Inventory Bogs Down Citi Trends

One of the best retailers out there at managing merchandise levels is Abercrombie & Fitch (NYSE: ANF  ) ... and Citi Trends (Nasdaq: CTRN  ) displayed this quarter that it's no Abercrombie. Higher inventory levels caught up with the urban retailer in the second quarter.

Fellow Fool Rich Smith recently commented in his Foolish Forecast that Citi Trends' biggest problem has been poor inventory management. If the company doesn't manage to slow down its inventory growth to levels appropriate for its current sales growth, he said, the higher inventory levels will eventually catch up with it. And now, we find that the inventory buildup has finally caught up with it, with a material effect on its Q2 numbers.

To start moving out the 40% additional merchandise it acquired over the past year, the company put higher markdown rates to work and took an inventory write-off charge in the quarter. Despite these moves, though, we can look at the balance sheet and see that inventories are still 40% higher than they were a year ago. That means we can expect more of the same over the coming quarters.

Over the next several months, a great deal of work will remain on getting inventory down to appropriate levels, and management will have to employ additional markdowns and promotional activity to move out the excess merchandise. We will also see more inventory write-offs, which are slated to average about 2% of sales for the rest of the year. Management said in the conference call that it's working hard to return the company's results to at least the industry standard rate of less than 1.5%.

These actions will help address the inventory problem over the short term, but to ensure better inventory management over the long haul, the leadership team believes it must improve management hiring practices at the store level. So the company is busy re-evaluating and retooling its human resources infrastructure and has recently hired an experienced HR senior manager to revitalize processes such as hiring and training.

At least sales are not an issue for Citi Trends. The retailer posted strong double-digit top-line growth in the second quarter, and with the forecast calling for 5% comps growth for the remainder of the year, I suspect that this positive trend will continue. But strong sales matter little when margin pressure and inventory write-offs strain earnings.

Until Citi Trends gets a much better handle on bringing inventory levels more in line with current and expected growth rates, investors would be Foolish (our way of saying "wise") to look instead to proven retailers such as Guess? (NYSE: GES  ) , Nordstrom (NYSE: JWN  ) , and Abercrombie & Fitch.

More retailing Foolishness:

American Eagle and Gap are Stock Advisor selections. Gap is also an Inside Value recommendation. Try either, or both, of these market-beating newsletter services free for 30 days.

Fool contributor Jeremy MacNealy has no financial interest in any company mentioned. The Motley Fool has a disclosure policy.


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