Turning the Spotlight From Logo-Based Apparel to Retro Styles

With there being a number of turnaround stories in the apparel retail industry, why not just invest in an apparel company that doesn't need a full-blown turnaround?

Apr 7, 2014 at 12:30PM

In today's apparel market, there appears to be a "no man's land." Much of the conservation is focused on the triple A's, which includes Abercrombie & Fitch (NYSE:ANF), American Eagle (NYSE:AEO) and Aeropostale.

However, these retailers appear to be quickly falling out of fashion as teens move away from logo-based clothing. In their place, the likes of Forever 21 and H&M, dubbed "fast-fashion" retailers, have taken reign of the apparel market. These companies turn over their merchandise very quickly, allowing them to stay atop the trends.

Yet, there's a large market to be served between the logo-based and fast-fashion retailers. That's the no man's land I was referring to. This area is wide open, but there is one company that could be a great investment in the space. 

That's where retro styles come into play
For  shoppers looking for "hipster" and retro styles, the market leader is Urban Outfitters (NASDAQ:URBN). Urban Outfitters has a trio of store brands that attack the apparel market from a variety of angles. Its three key brands include Urban Outfitters, Anthropologie and Free People.

Like all retailers, Urban Outfitters has been negatively affected by the weather. But Urban Outfitters' most recent weakness can be attributed to misses in its fashion offerings. This has led to markdowns at Urban Outfitters and excess inventory left over from the holidays. It's looking to fix that by focusing more on higher-growth areas and less on apparel. 

Where Urban Outfitters is at today
Urban Outfitters' multi-brand strategy is a big positive. It's able to cater to a variety of shoppers with its three brands. The other interesting aspect to Urban Outfitters is that unlike the major apparel retailers, its merchandise assortment includes some higher-growth areas, such as footwear and home furniture.

Being a multibrand company, many investors miss the fact that Anthropologie generates almost as much revenue as the Urban Outfitters brand. So, despite the weakness in the Urban Outfitters brand, the company as a whole is still performing well. Comps were up 10% and 20% for Anthropologie and Free People, respectively, last quarter. On the other hand, Urban Outfitters' comps were down 9%.

Its new plan for the Urban Outfitters brand is to increase its design offering and focus on the 18 to 28-year-old demographic, essentially moving away from teen customers. This will help diversify the company from the volatile teen apparel market.

Teens are just too fickle
With apparel trends in teen fashion changing faster than ever and teen unemployment over 20%, it's a tough time to be in teen retail. As a result, Urban Outfitters is looking to make an exit. 

That's because despite the weakness in teen retail, Urban Outfitters has been seeing progress in other areas, areas that it plans to focus more on. During its fiscal fourth quarter, footwear retail sales were up 54% year over year at its Free People stores. At Anthropologie, its BHDN bridal concept grew 50% year over year.

Sizing up the competition
Shares of Urban Outfitters are down almost 5% over the last year, but the S&P 500 is up over 20%. However, Urban Outfitters is doing better than other retailers, where both Abercrombie & Fitch and American Eagle are down over 15%. This comes as Abercrombie & Fitch and American Eagle are both still heavily tied to teen apparel. 

As Urban Outfitters makes its exit from teen retail, it'll have to worry a lot less about what the triple A's are doing. Unless, of course, they decide to take Urban Outfitters' lead and follow suit, but that doesn't appear likely.

Abercrombie & Fitch and American Eagle both trade at a 0.75 price-to-sales ratios, which compares well to Urban Outfitters' 1.8. Yet, their cheap valuations don't necessarily make them buys. During the fourth quarter, American Eagle saw comparable-store-sales down 7% year over year, and it's expected to post an earnings decline of 10% for fiscal 2015 according to analysts.

However, Abercrombie & Fitch appears to be making some improvements. It plans on turning its Hollister brand into a fast-fashion retailer. Forever 21 and H&M have had marked success in the space, so it will be interesting to see if Abercrombie & Fitch can replicate that. 

Bottom line 
The likes of Forever 21 and H&M have had an impact on the apparel market, but there is still room for other retailers that offer unique fashion styles. The apparel industry is trading at an average P/E of close to 20, but Urban Outfitters trades at a  P/E of 16 using next year's earnings estimates. For investors searching for exposure to the apparel industry, Urban Outfitters might be worth a look. 

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Marshall Hargrave has no position in any stocks mentioned. The Motley Fool recommends Urban Outfitters. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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