As we approach the holiday shopping season, the key to selecting retail stocks to buy is to either focus on those businesses that have pricing power and don’t have to alter their approach over the holidays or those that are used to competing on low prices. The companies in between are likely to get squeezed. 

Meanwhile, the Q2  earnings season is pretty much in the books, with 84% of companies having already reported their financial results. Retail stocks generally did okay, if not spectacularly, in Q2. The more significant concern for investors is what lies ahead. 

In July, excluding gas and automobile sales, retail sales increased by just 0.7% over June’s results. Further, despite many retailers reporting better-than-expected results in the quarter, a large  number of companies have dialed back their expectations for the second half of 2022.  So investors have to pick truly excellent retail stocks to make profits. 

Without further ado, here are my three retail stocks to buy that (1) crushed Q2 earnings, (2) raised their guidance for Q3 and full-year 2022, and (3) generated at least $500 million of annualized free cash flow (FCF).

Williams-Sonoma (WSM)

Williams-Sonoma (NYSE:WSM) delivered stellar Q2 earnings on Aug. 24. Its results featured 11.3% same-store sales growth and a 19.4% YOY jump in its earnings per share (EPS), excluding certain items. The home furnishings retailer’s EPS was 63 cents better than analysts’ average estimate of $3.24, while its $1.95 billion revenue beat the mean outlook by $140 million. 

I’d say that’s “crushing it.”  As for guidance, here’s what CEO Laura Alber had to say about the rest of 2022:

“Given our strong performance through the first half of fiscal 2022 … we are reiterating our fiscal year 2022 and long-term financial outlook of mid-to-high single digit annual net revenue growth, increasing revenues to $10 billion by fiscal year 2024, and operating margins relatively in-line with our fiscal year 2021 operating margin.”

I’ve been a fan of Laura Alber’s for some time. In 2014, I called her one of the four best female CEOs in America. She’s lived up to and exceeded my expectations in the years since then.  

As for my third criterion, Williams-Sonoma’s trailing 12-month (TTM) FCF is $1.1 billion through Q1 , above  my $500 million minimum.

WSM is a long-term buy.

Walmart (WMT)

I don’t think there’s any question that, in the retail space, Walmart (NYSE:WMT) was the biggest surprise of the Q2 earnings season. 

The world’s largest retailer had lowered its forecast just weeks earlier but came through for shareholders when it mattered. Its Q2 same-store sales rose a solid 6.5%, with inflation boosting its revenues last quarter. CEO Doug McMillon noted that many more middle-and-higher-income  consumers are shopping at WMT due to rising prices elsewhere. 

Analysts’ average Q2 estimates were $150.81 billion of revenue and $1.62 of EPS for Q2. On the top line, WMT beat the mean estimate by $2.05 billion, while its EPS came in 15 cents above the average outlook.  

Can you say, “crushing it?”

As for the second half of the year, it maintained its guidance. Walmart expects net sales, excluding certain items, to climb 5.5% for all of 2023. But negative currency fluctuations should lower its sales by $2.1 billion. WMT expects its U.S. same-store sales  to climb 4% YOY during all of fiscal 2023. Lastly, its adjusted EPS would fall by 9% YOY at the midpoint of its guidance.

Walmart’s guidance was  pretty healthy compared to that of many other retailers out there.

As for free cash flow, Walmart increased its capital expenditures by more than $2.5 billion through the first six months of 2023. That reduced its FCF to $1.7 billion, down considerably from a year ago, but I am optimistic about its outlook nonetheless.

I believe Walmart will continue to under promise and overdeliver in the second half, given its low prices and strong private label program.

Walmart is a buy.

Dick’s Sporting Goods (DKS)

Early in 2022, I suggested that Dick’s Sporting Goods (NYSE:DKS) was an excellent buy heading into the teeth of winter. Since then, except for a significant summer swoon, DKS stock has performed reasonably well in a challenging retail environment. 

Dick’s reported its Q2 results on Aug. 23. They were a home run. 

On the top line, it reported revenues of $3.11 billion, $40 million higher than analysts’ average outlook. Compared to 2019, its sales were up 38%, a sign that its business model has thrived during the pandemic. On the bottom line, its EPS, excluding certain items, was $6.50, 27% lower than a year earlier.

Did it crush earnings? Not exactly, but it’s positioned nicely for the second half of the year, which includes the six-week, make-or-break holiday season. So DKS performed just fine in Q2. 

So fine that it raised its 2022 guidance 

It now expects its same-store sales to fall 4% at the midpoint of its guidance, one percentage point above its previous outlook. DKS predicts that its EPS will come in at $9.70 at the midpoint of its guidance, 65 cents higher than its prior guidance.

“Our second quarter performance demonstrates the strength of our core strategies and the foundational improvements we have made across our business over the past five years,” Executive Chairman Ed Stack stated in Dick’s earnings press release.

“In fact, we delivered approximately the same EBT in Q2 as we did in all of fiscal 2019. The state of our industry is strong, and we remain in a great lane. DICK’S is the clear market leader, and as a result of our transformation, we are well-positioned to extend our lead and deliver long-term sales and earnings growth.”

Its free cash flow in the 12 months that ended in June was $798.3 million .  

The best is yet to come for Dick’s shareholders.   

On the date of publication, Will Ashworth did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.

Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia.