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Is Abercrombie & Fitch a Turnaround Candidate?

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Apparel retailer Abercrombie & Fitch (NYSE: ANF  ) recently reported its fourth-quarter results, which were once again disappointing. Abercrombie saw yet another quarter of earnings and sales declines on the back of a competitive environment in the teen apparel segment.

However, Abercrombie is taking certain measures to regain its footing by way of competitive pricing and focusing on trends that cater to the teen category. Also, Abercrombie is focusing on cost control by managing its inventory more efficiently as it fights American Eagle (NYSE: AEO  ) and Aeropostale (NYSE: ARO  ) in the teen apparel segment.

Going international
Abercrombie reported a sequential improvement in the business and strong growth in global sales. Its direct-to-consumer business increased to 25% of total sales in the last quarter, signifying that Abercrombie is working toward its turnaround.

Abercrombie posted a 35% increase in comp sales in China in the last fiscal year. The company has seven Hollister stores in mainland China and has opened a new store at the IST Mall in Nanjing. Abercrombie is planning to open five more stores during the year in China. The company sees great opportunity in China and hence, it is focusing on creating market awareness through its flagship store that's set to be opened in Shanghai in April 2014. 

Abercrombie has also opened two Hollister stores in Japan, including one at Lalaport, Shin Misato, in Tokyo and another in Yokohama. Having received a positive response, the company sees Japan as another significant opportunity for expansion, and it is planning to open a few more stores in Japan. 

Abercrombie has also expanded its business in the Middle East. It opened its first store at the Mall of Emirates in Dubai in the last quarter. Abercrombie has got a good response from the store already, and saw better than expected performance from its store. This is why it is planning to open additional stores in the Middle East in the current fiscal year.

Other moves
Abercrombie believes that improving its product line in the female segment is critical, and this is one area the company wants to focus on. It has taken adequate measures to shorten its lead time and to improve style differentiation in order to increase productivity by deploying a fabric platform process. Also, Abercrombie plans to lower the average unit cost which will help it remain competitive with peers.

Abercrombie is is bringing in new technology to improve product assortment and product life cycle. These initiatives can help the company keep its collection fresh and reduce the negative effects of discounts that come into play if the merchandise is not fresh. Also, frequently changing styles will keep teens coming back to Abercrombie's stores and help it perform better than the likes  of Aeropostale, which has higher lead times.

Abercrombie has taken significant steps toward reducing the merchandise average unit cost for the current fiscal year. It plans to organize most of its major projects to its distribution center in Albany to enhance productivity and exercise effective control on the supply chain. 

Abercrombie is going to invest $200 million this year, primarily in the DTC (Direct-to-Consumer) channel. The DTC (or online channel) investment is expected to improve and support web-exclusive styles, the company's order management system, mobile capabilities, and expanding international language and payment options. Abercrombie will also invest in Japan, China, and in the Middle East to expand its business. 

Can it outperform peers?
Abercrombie's strategy looks sound. The company has taken measures such as aggressive cost control, accelerated investments in e-commerce, tighter control of inventory, and renewed emphasis on return of cash to shareholders, as Credit Suisse analyst Christian Buss points out. These strategies will help Abercrombie compete in an effective way against peers such as American Eagle and Aeropostale, both of which have faced tough times recently.

Aeropostale, for example, saw a steep decline of 15% in same-store sales in the previous quarter, which is worse than Abercrombie's 8% drop in the previous quarter. The going looks tough for Aeropostale as Morgan Stanley analyst Kimberly Greenberger expects the company to burn through its cash pile by the end of the first quarter.  Aeropostale has entered into a $150 million debt agreement with Sycamore Partners, but since it is looking to taking on debt to sustain its business Foolish investors should probably look elsewhere. 

American Eagle, on the other hand, also faced weakness in the previous quarter, with same-store sales dropping 7%. The company expects the weakness to continue in the current quarter as it is plagued by various issues such as old merchandise and customer service. The cold weather in the U.S. also hit demand. So, like Abercrombie, even American Eagle is going through tough times and it won't come as a surprise if Abercrombie manages to post better growth in the future due to its fresher merchandise and online growth. 

Bottom line
Analysts estimate Abercrombie's earnings to grow at a compound annual growth rate of 18.3% for the next five years. The company's initiatives to turn its business around look quite good, and they might help it achieve solid earnings growth in the future. So, beyond the short-term headwinds, Abercrombie could be a good long-term investment.

Read/Post Comments (2) | Recommend This Article (0)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 27, 2014, at 6:34 PM, djtetsu wrote:

    Here in Southern California, A&F isn't losing to American Eagle or Aeropostle (as far as I can see).

    They are losing to low cost yet trendy giants: Forever21 and H&M.

    What's also gloomy here is that they seem to be the brand of yesterday, I don't seem any teens identifying with them anymore.

  • Report this Comment On April 02, 2014, at 7:33 AM, EvaBrain wrote:

    Abercrombie has recorded a gradual increase in revenues post the recession, but growth has now slowed to the point that it is estimated that the company will be losing sales by the end of this fiscal year.

    -Source "BidnessEtc"

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