Inventories rose 48% on-year, worse than the 40% increase Kohl’s saw in the first quarter. At least part of that was intentional as the company placed orders earlier to get in front of supply chain delays and loaded up on new Sephora store merchandise. Even excluding those factors, though, Kohl’s had roughly 27% more merchandise than it did a year earlier.

Unfortunately for Kohl’s, today’s economic situation presents a kind of limbo for its business. Its core middle-income consumers are pulling back on shopping for clothes and other discretionary items, while high-income spenders are feeling flush enough that they aren’t downgrading. In July, for example, same-store foot traffic declined 13% at Kohl’s compared with 2019, while it increased at least 10% at both Saks Fifth Avenue and Neiman Marcus, according to data from Placer.ai. Kohl’s Chief Executive Officer

Michelle Gass

said on the company’s earnings call Thursday that customers are making fewer shopping trips, spending less per transaction and shifting toward value-oriented private-label brands.

The company doesn’t see the situation improving soon. Kohl’s downgraded its full year guidance Thursday: It now expects revenue to decline by as much as 6%, worse than its flat-to-up-1% forecast from a quarter earlier. It also more than halved its earnings a share expectations to a range of $2.80 to $3.20.

Given Kohl’s history of being a magnet for activist investors, it isn’t surprising that the company wants to keep shareholders happy. Kohl’s on Thursday started a $500 million accelerated share repurchase program. Combined with dividends, Kohl’s expects to return $900 million to shareholders this year. This is while it still earmarks a hefty $825 million toward capital expenditures, which include new Sephora openings within Kohl’s locations and other store refreshes.

It absolutely makes sense for Kohl’s to invest in its stores, particularly Sephora. The newer stores with Sephora in-store shops are outperforming the average store, according to Kohl’s, adding that the makeup chain is attracting younger customers that shop more frequently. More promisingly, the outperformance is accelerating: The first 200 Kohl’s stores that added Sephora installations last year initially saw sales outperform other stores by a mid-single digit percentage. Now, those stores are outperforming by a high-single digit percentage. The company eventually plans to have Sephora presence in all of its stores.

The generous shareholder returns, though, seem less prudent. Kohl’s depressed share prices—down 34% year to date—make it an attractive time for share buybacks, but the move could come back to bite if the retail environment turns worse than expected. Already, Kohl’s cash cushion is the lowest since 2005 and analysts are expecting free cash flow to shrink to $327 million this fiscal year, the lowest since 2007. Kohl’s has long prided itself on having a strong balance sheet; losing that edge could push it out of favor.

Being too eager to please could just end up spreading Kohl’s too thin. 

Write to Jinjoo Lee at jinjoo.lee@wsj.com