This Apparel Retailer Is Finding More Ways to Grow

One of the largest apparel retailers in the world is making a big bet on China.

Apr 17, 2014 at 12:55PM

A lot of the apparel retail industry is up in arms. The shift from logo-based wear to fast fashion has left a lot of companies carrying merchandise that's simply out of fashion.

Take American Eagle and Abercrombie & Fitch as prime examples. Both companies have been hit hard by consumers' shifts to Forever 21 and H&M. Meanwhile, The Gap (NYSE:GPS) is holding up quite nicely. That results from the apparel retailer holding three strong brands (Gap, Old Navy, and Banana Republic), coupled with its geographical diversification.

Gap is up nearly 10% over the past twelve months while Lululemon (NASDAQ:LULU) is down nearly 20% and Chico's FAS is down over 5%. On the other hand, VF Corp (NYSE:VFC) is up over 40%. However, VF Corp has been seeing revenue boosts thanks to the cold weather. Its Timberland and North Face brands tend to perform well in the cold.

Gap's next big growth idea
Gap has decided that the roll-out of Old Navy in China is its next major growth driver. At the end of fiscal 2013, Gap only had one Old Navy store in Asia. One of the big reasons why Gap is looking to further penetrate the Chinese market is that expectations call for apparel sales in China to hit $156 billion before 2017.

At the end of fiscal 2013, Gap generated only $1.6 billion in sales from Asia (9% of its total sales). Only $77 million of that was generated by Old Navy. If Gap can capture just a small fraction (say 0.5%) of that aforementioned $156 billion market, this could boost sales for Gap by 5%.

Although VF Corp does much less direct-to-consumer business than does Gap (most of its business is wholesale), it's worth noting that VF Corp has been seeing weakness in its sales in Asia. Its product sales, namely jeanswear, have fallen victim to weak consumer demand in China.  

However, Gap might have an advantage with its lower-priced goods. That's precisely why it plans to push its Old Navy brand, rather than the Gap or Banana Republic brands, in China. Gap plans to focus its Old Navy roll-out on the lower-tier cities in China, where rent is cheaper and the value brand should better resonate with shoppers.

Continuing to tap new, faster growing, markets
Gap has also managed to get its hands on the yoga and athletic wear industry as it takes advantage of the weakness that Lululemon experienced last year, which includes its quality-control issues. Recall that Lululemon had to pull hundreds of pairs of its pants from shelves due to a lapse in quality. The company came under more fire when it stood by its strategy of not carrying plus-size pants. However, Gap's yoga-focused stores, Athleta, do carry plus-size clothing.

The Gap also has an opportunity to capture more of Lululemon's market share by opening more stores. Currently, Athleta has a store count that's less than a third of what Lululemon boasts. However, it plans to add 100 stores to its store count, which currently stands at just 60.  

Bottom line
Gap pays a 2.2% dividend yield. However, that's only a 26% payout of its earnings. It has increased its dividend payment for the last four years. While it is one of the largest apparel retailers, it continues to find ways to grow its earnings for investors. With a return on equity of 40% (which towers over its major peers in the industry), its P/E ratio of 15 could well be considered low, especially considering that the apparel industry average P/E is 25. For investors looking for a solid play on apparel retail, Gap is definitely worth a look.

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Marshall Hargrave has no position in any stocks mentioned. The Motley Fool recommends Lululemon Athletica. 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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