Aeropostale in Troubled Waters as Margins Dive
Source : Google Finance
Aeropostale’s (NYSE:ARO) stock has taken a pounding in recent months as guidance and results showed slowing sales and painful margin pressures from competition and rising commodity costs. In its Q2 sales outlook ARO called for declines in net sales and double digit declines in same store sales which spurred the most recent slide in shares, which remain depressed. The struggling teen apparel retailer competes with brands like Abercombie & Fitch (NYSE:ANF), American Eagle Outfitters (NYSE:AEO) and Gap (NYSE:GAP). We have a revised price estimate of $25 for Aeropostale stock, which is roughly 110% above the current market price.
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The adjustments in our price estimate primarily reflects adjustments made to the company’s current net cash/debt position.
The difficult state of Aeropostale can be summed up in two major categories:
1. Competitors munch on Aeropostale’s market share:
Historically, ARO’s major selling point has been its business as a cheap option for teenagers. With stiff competition from the likes of Abercombie & Fitch due to a better product mix, Aeropostale seems to have lost its edge in teen apparel industry. This has impacted the company both in terms of lower sales and lower margins.
Aeropostale reported a decline of 5% in its net sales with the girls’ business taking the maximum hit at a decline of 18%. Increasing competition has also forced Aeropostale to increase promotions and offer more discounts on its merchandise, which has resulted in a decline in gross margins.
2. Macroeconomic conditions:
Rising cotton prices have been the primary factor behind the shrinking margins across the apparel industry. Aeropostale is a value oriented retailer and bore the brunt since it is more reluctant to pass on the cost increases to customers in fear of losing business. The effect combined with downward pressure on margins due to competition has resulted in a significant downfall of 13% in the gross margins this quarter.
What lies ahead for Aeropostale?
Cost cutting measures remain the company’s top priority at the present. The inventory levels have been quite high at $248 million when compared to the total sales of $468 million this quarter. We expect the inventories to go down as the company strives to make itself leaner in order to improve the margins for Q3.
Additionally we expect the margins to improve over the next quarter as the cotton prices improve due to the regular supply from cotton producing areas. However a lot will depend on if Aeropostale brings in the right balance of fashion into its assortment to address the sliding market share.