Urban Outfitters Earnings Preview: Foot Traffic Declines And Namesake Brand Weakness To Weigh On Results

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URBN: Urban Outfitters logo
URBN
Urban Outfitters

Urban Outfitters (NASDAQ:URBN) is one of the few retailers in the U.S. that performed very well last year despite the edgy retail environment. However, this year hasn’t been too good for the retailer so far. Owing to persistent weakness in its namesake brand, along with an industry-wide fall in foot traffic, Urban Outfitters’ comparable sales remained flat during the first two quarters of fiscal 2015. In a business update last month, the retailer said that its comparable sales were trending negatively in the third quarter. Therefore, we believe that Urban Outfitters’ Q3 fiscal 2015 results, scheduled to be released on November 17, won’t be too promising. In fact, they might turn out worse than its previous two quarterly results. In the same update, the company said that, due to lower than expected sales, its gross margins “may deleverage” at a greater rate than the first two quarters. This would have had a negative impact on Urban Outfitters’ earnings. [1]

Over the past couple of years, foot traffic in the U.S. has declined consistently as buyers have increasingly preferred online shopping due to its convenience and cost benefits. While e-commerce players have thrived on this trend, it has troubled several retailers such Urban Outfitters, who rely on store sales for a bulk of their revenues. Although the company’s e-commerce sales might have increased considerably during the quarter, it is likely that it would have lost more due to a decline in foot traffic than it could have gained from incremental online sales. With Urban Outfitters’ disappointing update on third quarter results, it appears that the weakness in its mainline brand has continued despite its plans to offer fewer discounts in the third quarter. Although strong growth in Anthropologie and Free People have offset significant decline at Urban Outfitters during the past few quarters, the decline may have been too intense this time.

Our price estimate for Urban Outfitters at $43, implies a premium of less than 40% to the current market price.

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Fall in Foot Traffic Could have Subdued Growth

U.S. retail sales in the three month period from August-October increased at an average of 4.5%, but foot traffic across the industry declined at an alarming rate. This is attributable to the fact that U.S. buyers have been increasingly switching to online shopping from brick-and-mortar shopping. This trend has had a negative impact on sales growth of several retailers including Urban Outfitters, whose online channel isn’t big enough to drive the overall revenue growth. According to ShopperTrak, a firm that tracks store traffic in over 40,000 outlets across the U.S., store visits have fallen consistently by close to 5% year over year in all the months of the past two years, barring April 2014. Even in August, 4.7% fewer shoppers went out for shopping as compared to the previous month. [2] To better understand the intensity to traffic decline, it is worth noting that store traffic in September 2014 was 17% below what it was in the same month last year. [3] With significantly fewer shoppers as compared to last year, it is evident that Urban Outfitters comparable sales growth in the quarter was negative despite the marginal positive impact from surge in online revenues.

Mainline Brand is a Big Concern

Urban Outfitters’ comparable sales declined by 9% in Q4 fiscal 2014 and 12% in Q1 fiscal 2015. The company feels that it did not leverage the brand’s unique selling propositions – distinctive shopping experience, creativity and eclectic fashion products, as strongly as it did in the previous year. The retailer failed to improve Urban Outfitters’ performance in Q2 fiscal 2015 due to heavy promotions in slow-moving spring inventory, that dragged the brand’s comparable sales down by 10%. While the brand’s Q2 results were subdued by aggressive markdowns, the company had decided to scale back its promotions going forward. Urban Outfitters attracts customers with compelling designs rather than heavy markdowns, and the company wants to keep this image intact. Therefore, it had decided to usher fewer markdowns Q3 onwards. However, looking at the recent updates provided by the company, it can be inferred that Urban Outfitters continued to offer appealing discounts on the brand’s merchandise, in order to compensate for low store traffic.

While the brand is unlikely to report any significant improvement in its sales in the upcoming results, we will keep an eye out for the silver lining. Urban Outfitters had outlined a threefold strategy to rejuvenate its namesake brand at the end of the second quarter. The retailer said that it is rectifying its shortcomings on product design, customer shopping experience and product pricing. On the product front, Urban Outfitters was planning to add more fashionable designs to its merchandise range and improve its quality with better fabrics and finishes. To elevate customer shopping experience, the retailer had plans to improve its visual merchandising with the use of cohesive storytelling techniques and compelling online and in-store imagery. Although these strategies might not have had any noticeable impact on the brand’s results, even slight progress on the aforementioned fronts can reassure that Urban Outfitters can recover in the future.

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Notes:
  1. URBN Business Update, Urban Outfitters, Oct 16 2014 []
  2. Back-To-School Slump Raises Concerns About The Holiday Season, Bloomberg, Sept 23 2014 []
  3. U.S. Retail Benchmarks Show Decline in Store Traffic, Business Solution, Oct 21 2014 []