "This allows a more 'just-in-time' approach to function," which gives retailers the ability to keep their inventory lean and adapt to changing demands.

More retailers slated to report earnings this week, such as American Eagle Outfitters, Lowe's, and Big Lots, could also deliver welcomed inventory declines to investors.

So far, investors appear to have ignored the improvements in inventory levels — instead paying closer attention to what looks to be a slow start to the second quarter for retail.

Target, Walmart, and Foot Locker (FL) all served up cautious comments on the state of the consumer as they battle with elevated inflation.

The VanEck Retail ETF (RTH) has risen slightly in the past five trading sessions as retail earnings have trickled in. The S&P 500 is up 1.5% over that same stretch.

"There'll be winners and losers. Not all boats rise. And just because you have value attached to your name doesn't mean you'll win, either," Storch said.

But provided the economy doesn't fall off a cliff, lean inventories at retailers set the stage for more margin gains during the crucial upcoming back-to-school and holiday shopping seasons.

That may ultimately get the attention of skeptical investors.

Seana Smith is an anchor at Yahoo Finance. Follow Smith on Twitter @SeanaNSmith. Tips on deals, mergers, activist situations, or anything else? Email seanasmith@yahooinc.com.

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