Abercrombie & Fitch (NYSE:ANF) earns about 25% of its revenues from its international business, which has been struggling mainly due to weak results from Europe.  At the end of fiscal 2012, the retailer operated about 141 international stores, out of which 110 were in Europe. Driven by the region’s weak economic environment and self-cannibalization, Abercrombie’s international comparable store sales declined by 8% in fiscal 2012 and 16% in Q1 fiscal 2013. 
To improve its performance, the company has decided to slow down its expansion in Europe and target underpenetrated markets instead. We believe that once the economy starts to recover, the retailer’s second largest market in the region (Germany) has enough potential to lift its results. Moreover, Abercrombie has yet to tap the Russian market where we believe the apparel industry could see healthy growth in the next few years.
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Germany – Largest European Market
Although Germany’s apparel sales have grown slowly in the recent past, it still remains the largest apparel market in Europe with annual sales of more than $75 billion.  Although the near-term outlook for the region’s apparel market isn’t too optimistic due to low consumer spending on the account of the debt crises, there are a lot of positives that retailers such as Abercrombie can count on. Since 2011, Germany’s men have become more fashion conscious and their shopping habits have remained more stable compared to women’s.  This, along with the fact that women also tend to be highly conscious about prevailing trends, has contributed to the success of fashion focused retailers. With their ability to remain inline with the changing fashion, major players such as H&M, Hennes & Mauritz, and Zara Deutschland achieved strong results in 2011 despite the tough economic environment. 
The biggest positive of the German apparel industry is the robust growth of online apparel retail, which has emerged as the most dynamic channel.  Due to growing Internet usage, the convenience of shopping online and the proliferation of mobile devices, online shopping has seen tremendous adoption. Forrester forecasts online sales in Europe to grow at a compounded annual growth rate of 11% for the next few years.  It expects e-commerce sales to take up a significant portion of retail sales in Germany over the long term.
Russia – A Viable Expansion Option
Abercrombie enjoys a physical store presence in most European markets barring Russia. Due to the market’s potential, a number of apparel retailers are expanding Russia and 2012 alone witnessed entry of 30 new foreign brands.  According to a McKinsey report, apparel space per 100,000 Russians is only 37,600 square feet, which is just 10% of what it is in the U.S. Even Brazil has a larger apparel space despite having lower per capita income as compared to Russia.  There is huge scope for improvement on this front.
Russians tend to spend about 3.1% of their income on apparel, which is noticeably more than China, Germany and the U.S. Through 2015, McKinsey expects the region’s apparel market growth (8%) to remain faster than income growth (7%). This is why Russia is expected to touch its peak apparel market size of $50 billion soon enough. 
To expand in the region, Abercrombie can target large Russian cities such as Moscow, which are located in the central region. These cities account for about half of Russian GDP and one-third of its retail sales.  Interestingly, out of 20 largest apparel players in the region, 17 have increased their investments in double digits since 2009. 
Our price estimate for Abercrombie & Fitch stands at $49, which is roughly inline with the market price.Notes:
- Abercrombie & Fitch’s SEC filings [↩]
- Abercrombie & Fitch’s Q1 fiscal 2013 earnings transcript, May 24 2013 [↩]
- Germany: Clothing Industry Guide, Research and Markets, Mar 2011 [↩]
- Apparel in Germany, Euromonitor International, Apr 2012 [↩] [↩] [↩]
- U.S. Online Retail Sales To Reach $370B By 2017, €191B In Europe, Forbes, Mar 14 2013 [↩]
- Clothing companies flock to Russia in search of untapped revenue, Russia Beyond The Headlines, Jan 14 2013 [↩]
- Dress for Success: Cracking Russia’s apparel market, McKinsey, Nov 2011 [↩] [↩] [↩] [↩]