Gap Back on Growth Trajectory

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Gap Inc. (GPS) witnessed considerable recovery in its comparable sales and total sales performance, driven by its relentless endeavors to keep itself on the growth trajectory. The company’s efforts have paid off well in an economy, which is looking for ways to withstand the financial turmoil that seems to have no end.

During the period from February to November this year, the company registered improvements in comparable sales in each month, except April. In the same period, comps growth touched a low of negative 2% and a high of positive 10%, thereby recording average growth of approximately 4.4%. In the first ten months of fiscal 2012, comps increased 4% in February, 8% in March, 2% in May, 10% in July, 9% in August, 6% in September, 4% in October and 3% in November, while it remained flat in June and declined 2% in April.

Monthly sales data for Gap also showed a decent performance. Between February and November 2012, the company registered a minimum year-over-year flat sales growth and a maximum growth of 12%, reflecting an average growth of approximately 6% for the period. The company recorded sales growth of 6% in February, 10% in March, flat in April, 4% in May, 2.2% in June, 12% in July, 9.1% in August, 7.4% in September, 8% in October and 3.4% in November.

Fiscal 2011 Sales: A Recap

In fiscal 2011, Gap reported a decline in comparable sales every month, except April and June. Lackluster sales in the North American region have continuously dragged down Gap’s comparable store sales throughout fiscal 2011. During the fiscal, the company reported a decline of 4% in comparable sales compared with an increase of 2% during the same period in fiscal 2010. Accordingly, Gap’s net sales inched down 1% to $14.55 billion from the prior-year sales of $14.66 billion.

Initiatives Taken to Rebound Top Line

In an effort to improve customer experience and enhance productivity per square footage, the company plans to strategically close and consolidate square footage at Gap and Old Navy brands. Gap intends to deliberately reduce its Gap North America store counts to 950 by the end of fiscal 2013, including 700 specialty stores and approximately 250 outlets.

Contrary to this, the company is planning aggressively to expand its international and franchise business. Moreover, it intends to increase Gap store count in China to approximately 45 during current fiscal.

In a drive to boost its international operations, Gap also consolidated its foreign business under one division in London. Lackluster sales in North America compelled the company to explore the overseas market. In order to counter the domestic market saturation, Gap is aiming to generate 30% of total sales from overseas operations and online business by fiscal 2013. To achieve this, Gap has opened stores in China, Italy and Australia, and has launched the e-commerce business in more than 90 markets. These moves are expected to further strengthen its top and bottom lines, moving forward.

Results So Far

Despite exhibiting consistently weak performances in all four quarters of fiscal 2011, the company reported a strong result for the first quarter of fiscal 2012 with net sales increasing 5.8%. The robust performance was primarily driven by a 4% growth in comparable store sales. As a result of the increased top line, the company’s earnings climbed 17.5% year over year to 40 cents per share.

During the second quarter of fiscal 2012, Gap’s net sales grew 5.6% year over year primarily driven by 4% increase in comparable store sales. Driven by increased sales, along with improved margins and lower share counts, the company’s earnings per share jumped 40% year over year to 49 cents from 35 cents in the prior-year quarter.

The company’s net sales for third-quarter increased 8.0% year over year primarily due to a growth of 6% in comparable store sales. Quarterly earnings came at 63 cents per share, up 66% from comparable quarter last year. Strong earnings performance was mainly driven by an increase in sales along with improved margins and a lower share count.

Bolstered by better-than-expected quarterly performance so far during fiscal 2012, the company raised its earnings guidance for the current fiscal to $2.20–$2.25 per share from $1.95–$2.00 projected earlier. Moreover, Gap is now anticipating a 12.0% rise in operating margin during fiscal 2012, up from the previous guidance of 11.0%.

Our Recommendation

We believe that the company’s long-term strategic moves along with disciplined cost management measures will not only provide financial flexibility, but also will help the company drive value proposition. Moreover, Gap’s globally recognized brands complement each other, enabling it to leverage its position in the sector.

Gap, which competes with American Eagle Outfitters Inc. (AEO) and The TJX Companies Inc. (TJX), currently holds a Zacks #2 Rank, which translates into a short-term Buy rating. Moreover, we are maintaining our long-term ‘Outperform’ recommendation on the stock.

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