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When Guess? (NYSE:GES) reports second-quarter results on Wednesday, investors should not expect dazzling growth. The stock is down about 15% so far this year, reflecting the market's disappointment with the company's performance. However, fashion retail is fickle, and Guess? could surprise investors any quarter. In fact, Piper Jaffray (NYSE:PJC) recently upgraded the stock from neutral to overweight. Here's what investors should watch when Guess? reports second-quarter results.
North America sales
North America comparable sales is the most important metric to scrutinize this quarter. Most of Guess?'s challenges stem from its North American store base, which represents about half its revenue.
In the first quarter, U.S. and Canada comparable-store sales fell 5.6%. That was a sharp improvement from last year's first quarter, in which comparable sales declined 9.3%. Second-quarter comparable sales will probably not decline by nearly as much.Last year, second-quarter comparable sales declined 1.7%. This year, Guess? will probably do about the same.
In its first-quarter conference call, held about one-third of the way through its second quarter, Guess? COO Michael Relich said Q2 comparable sales were down in the low-single digits, consistent with the year-ago quarter's results. Relich said he thought the trend would continue through the rest of the year, so investors should expect about 2% comparable sales decline in North America.
Guess? is addressing its North America sales problem by ramping up e-commerce efforts in an attempt to leverage its store base to fulfill online orders. So far, e-commerce has boosted comparable sales by a considerable margin. For instance, last quarter's comparable sales declined just 2.3% including e-commerce sales versus a 5.6% decline excluding e-commerce sales. Look for comparable sales to get another boost from online sales in Q2.
Improvement in Europe
Piper Jaffray upgraded Guess? shares largely because it expects improvements in Europe. Close to one-third of Guess?'s revenue comes from European countries, making it the company's second-most important market. A Piper Jaffray analyst said industry contacts see improvements in European wholesale orders as consumer spending accelerates.
An improvement in wholesale orders would be welcome news for Guess?'s European operations. Last quarter, retail orders stole the show by posting their seventh consecutive quarter of positive comparable-store sales. Unfortunately, the momentum may fade as European retail sales had softened by the time Guess? held its Q1 conference call at the end of May. At the time of the call, Relich warned that Q2 comparable sales in Europe were down by over 10%, and he expected full-year comparable sales to decline by mid-single-digits.. Investors should expect mid- to high-single digit comparable-store sales decline for the full quarter.
Guess?'s gross profit margin is important because it indicates the company's ability to attract a young, price-conscious demographic while generating a decent margin. It is hard to compete only on price in the retail world; management has to offer fashionable inventory at reasonable prices to maximize its gross profit margin.
Guess?'s gross margin has been on a downward trend over the last several quarters. Markdowns to clear inventory will continue to pressure margins in the second quarter. Expect it to pick up in the back half of the year as bad inventory is cleared from shelves and cost improvements make their way through the income statement.
Guess? earnings in a nutshell
Investors should focus on three items when Guess? reports second-quarter results: North American comparable-store sales, evidence of improvement in Europe, and companywide gross margin. Guess? may not solve all of its problems this quarter, but showing improvement in these three areas would go a long way toward getting its stock back on track.
Ted Cooper has no position in any stocks mentioned. The Motley Fool recommends Guess?. 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.