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If you're over the age of 18, don't live in a small town, and aren't in the market for studded T-shirts emblazoned with the titles of Whitney Houston songs, chances are you've never heard of teen clothing and accessory retailer rue21 (Nasdaq: RUE ) .
You probably have come across the company's competitors, however. These include better-known and more visible companies, from Wet Seal to dELiA*s and Charlotte Russe to Forever 21 (a separate company not affiliated with rue21).
While rue21 operates over 750 stores at present -- and management believes the market would support opening to at least 1,000 total -- the stores are located primarily in small towns and rural areas, out of view of big-city dwellers. A 2010 article in The Wall Street Journal summarized this strategy: "Rue21 is one of a handful of retailers aggressively targeting secondary markets and rural areas -- cities and towns with populations smaller than 250,000 that offer plenty of shoppers and few competitors."
Rural areas and a "fast fashion" business model
Another component of rue21's retailing strategy is the company's "fast fashion" business model. The company sources merchandise from a diverse network of domestic vendors, moving low-priced products into stores at lightning speed to meet the cravings of trend-conscious teens. So even though the consumer lives in a small community far from a major city, he or she is still able to buy the stylish clothes and accessories glimpsed on TV.
Wal-Mart (NYSE: WMT ) and Target (NYSE: TGT ) operate in small and midsize communities as well, and they sell low-priced teen fashions. But on breadth and depth of product -- hundreds of items across about 5,000 square feet of dedicated space -- rue21 bests these Goliaths.
Fear the big boxes' big ad budgets
What may be a much more serious threat to rue21 is these larger companies' outsize marketing and advertising budgets, including their ability to partner with celebrities and famous high-fashion designers to promote exclusive clothing and accessory lines. For instance, teen pop star Miley Cyrus has a clothing line in Wal-Mart, while Target has partnered with designers with significant youth appeal, such as Rodarte and Missoni.
Rue21 doesn't use traditional advertising, instead relying on viral and word-of-mouth efforts. And because the company doesn't stamp its own name on tank tops and hoodies, it can't benefit from the subtle product placement that American Eagle (NYSE: AEO ) and Abercrombie and Fitch (NYSE: ANF ) so often get on teen-focused reality shows. (My fellow devotees of MTV's Teen Mom 2 will recall how many times character Jenelle Evans wore that blue American Eagle hoodie this past season, and how her boyfriend Kieffer Delp seemed to live in a green Abercrombie one.)
So what's the investment case here?
It's super-cheap to open a new rue21 store. In the latest 10-K, management affixes a $160K price tag to a new store. That's the retail-sector equivalent of a $10 leopard-print pashmina -- except the returns on a rue21 store are much more attractive.
According to the company's latest 10-K: "Our typical new store investment is approximately $160,000, which includes build-out costs. ... New stores generate on average between $900,000 and $1.1 million in net sales per store in the first twelve months."
Companywide, in fiscal 2010 net sales increased 21% to $635 million, driven by new store openings, and net income grew 37% to $30 million. Couple this with a debt-free balance sheet and strong management in the form of president and CEO Robert Fisch, who owns about 5% of the shares and has more than 30 years' experience in retail.
Why not follow this trend? Despite its seeming obscurity, rue21 may be a retailer well worth keeping an eye on.
If you're not sold on the idea of investing in a teen-retail-focused company, why not take a look at a growing broad-line retailer that isn't so focused on a niche market. You can learn more about this emerging market opportunity in the Motley Fool's special free report: "The Motley Fool's Top Stock for 2012." You can click here to access it now.