How P.S. From Aeropostale Is Giving Mixed Signals

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ARO: Aeropostale logo
ARO
Aeropostale

Teen apparel retailer Aeropostale (NYSE:ARO) has seen its revenue per square feet slump from $628 in 2010 to $462 in 2013 due to perseverance with its logo business and a gradual customer shift to fashion-forward brands. Although the company has tried a few fashion launches during this period, they have failed to attract customers due to their premium prices. Lately, the company’s performance has been so dismal that speculations of a public-private transition have emerged. Aeropostale has been burning its cash much faster that generating it, and is finding it hard to raise capital in the public market. While several investors such as Sycamore and Hirzel have raised their stakes in the company claiming it to be an attractive investment, no one has come forward with a buyout offer, probably due to Aeropostale’s high operating lease obligations and low cash.

At present, only P.S. from Aeropostale brand provides a ray of hope for the company. Despite a slump in its mainline business, Aeropostale’s P.S. brand has performed well, but it has been unable to boost the company’s results due to its small revenue contribution. At the end of 2013, the retailer operated 949 namesake stores and just 151 P.S. from Aeropostale stores. To revive its growth and keep potential buyers interested, Aeropostale was planning to aggressively expand its P.S. brand to make it comparable in size with its mainline business. While this appeared to be a valid move, the company surprised many when it unveiled plans to close 125 mall-based P.S. stores this year.

Although the idea behind this move was to transition the brand from malls to more lucrative off-mall locations, the timing doesn’t seem right. The company’s stock price is at an all-time low and it is reporting substantial losses quarter after quarter. And to no surprise, then, its cash has declined substantially since the start of the year. At this point, going private might be the best option for Aeropostale, as it will liberate its resources which can be directed towards long-term strategies such as rightsizing of P.S. from Aeropostale brand. However, scaling down the only positive aspect of the business can make it difficult for the company to attract a strategic or financial buyer.

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Our price estimate for Aeroposatle is at $9.20, implying a premium of over 170% to the current market price.

See our complete analysis for Aeropostale

What Was Behind P.S. From Aeropostale’s Success?

Since its inception in 2009, Aeropostale’s kids brand P.S. from Aeropostale has grown at a robust pace. This can be attributed to the fact that competition in the pre-teen apparel market isn’t as intense as in the teen apparel market, and consumer spending on clothing is relatively stable in the preteen or ‘tween space. Although there are several established apparel retailers in the U.S., most of them focus on teenagers and young adults due to their preference for apparel shopping. This has made the pre-teen apparel market somewhat niche and safe to enter. Moreover, unlike the teen apparel space, where buyers often rely on their own income, kids are dependent on their parents for apparel shopping. In the current economic environment, the employment outlook  for adults (who earn higher) is much better than it is for teenagers, implying that adults have a higher budget for apparel and accessories.

Initial Plan Was To Bring P.S. From Aeropostale At Par With The Mainline Business

Encouraged by its initial success, Aeropostale opened 29 P.S. from Aeropostale stores in 2012 and accelerated the expansion rate in 2013 with the addition of 51 stores. As of fiscal 2013, the retailer had 151 P.S. from Aeropostale stores across 20 states in the U.S., leaving another 30 states untapped. Aeropostale’s management has stated in the past that its P.S from Aeropostale concept will ultimately grow to 500 stores and render $700 million in incremental revenues. In the long run, Aeropostale’s mainline store count is likely to come down to 750 as the company is downsizing its domestic store fleet in the wake of weak demand and poor productivity. Simultaneously, its P.S. brand is expected to have a network of 500 stores. This formulates a very interesting scenario where P.S. from Aeropostale will become strong enough to drive the company’s results, and guide it towards a turnaround.

However, Now The Company Plans To Close All P.S. From Aeropostale Mall Locations Within A Year

Aeropostale stores are mainly located in shopping malls, where foot traffic has been weak over the past several quarters on account of weak consumer confidence. In response, the retailer has decided to shut several of its underperforming stores to improve its overall store productivity. Interestingly, the company’s P.S. stores have been operating well in shopping malls despite lower footfall. Realizing that there is an opportunity to further improve performance, Aeropostale recently decided to shift its P.S. stores from malls to off-mall locations. In its recent earnings call, the company stated that it is planning to shut 125 mall-based P.S. stores this year in the wake of weak mall traffic. Although the idea is to shift the brand to more lucrative locations, the scaled-down presence increases the risk of customer shift to other brands. The company plans to grow the brand to over 500 stores eventually, but it is unclear how aggressively the retailer will expand P.S. outside shopping malls given that it does not have much cash at hand. Therefore, we do not expect P.S. from Aeropostale to turn into a meaningful business for Aeropostale in the near future. This can delay its recovery and make it a less attractive investment for potential buyers.

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