How A Slower-Than-Expected Expansion Can Impact Urban Outfitters’ Value

-17.71%
Downside
42.78
Market
35.20
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URBN: Urban Outfitters logo
URBN
Urban Outfitters

Urban Outfitters (NASDAQ:URBN) is among the very few apparel retailers in the U.S., who are still expanding their store base in the country. Others such as Gap Inc (NYSE:GPS) and American Eagle Outfitters (NYSE:AEO) are in the process of consolidating their respective networks. They had acquired a large store asset base before realizing that some stores would be redundant. Not only did several stores cannibalize their own sales, a large store network appeared irrelevant from the perspective of omni-channel retailing, which is undoubtedly the future of apparel retailing in the U.S.

Last year, American Eagle unveiled plans to close 150 stores within three years and Gap Inc most recently announced its plans to shut 175 locations within a couple of years. However, Urban Outfitters was still in its growth stage, when the industry unanimously began to move towards omni-channel retailing and hence.  Accordingly, it did not have to worry about store consolidation. In fact, the company has been expanding steadily and will look to continue the same to a level it deems fit for the omni-channel model.

We currently forecast that Urban Outfitters will continue to open stores steadily across formats, and will have over 900 stores operational in U.S. and abroad after five-six years. However, if the retailer plans to expand at a slower pace, focusing on omni-channel and online growth instead, the following scenario can unfold.

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Our price estimate for Urban Outfitters stands at $40, implying a premium of about 10% to the market price.

See our complete analysis for Urban Outfitters Inc.

Slower Expansion (-15%)

Looking at the expansion and consolidation plans of several casual apparel retailers, a level of 800-850 stores in the U.S. appears optimum for an omni-channel model. Our current forecast for Urban Outfitters’ expansion takes into account the fact that the company will look to step up its retail expansion in international markets at some stage. While this makes sense considering Urban Outfitters’ wholesale presence in Asia, the retailer hasn’t shared any formidable expansion plans yet. There exist the  possibility that the company might not expand much outside North America in the foreseeable future and increases its overall store count to only 800, keeping its omni-channel goals in mind.

At the end of 2014, Urban Outfitters had 234 stores operational for its namesake brand, 196 stores for Anthropologie and 98 for Free People and other brands combined. Currently, we project these figures to increase to 339, 265, and 217, respectively over the next five-six years. However, for the scenario under discussion, we lower Urban Outfitters’ store count at the end of our forecast horizon to 300, and Anthropologie’s store count to 242. We keep Free People’s store count forecast unchanged because the brand is in its growth phase and its expansion is unlikely to slow down.

With slower-than-expected increase in the retailer’s store count, direct-to-consumer’s penetration in Urban Outfitters’ overall business will increase. This will put an unavoidable negative pressure on EBITDA margins given that direct-to-consumer by nature is a low margin business. To this end, we lower our EBITDA margin forecast for the retail segment from 22% after five-six years to 20.6%. The cumulative effect of aforementioned changes results in the potential downside of 15% to our price estimate.

Since Urban Outfitters has a substantial wholesale presence in Asia, thanks to its partnership with World Co. Ltd., steady retail expansion in the market is almost inevitable. However, American apparel retailers have been watchful of their expansion in Asian and European markets because of the prevailing economic uncertainty and stiff competition. Hence, we believe that even Urban Outfitters will be cautious with its international expansion approach. In fact, it may look to invest in building its domestic omni-channel model rather than spending money on opening stores outside North America.

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