Last week I was wondering what ever happened to Gap Inc (NYSE:GPS). In the 1990s, Gap Inc. was a clothing staple of a lot of Americans — even where I shopped for the basics — jeans and T-shirts. It was ordinary clothing but with just enough style that I didn’t look like a complete fool, although my friends will tend to differ on that assertion.
Gap Inc was great at marketing its product, being consistent, and for generating solid cash flow. Then something changed. I’m not sure exactly when that happened, but I think it was somewhere around 10 years ago.
I think a few things happened to Gap Inc. I think it cannibalized itself with its sister brands of Banana Republic and Old Navy. There’s always a risk when you are a mid-to-high-end clothing chain and you launch a low-cost brand, like Old Navy. Shoppers may abandon your higher-end line to save money.
Then competition heated up. There are so many clothing retailers. Other names started appearing in malls beside Gap Inc, and they seemed more hip, and aimed at the same younger crowd that Gap Inc had traditionally enjoyed.
Other back-to-basics brands started expanding, like The Buckle Inc (NYSE:BKE), which also carried no-frills, reasonably priced clothing. Gap Inc just got lost in the shuffle as one hot chain after another came (and sometimes went).
Gap Inc Not Any More Fashionable After Earnings
Today, GPS stock just muddles along. It isn’t doing anything terribly noticeable, generates enough cash to pay a 2.9% dividend, but isn’t really growing, and hasn’t for some time. First-quarter earnings tell the tale in a nutshell.
Earnings came in at $239 million, or 56 cents per share, which is certainly nothing to scoff at, and full-year guidance of $2.75 to $2.80 per share means GPS will generate about a billion dollars in profit, this year. So that’s something to be proud of. The company tossed shareholders $329 million in buybacks and dividends, as well.
Alas, same-store sales were down 4%, which is worse than last year’s 1% decline. The Gap brand itself saw a 10% decline vs. 5% last year. Banana Republic experienced an 8% decline vs. a 1% decline last year. Only Old Navy increased same-store sales, by 3%, improving on last year’s 1% increase.
The slowdown in sales harmed margins, with operating margins falling to 10.6% from 11.7%. This all trickles down to cash flow, which was $61 million — down massively from $351 million a year ago.
Total sales fell 3% to $3.66 billion, of which 77% came from the US, and about 40% came from Old Navy. So, as I feared, it’s the low-cost chain that’s winning the day.
On the balance sheet, GPS stock is still in good shape, with $1.23 billion in cash and only $1.33 billion in debt.
Overall, though, Gap stock is trading at 14x FY15 estimates. Earnings are expected to be down slightly year-over-year, before rebounding 13% next year and improving by 9% annually after that.
I’m just not excited about a moribund brand that is muddling along and trading at a higher multiple than it should. If you want a dividend, you can find higher dividends with a safer profile elsewhere. Sell Gap stock now.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance. He is the manager of the forthcoming Liberty Portfolio, has 20 years’ worth of experience in the stock market and has written more than 1,200 articles on investing. As of this writing, he did not hold a position in any of the aforementioned securities. This article is for informational purposes only and does not constitute an offer or solicitation to buy or sell shares or securities in any company mentioned. This article does not constitute investment advice. The author has not received compensation, directly or indirectly, current or prospective, from any known issuer, underwriter, or dealer in conjunction with the writing of this article. Do your own due diligence and confer with your financial advisor before buying or selling any security. Lawrence can be reached at TheLibertyPortfolio@gmail.com.
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