Gap Inc. (NYSE:GPS) operates its Banana Republic stores in North America, Europe and Asia. Although we estimate the segment to contribute less than 18% to the company’s overall value, its stores have been quite productive for the apparel retailer. Banana Republic stores generate revenue per square feet of around $500, which is significantly more than Gap’s $400 and Old Navy’s $280.  So what makes these stores so productive and why is it an important business segment for Gap?
Banana Republic’s business is somewhat different from Gap and Old Navy stores. While the latter two brands are value focused, Banana Republic offers products at slightly higher price points. This adds an affordable luxury business to Gap’s arsenal. Additionally, most of Banana Republic stores are in the U.S., where demand for affordable luxury merchandise isn’t impacted as significantly by a weak economy than other regions. However, with the brand’s small international footprint, Gap might be missing out on a substantial growth opportunity look ahead.
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Significance Of Banana Republic: Productive Stores And Continued Expansion
As of 2011, Gap operated 610 Banana Republic stores globally.  Through these stores, the retailer offers sophisticated, fashionable collections of casual and tailored apparel, shoes, accessories and personal care products for men and women at higher price points than Gap stores. Due to higher prices, these stores generate higher revenue per square foot despite their smaller size. Additionally, the segment’s comparable store sales growth has been higher than that of the overall company.
In 2011, the company’s comparable sales declined by 6% compared to only 2% decline for Banana Republic.  A similar trend was witnessed in 2010 as well. While the retailer is consolidating Gap and Old Navy stores in the U.S., it continues to expand Banana Republic. This is due to the latter’s smaller presence in the region as opposed to Gap and Old Navy.
Affordable Luxury – Successful Amid A Sluggish Economy
Gap bought this brand in 1983 and has successfully turned it into an affordable luxury brand with exclusive designs and luxurious fabrics at affordable prices. It also has been credited with making fashion more accessible. With the sluggish growth in the U.S. economy, affordable luxury has become a popular merchandise category. Banana Republic becomes a viable option for customers looking for a luxurious lifestyle and value-for-money. The popularity of affordable luxury is evident from the success of specialty retailer Ann Taylor (NYSE:ANN), which sells its products at relatively higher prices. 
Small International Presence – Missing On An Opportunity
Banana Republic’s international presence is just limited to 34 stores in Asia and Europe.  On the other hand, the company operates more than 300 Gap stores in these markets. The retailer is enhancing its presence in new markets with its namesake stores. Once such example is its recent announcement to open Gap stores in Brazil.
We believe that Gap might be missing out on a substantial growth opportunity in emerging markets where the luxury market is likely to surge in the future. As demand for luxury items in markets such as China and Brazil rises, affordable luxury products are likely to gain popularity.
Coach’s (NYSE:COH) tremendous success in China indicates the market potential for higher-end retailers.  Even Gap’s initial branded stores in China have been successful and thus well-positioned to roll out Banana Republic. The retailer plans to open its first Banana Republic store in China in the next few years. 
Our price estimate for Gap Inc. at $39, implying a premium of about 20% to the market price.Notes: