What Investors Can Learn From Back-to-School

Back-to-school successes might give investors a chance to see how a company is going to fare over the next year. Let's take a look at what to watch for at J.C. Penney, Aeropostale, and Gap.

Jul 24, 2014 at 1:02PM

By the end of July, back-to-school sales are in full swing across the teen apparel sector. Companies are trying to lure in teens and their cash-wielding parents with promotions and bright colors. A month from now, the strong retailers will be separated from the weak, and the weak will cut deeper and deeper to try to keep foot traffic up. Last year, the winners and losers of back-to-school season went on to be the winners and losers of the rest of the year.

Companies like Aeropostale (NYSE:ARO) which fell flat in the run-up to school, have yet to recover, while some surprising back-to-school success stories have kept right on rolling. Summer 2014 promises more of the same, and paying attention can give investors a leg up headed into the back half of the year.

The predictive power of the third quarter
In many companies' third quarters, they report the results of their back-to-school efforts. Aeropostale, Gap (NYSE:GPS), and J.C. Penney (NYSE:JCP) all report on the 13 weeks leading up to the beginning of November in their third quarters. That includes the push for back-to-school sales in August and the sell-off of leftovers in September.

Last year, Aeropostale's third-quarter comparable sales fell 15%. The company took a hit on margins and ended up reporting a loss for the quarter. On the quarterly conference call, CEO Thomas Johnson said, "Our performance in the third quarter was clearly disappointing." If only that had been the end of it. Since that call, Aeropostale's stock has fallen 67% as sales and earnings have continued to bleed out.

Compare that to the relatively boring quarter Gap had last year. Back-to-school drove in a bit more traffic, but overall the company just blipped along, increasing comparable sales by only 1%. Since then, Gap's stock has done the same dull dance, falling 3% over the ensuing months.

Back-to-school success sets retailers up for brand strength in their core demographics. What Gap and Aeropostale both need this year is to find something more to give teens so that on day one they're the brand that everyone is talking about. That helps the companies over the holidays and into the new year, and gives them the momentum they need to keep sales up without heavy promotional activity.

How strong is the correlation?
Due to the fact that it offers a wider range of clothing, the effect is muted a bit at J.C. Penney. Nevertheless, look at the company's surprise third quarter last year. Comparable sales were finally finding their way into growth, margins were stabilizing, and the company seemed to have finally gotten close to the bottom of its fall.

Since then, J.C. Penney has skyrocketed. No, just kidding. The stock is up about 0.5% since it announced a not-horrific third quarter. Maybe those two things are tied to each other and maybe it's just a coincidence. It's just as easy to read that quarter as one more step down the ladder for J.C. Penney. In fact, by February 2013, the stock had fallen 35% since the third-quarter results were announced.

In short, third quarters can give investors some valuable insight into retailers, but it would be easy to get caught up and overextend the predictive power of a third quarter. The value is going to increase as you get closer to pure teen apparel companies and decrease as you look at businesses that have only a small reliance on the teen market. Keep your eyes open this fall and you just might catch a glimpse of next summer.

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