Gap Inc. (NYSE:GPS) offers a large variety of clothing, accessories and personal care products for men, women and children through its three main brands – Gap, Old Navy and Banana Republic. According to our estimates, Gap and Old Navy contribute close to 30% each to the retailer’s value while Banana Republic contributes a little under 20%. In this analysis, we will understand what these brands offer and how they are performing for Gap.
Despite being a value focused brand, Old Navy is not a viable expansion option for international markets because of its low store productivity and large capital investments. In the U.S., the company has been consolidating its Gap and Old Navy stores to improve their store productivity. Hence, Gap is more likely to rely on Banana Republic for a major portion of its growth both in the U.S. and international markets.
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What Do These Brands Offer?
Gap – The brand offers a broad selection of classically styled, high quality, casual apparel at moderate prices for men and women. Additionally, Gap sells kids wear under its GapKids and babyGap brands and loungewear, sleepwear and intimates through its GapBody brand. Established in 1969, Gap is one of the popular brands in the U.S. competing with players such as Urban Outfitters (NASDAQ:URBN), and Abercrombie & Fitch (NYSE:ANF).
Old Navy – This is the youngest of Gap’s main brands with its first store dating back to 1994. The brand offers trendy apparel, shoes and accessories for adults, children and babies as well as maternity wear at attractive prices (slightly lower than Gap’s). Competing with brands such as American Eagle Outfitters (NYSE:AEO), Old Navy has cemented a strong place for itself in the U.S. market.
Banana Republic – Gap acquired Banana Republic in 1983. The brand offers a large collection of apparel, handbags, shoes, jewelry, personal care products and eyewear for men and women at higher prices than Gap. The brand is up against apparel retailers such as Guess (NYSE:GES) and women’s specialty retailers such as Limited Brands (NYSE:LTD). Banana Republic adds an affordable luxury brand to Gap’s arsenal which we believe will be valuable for its future growth.
Comparison Of Economics And International Expansion Potential
Banana Republic stores are more productive than Gap and Old Navy stores. They generate around $500 in revenue per square feet, followed by Gap at $390 and Old Navy at just $300. We also note that Old Navy stores are almost twice as large as Gap’s other branded stores. It is quite apparent that Old Navy is the least preferred brand for expansion in new markets due to its lower productivity and higher capital expenditures. This is why the company did not open Old Navy stores in international markets until 2012 despite its appealing products.
On the other hand, Banana Republic has significant growth potential in emerging markets such as China. A Mckinsey report suggests that the luxury spending in China has grown rapidly over the last decade. While Chinese consumers represented only 1% of global spending in 1995, they accounted for 27% of the spending in 2012. By 2015, China is estimated to have one-third share in global luxury market.  Banana Republic, which offers affordable luxury brands, currently operates around 48 stores in international markets and is all set to open its first store in China in 2013. 
Gap is the company’s most popular brand and it makes sense to increase its global footprint. Gap’s international stores generate 35% higher revenue per store than its U.S. stores.  Since competition is less fierce in international markets as compared to the U.S., Gap is able to operate with fewer promotional discounts. This is the reason why the retailer has been expanding its namesake brand globally. Its international store count increased from 256 in 2005 to 399 in 2012. With the recent plans to enter Brazil, this figure will continue to rise.
Growth Trajectory In The U.S.
Gap operates around 1,400 stores globally, out of which about 1,000 stores are in North America. The retailer has undertaken a consolidation strategy in the U.S. to close down locations that do not attract significant traffic. The company had acquired a large asset base at the peak of its popularity in 2001. However, towards the end of last decade, Gap started losing touch with the emerging fashion trends.  This, combined with the economic downturn, impacted Gap’s store productivity. Its revenue per square feet declined from $400 in 2007 to $370 in 2009. With the consolidation strategy, the figure has improved to an estimated $392 in 2012. Hereon, we expect Gap to continue with this strategy to drive its revenue per square foot to pre-recession levels of $401. Despite the lower store count, overall revenue growth will benefit from this consolidation.
On the flip side, Gap Inc. has aggressively expanded Old Navy in the U.S. The retailer opened its first Old Navy store in 1994 and rapidly increased the store count to 1,067 by 2008. However, it started reducing the number of stores thereafter to improve store productivity and shifted its focus to boost direct-to-consumer sales. During 2008-2012, Gap Inc. closed about 56 Old Navy stores and its revenue per square foot improved from $260 to $300. We expect this trend to continue, albeit at a slower pace.
With the other two brands undergoing consolidation, the majority of the growth is likely to come from Banana Republic’s expansion. With the sluggish growth in the U.S. economy, affordable luxury has become a popular merchandise category. This will enable the retailer to increase Banana Republic’s footprint in the U.S. 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. Historically, Banana Republic has slowly expanded in the U.S. and operated a little less than 600 stores at the end of 2012.
Our price estimate for Gap Inc. at $39, implying a premium of about 15% to the market price.Notes:
- Chinese shoppers ‘biggest spenders on luxury goods’, South China Morning Post, December 13, 2012 [↩]
- Banana Republic Set To Launch In China, South China Morning Post, Aug 15 2012 [↩]
- Gap’s SEC filings [↩]
- Gap to close stores in the U.S., while expanding in China; nearly 200 locations to be shuttered, New York Daily News, Oct 15 2011 [↩]