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Patricio Kehoe
Patricio Kehoe
Articles (164) 

Why Getting the Fashion Right Is Important for Apparel Retailers

October 16, 2013 | About:

Despite a recovering U.S. economy, teenage unemployment remains high. Teen apparel retailers such as Abercrombie & Fitch Co. (ANF) and Aeropostale Inc. (ARO) seek to continue growing in this unfavorable macroeconomic scenario, yet they face fierce competition. As of late, both these firms have had a hard time connecting with customers due to merchandising missteps, which have placed their business in a tough spot.

Discount Retailer with Poor Prospects

The mall-based apparel retailer Aeropostale caters fashion basics at low prices for teenagers and children. At its 995 company own stores, the firm provides merchandise for 14 to 17-year-olds, which constitute the company’s core customers. After becoming one of the most shopped brands in the U.S., however, Aeropostale fell out of favor when its products failed to meet fashion trends. John Hussman of Hussman Economtrics Advisors saw this negative trend and decided to sell his entire stake in the firm earlier this year.

With the teen apparel industry suffering from reduced traffic and very aggressive discounting, Aeropostale has been forced into a discounting cycle. Despite being historically more promotional than its competitors, the firm reduce prices further in order to keep up with the competition. However, this business strategy has resulted in reduced margins for the company. Offering better merchandise for similar prices, fast growing fashion retailers such as H&M and Forever 21 have been stealing market share from Aeropostale for years now. Hence, the main issue the firm faces is tricky fashion trends. As long as the business strategy does not get the fashion right, it will be increasingly hard to expand its customer base, or even sustain current sales levels.

Apart from the merchandising strategy difficulties, the firm faces stock price has been on the down. Trading at 63.5 times its trailing earnings, the stock is only available for those willing to pay a huge price premium relative to the industry average. On the upside, the low-price retailer can benefit from targeting unemployed teens seeking to stretch their budgets, and has plans to speed up its supply chain. However, until Aeropostale is once again able to connect with its trend-oriented consumers and improves merchandise, sales will continue to decline. Hence, I feel very pessimistic about this stock’s future.

Premium Pricing and Lack of Strategy

Abercrombie & Fitch is a casual sportswear apparel retailer, which also sells personal care products and accessories. The specialty retailer channels its merchandise through stores and direct-to-consumer operations, and targets primarily brand-conscious youths. Despite becoming highly popular over the years, the firm’s Ivy League style is no longer resonating with customers, generating lower sales expectations in the near future.

Apart from its fashion missteps, the firm’s pricing strategy is very risky. Premium pricing of low sought-after merchandise, in the midst of a recovering economy, only opens the path for competitors to steal market share. With these high prices, the double-digit unemployment rate among 16 to 19-year-olds will surely weight on short-term demand.

Although A&F customers are considered to be brand loyal, the company is losing its reputation and its name no longer carries as much weight as it used to among teens. Apparently, the firm tested its merchandise resiliency through fashion cycles once too often. Apart from having fallen out of favor with fashion-oriented teens, the company’s international expansion came at a very poor moment. With Europe suffering from an unfavorable macroeconomic outlook, A&F will be facing slow productivity improvement because of the limited growth of its international flagship locations.

In the longer term, the outlook for the apparel retailer is yet unclear, as a strategic evaluation is currently underway. This evaluation will take all facets of the business into consideration, in an attempt to regain growth and improve profitability. Daniel Loeb of Third Point and Ray Dalio of Bridgewater Associates, however, do not seem to have much faith in the outcome and sold their entire holdings in the company. The upside to this stock is the price discount it offers, relative to the industry average. Apart from that, I feel bearish about this company’s future.

Failing to Deliver Fashion

Aeropostale and A&F will not be increasing their profitability anytime soon unless they manage to resonate with their fashion-trend oriented teenage customers. The competition from rapidly growing fast-fashion retailers is fierce and has slowly been eating away at both firm’s market share. Although I feel bearish about both companies, I must say that Abercrombie has a better outlook since it enjoys larger margins. The most important factor in the long term, however, will be the outcome of A&F’s strategic evaluation.

Disclosure: Patricio Kehoe holds no position in any stocks mentioned.

About the author:

Patricio Kehoe
A fundamental analyst at Lone Tree Analytics

Rating: 3.8/5 (6 votes)


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