Abercrombie & Fitch Reports Strong Results, Momentum Continues Into Fourth Quarter

by Trefis Team
Abercrombie & Fitch Co.
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Abercrombie & Fitch (NYSE:ANF) posted its third quarter earnings on Thursday, November 29, reporting a slight increase in revenues and a 10% growth in earnings, which was much better than expectations of a 0.6% drop in sales and a 33% decline in earnings. Comparable sales were up 3%, beating consensus estimates of 1.6% growth, led by immense improvement in the digital segment, which grew 16%. The quarter also marked the retailer’s fifth consecutive quarter of comp sales growth for the company, the eighth quarter in a row of positive comps for Hollister, and the fourth for Abercrombie. The company’s management reported that the momentum has carried over into the fourth quarter, with a strong start noted in the holiday season, with strong double-digit growth on singles day on T-Mall, and a record performance for the peak period from Thanksgiving Day to Cyber Monday.

For the fourth quarter, the company is expecting comps to be up in low single digits, sales to be down mid single digits (as a result of the calendar shift), and its gross profit rate to be flat. Meanwhile, for the full year, the comps and sales growth are anticipated to be in the range of 2% to 4%, and gross margin is expected to be up slightly. The apparel retailer continues to focus on optimizing its global store network, enhancing its omnichannel capabilities, and growing its loyalty program. These efforts will go a long way in helping the company achieve its 2020 target of a low single-digit sales CAGR, modest gross margin expansion, and doubling its 2017 adjusted EBIT margins.

We have a $25 price estimate for Abercrombie & Fitch, which is higher than the current market price. The charts have been made using our new, interactive platform. Our interactive dashboard on Abercrombie & Fitch’s Performance In Q3 2018 And Estimating Its Fair Price details our forecasts and estimates for the company. You can modify any of our assumptions to gauge the impact of changes on ANF’s revenue, earnings, or valuation.

Factors That May Impact Future Performance

1. Potential of Gilly Hicks: Victoria’s Secret’s loss seems to be A&F’s gain. The former discontinued its swimwear line, and has suffered from a comps decline ever since. Abercrombie, on the other hand, witnessed aggressive growth in its Swim and Intimates line, with Gilly Hicks continuing to attract new customers to the Hollister brand. The Gilly Hicks brand was relaunched globally at the beginning of 2017, and seems poised for success in the future. As competitor American Eagle’s lingerie and activewear brand, Aerie, has been its best-performing segment for a while now, we believe the market has strong growth potential.

2. Store Closures: Since 2010, over 450 stores have been closed, representing more than one-third of the company’s store count. Further, a significant number have been remodeled or downsized. In 2017, ANF closed 39 stores in the U.S. through natural lease expirations. For 2018, 40 closures are intended, in addition to converting roughly 50 Hollister stores and 13 A&F stores into the new prototype format. Moreover, with about 60% of the U.S. leases expiring by the end of FY 2020, the company has significant flexibility to find the right store count balance, and drive efficiency by remodeling or resizing the stores, renegotiating leases, or shuttering some. The company is also shifting from large-format and its flagship stores to smaller, mall-based stores. The company noted that over the past two years, the total square footage was down 7%, and ANF saw a mid-single-digit improvement in overall real estate productivity. In theory, the company’s comparable sales should show an improvement when the unprofitable stores are closed down, particularly with a greater focus placed on the online segment. Additionally, the revenue per square foot should increase with stores being downsized.

3. Strong Digital Sales: A fundamental shift from brick-and-mortar to the online platform is evident, and retail companies have to embrace this trend in order to remain relevant. In this regard, ANF has ensured local and regional fulfillment capabilities across the U.S. and around the globe, as well as supporting 20 websites and 4 apps in 11 local languages. ANF has made a considerable investment of roughly $400 million since 2010, to ensure the growth of its DTC (Direct To Consumer) segment, and has been rewarded as a result. DTC is now its largest storefront, with growth of 16% in Q3, and constitutes 28% of the company’s sales volume, with the company on track to cross $1 billion in digital sales this year. Moreover, mobile plays a huge part in the digital growth, representing over 75% of the total DTC traffic. To better serve customer needs, ANF has been evolving its omnichannel capabilities and has introduced Venmo as a payment option. Abercrombie’s digital store-centric functionalities such as purchase online, pick up in store, have been driving traffic to stores, consequently spurring purchases and productivity within the store. The company has also introduced reserve-in-store, which enables customers to try before buying; order-in-store, which displays all of the inventory to customers shopping in the stores; and ship-from-store, which enables ANF to optimize its inventory. These efforts should ensure a sustained growth in digital sales.

4. Scope For International Growth: While Abercrombie & Fitch has been focusing on right-sizing its store footprint in North America, it is dependent on the international markets for growth through expansion. In Europe, the company sees a $1 billion opportunity across all channels. At present, the company has a modest 120 stores in the region. Consequently, its focus in the region is on increasing penetration, shifting to smaller, more productive stores, and building a more local customer base. The company’s partnership with wholesalers, like ASOS, NEXT and Zalando, should ensure online sales growth. In China, the company estimates a $500 million opportunity. The company currently has only 28 stores in the country, and is focusing on growing its digital business, through its partnership with Alibaba, as well as its store count, to address this opportunity.

5. Hollister Growth Remains Strong: The brand posted a 4% improvement in its comps in Q3, its eighth consecutive quarter of growth in the metric, with an increase seen across genders and channels. The brand has also instituted a number of marketing campaigns and programs, such as the Carpe Denim campaign, High School Ambassador program, and the Age Collective, to remain close to its target market and understand the changing trends and preferences.

6. Campus-Based Stores: ANF has opened two college campus stores – at Ohio State and the University of Southern California – in order to be closer to its target demographic of 18 to 25 year olds. These stores are half the size of an average Abercrombie store, equipped with the full omnichannel capabilities, which includes the possibility to purchase items online and pick up in store, order in store, or ship from the store. On campus events may help to drive traffic to these stores, and the smaller format of the stores will provide insights into driving productivity through compact stores.

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