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Investment Overview for Abercrombie & Fitch Co. (NYSE:ANF)
- Hollister Stores Revenue per Square Foot: Hollister stores revenue per square foot increased by a massive 21% in 2011 to reach $450 and further rose to $475 in 2012. This increase was primarily due to strong performance of Hollister in international markets. The figure however decline substantially to $406 in 2013 and $356 on 2014, as a fair portion of consumer spending on basic apparel shifted to fast fashion brands such as Zara and Forever 21. Moreover, several unwanted controversies damaged the company's brand image, which had some impact on its sales. Going forward, we expect Hollister stores to continue struggling this year as nothing much has changed in terms of apparel spending trends. Although the company is trying to phase out its logo business to make room for fashion-forward inventory, it will weigh on its brand's growth in the near term. After 2015, we expect Hollister stores' revenue per square feet to increase gradually and reach $366 by the end of our forecast period. The retailer's efforts to turnaround its product portfolio should help it attract customers in the long run. However, if the prevailing weak macro-economic conditions in Europe threaten to put a break on Hollister's international growth and its re-fabricated merchandise portfolio fails to entice customers, significant growth in this metric will become extremely unlikely. If the brands' revenue per square foot continues to decline in the near term reaching $333 by the end of the Trefis forecast period, there could be 5% downside to our price estimate. Conversely, if Hollister gets its products right, which brings customers back in the U.S. and Europe, pushing revenue per square feet to $430 towards towards the end of the Trefis forecast period, there could be about 5% upside to our price estimate for Abercrombie & Fitch.
- Hollister Stores EBITDA Margin: Hollister Stores' EBITDA Margins declined drastically in 2011 due to a sudden increase in cotton costs, but recovered in 2012 as prices fell. In 2013, margins once again fell to 23.4% driven by heavy traffic driving promotional activities and settled at 22.6% in 2014. Going forward, we expect margins to decline as the company continues to usher heavy markdowns and its store consolidation strategy comes to a halt. However, if Hollister's revamped merchandise portfolio allows it to operate with fewer discounts and helps improve margins to 26% by the end of the Trefis forecast period, there can be about 5% upside to our price estimate. Conversely, if margins plummet to 20% instead, there can be about 5% downside to our price estimate for the company.
Abercrombie & Fitch is a specialty retailer that operates stores and websites selling casual sportswear apparel, including knitted and woven shirts, graphic t-shirts, fleece, jeans and woven pants, shorts, sweaters, outerwear, personal care products, and accessories for men, women and kids under the Abercrombie & Fitch, Abercrombie kids and Hollister brands. The company used to operate stores and a website offering bras, underwear, personal care products, sleepwear and at home products for women under the Gilly Hicks brand. However, it has recently discontinued this brand.
Higher number of Hollister stores than Abercrombie & Fitch stores
Abercrombie & Fitch operates just 277 namesake stores globally, while it has over 577 Hollister stores, which are comparatively smaller in size. However, Abercrombie & Fitch stores generate better revenue per square feet as compared to Hollister, because it is a relatively expensive brand. Nevertheless, having a significantly higher store count, Hollister contributes a higher value to the company.
Rapidly growing direct to consumer business
Internet revenues increased from $310 million in 2008 to $701 million in 2012, and reached an estimated $850 million in 2014. The aggressive growth is expected to continue going ahead. With the anticipated growth in online apparel sales in the U.S., Abercrombie's plans to become a $1 billion e-commerce brand and the development of e-commerce channels and omni-channel portfolio remains a high priority for the company.
Consolidation of Abercrombie & Fitch stores in the U.S.
Abercrombie & Fitch is looking to reduce its U.S. store fleet to an optimize size, as it takes significant strides towards the development of an omni-channel platform. Also, with is topline under pressure, the company is relying on this strategy to defend its bottomline growth. Abercrombie & Fitch has closed significantly more stores in the U.S. over the past three years than it has opened. In 2014 in particular, the company closed a total of 52 stores, while it opened just eight.
Although store consolidation has weighed on the company's revenue growth, it will eventually lead to an improvement in productivity and will provide the retailer an optimum network for its omni-channel ambitions.
Controlled expansion in Europe due to weak economic environment and threat of self-cannibalization
Abercrombie's growth in Europe has been under pressure primarily due to the weak economic environment and self-cannibalization. The company announced in the past that it will slow down the expansion in the European markets. To expand in the region, under-penetrated markets will be targeted to negate the impact of cannibalization. In line with this announcement, the company opened just 15 stores in international markets in 2014.
Significant transition in merchandise portfolio
There was a time when Abercrombie’s logo on basic t-shirts and jeans was enough to attract customers, but it is no longer the case. Over the past two to three years, U.S. shoppers have shown great interest in fashion-forward products from Zara, Forever 21 and H&M, but little affinity towards logo branded basic products from Abercrombie.
It appears that the company has finally realized that what it used to do, will no longer help it attract customers. In fact, it will continue to deter the company’s image and sales. As U.S. buyers have shunned basic logo products altogether irrespective of the brand, Abercrombie has decided to aggressively transition its portfolio from basic logo products to non-logo fashion products. Last year in an earnings announcement, the management stated that they will reduce their logo business to “almost nothing” within 12 months and replace it with fashion-forward inventory. Although the change appears too drastic, we believe that this was a much needed step. Indeed, this will result in significant revenue decline in the near term, but Abercrombie’s sales were falling rapidly even without this strategy. However, with this transition, the company stands a better chance of improving in the current retail environment, where only fast-fashion brands are thriving.
Trefis Forecast Rationale for Internet & Catalog Orders EBITDA Margin
Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) are profits after factoring in typical expenses such as cost of goods and services sold, SG&A expenses and R&D expenses. EBITDA Margin represents divisional EBITDA as a percentage of divisional revenues. We adjust EBITDA figures to exclude non-recurring charges and non-cash charges such as stock-based compensation expense, asset impairment charges, asset write-down charges, legal charges and auction rate impairment (ARS) charges.
EBITDA Margin for Internet & catalog orders declined from around 24.6% in 2009 to 22.5% in 2011, driven primarily by falling sales, increasing operating expenses and a sudden rise in cotton prices.
With improvements in the macro-economic picture, the figure increased to 24.7% in 2012 but declined again to 23.4% in 2013 and 22.6% in 2014, as the company ushered heavy markdowns to compensate for low store traffic.
Going ahead we expect the figure to decline marginally in the near term and stabilize thereafter at 22.3% through to the end of our forecast period.
Trefis considered the following factors for its forecast:
- Heavy promotional activities
- Being a basic apparel retailer, Abercrombie currently relies of heavy discounting to attract customers.
- This is likely to continue in the future, at least until the company completely repositions itself as a fashion retailer.
- Hence, its near term margins will be under pressure.
- Increased expenses related to omni-channel retailing
- Just like other participants in the industry, Abercrombie & Fitch is investing heavily in several omni-channel strategies.
- This is likely to increase the company's expenses in the future, as well as its depreciation and amortization.
- This in turn will have a negative impact on EBITDA margins.
- Shift towards online channel would put a downward pressure
- Apparel retailers in the U.S. are pushing for incremental online sales by expanding their respective direct-to-consumer channels and adopting the omni-channel model.
- For Abercrombie & Fitch, direct-to-consumer sales as percentage of net sales increased from 10% in 2009 to an estimated 23% in 2014.
- Direct-to-consumer business generates low margins as compared to store business due to the additional packing and transportation costs.
- Hence, as the aforementioned figure increases in the future, it will put a downward pressure on the company's overall margins.
Back to Company Overview
- Success of new merchandise portfolio can help
- As Abercrombie & Fitch is looking to re-establish itself as a fashion retailer by transitioning its product portfolio, it can have a merchandise range few years down the line that people will gladly buy for fewer discounts.
- This can help the company generate better gross margins thus mitigating the impact of heavy discounting of basic logo merchandise.
- Store consolidation will help reduce operating expenses.
- Abercrombie & Fitch is reducing its domestic store fleet to have an optimum presence in the country and reduce its expenses related to under-performing stores.
- The company closed 52 stores in 2014 and might look to close some more in the near future, which would reduce its expenses at a faster rate than revenue decline, thus suppressing its SG&A rate.
- This will likely have a positive impact on operating margins.
How Does Trefis Modelling Work?
How do we get the historical numbers for this chart?
Trefis has a team of in-house Analysts who gather historical data from company filings and other verifiable sources. When historicals are available, we explain how we got them at the bottom of the Trefis analysis section below.
Who came up with the Trefis forecast for future years?
The Trefis team of in-house Analysts considers a variety of factors when projecting any forecast. The rationale for our projections is explained in the Trefis analysis section below.
How does my dragging the trendline on the chart impact the stock price?
- We use forecasts for business drivers to calculate forecasted Revenues and Profits for each division of the company.
- We then use forecasted Profits in a Discounted Cash Flow (DCF) model to obtain the Price Estimate for the company.
See more on: DCF Methodology
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