Fool.com: Abercrombie Keeps On Rowing (Fool Plate Special) August 11, 1999

FOOL PLATE SPECIAL
An Investment Opinion

Abercrombie Keeps On Rowing

By Warren Gump (TMF Gump)
August 11, 1999

Management at twenty-something "lifestyle" retailer Abercrombie & Fitch (NYSE: ANF) has been more effective than a rowing captain in ensuring that the company's stores don't miss a beat. After the close yesterday, the company announced that earnings for its fiscal Q2 came in at $0.17 a share, well ahead of the $0.14 First Call analyst consensus estimate and the $0.10 earned in the prior year. Same-store sales during the quarter rose a whopping 17%, on top of a 45% increase in the prior year. In a conference call after the meeting, Chief Financial Officer Seth Johnson said that he was comfortable with Q3 estimates of $0.31 per share.

Little more than "Wow!" can be said about this quarter. Posting such strong comparable store sales on top of the prior year's blowout numbers is truly an impressive feat. The numbers behind the bottom line also look strong. Gross margin -- what's left after the company pays for merchandise and occupancy -- increased to 39.4% from 37.1%. General and administrative expenses were reduced to 26.9% of overall sales from 27.4% in the year ago period. These two factors combined to bring the company's quarterly operating margin up to 12.5% from 9.8% in the prior year.

The company also seems to be doing a pretty good job of keeping inventory growth in control, an issue that I've been mildly concerned about in the past. At the end of Q2, inventory stood at $97.6 million, up 29% from the same time last year. That growth rate is below the 35% total increase in sales the company experienced last quarter. In comparison, year-over-year inventory growth at the end of the first quarter was 62%, which was much greater than the 40% sales increase. I watch retailer inventory growth closely (particularly with companies selling fashion items), because an unexplained surge often leads to future markdowns when the goods don't sell at regular prices.

I wrote a Fool on the Hill column three months ago discussing Abercrombie. At the time, it was obvious that the company was doing well, but I was not eager to take a swing at the stock because so much of the merchandise seemed to be fashion oriented rather than the high quality classics I associated with the company. I feared that this shift would cause the company to be subject to the whims of the fashion-conscious crowd that has left many one-time "hot" retailers gasping for air when trends changed.

Such fashion risk has not abated and is still the greatest risk facing shareholders (as it is for most apparel retailers). Somewhat mitigating this risk is the fact that Abercrombie management has shown an uncanny ability to stay on the cutting edge of these fashion trends. If it loses touch with customers for a season or two, it isn't hard to imagine a quick refocus to get merchandise back on track. In addition, earnings estimates for the year have risen a bit over the past three months (and will likely rise more) and the stock has fallen 13%. Combining all of these factors together and there is definitely more reason to be in the stock today than there was three months ago.