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The Gap's CEO Is Leaving, But He's Leaving Some Problems Behind

By Adria Cimino - Nov 25, 2019 at 4:18PM

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Investors' eyes will be focused on whether a new CEO can bring the company back into style.

Back in the 1980s and 1990s, all the cool kids (and adults) had a pair of Gap jeans in their closets. The Gap ( GPS 2.58% ) was the place to shop, and the mall, where many of its stores were located, was the place to be.

Since then, less expensive but just-as-stylish competition such as H&M ( HNNMY -4.14% ) and Inditex's ( IDEXY -2.17% ) Zara entered the picture, and mall closures increased as consumers started spending more time elsewhere and shopping online. The Gap's reign over the world of American style slowly diminished, and these days, the company is struggling for direction and sales.

The latest low point came earlier this month when The Gap announced the unexpected departure of chief executive officer Art Peck. Robert J. Fisher, a member of the company's founding family, is taking over in the interim as a search is launched for a permanent leader.

Clothing on sale in a store.

IMAGE SOURCE: GETTY IMAGES

Peck wasn't able to revive The Gap's sales and image during his four years at the helm , so his departure may be positive, but the executive isn't taking all of the company's problems with him. Last week, The Gap reported an overall 4% drop in same-store sales for the third quarter, versus flat results last year. Individual brands didn't perform any better. Old Navy, once a strong point in The Gap's portfolio of brands, saw a 4% decline, compared with a 4% increase in the same period a year ago. The shares saw a slight pop -- gaining 4.4% -- in the trading session following the report, because the company beat analysts' recently lowered estimates.

Willing to pay more

When The Gap was at its best, shoppers were willing to pay more for the brand's image and for the pleasure of wearing a garment with its label and logo. In recent years, the company struggled to win over millennials and younger shoppers as other brands offered similar items at lower prices. For example, H&M sells women's straight regular fit jeans for $40 on its website, while The Gap's classic straight jeans cost about $80.

The retailer also has suffered from the situation at U.S. malls, the location of many of its stores. Credit Suisse analysts in a 2017 report wrote that they expect 20% to 25% of malls to close by 2022. Like many other retailers, The Gap has turned to online sales. In the company's February earnings report, management said that current restructuring, which includes 230 Gap store closures over two years, would leave the company with 40% of its sales generated online. If the new leader can work on The Gap's pricing and image, that online presence may be a bright spot.

Old Navy spinoff

As mentioned, Old Navy was once a redeeming feature, but The Gap now plans to spin off the brand. That said, with Old Navy sales flagging this year, some analysts have questioned the plan. David Swartz of Morningstar wrote that the company hasn't provided strong rationale for the spinoff, noting that the negative effects of the operation may total $1 billion. He also called the move a "distraction" as The Gap tries to improve sales and find a new leader.

The Gap's shares and valuation are reflecting the current turmoil. The stock is trading at 7.9 times earnings and is down 36% this year, a tempting proposition if you aren't looking at the entire picture. Sure, the departure of the CEO is an opportunity for a change in direction, but scooping up the shares now with the hope of benefiting from a future recovery remains risky business. As The Gap faces the headwinds of competition and declining mall traffic, the choice of leadership will be key. What will be the new leader's plan to revive the brand and boost sales? Without the answer, it's difficult to bet on the company's future.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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Stocks Mentioned

The Gap, Inc. Stock Quote
The Gap, Inc.
GPS
$16.72 (2.58%) $0.42
H & M Hennes & Mauritz AB (publ) Stock Quote
H & M Hennes & Mauritz AB (publ)
HNNMY
$3.47 (-4.14%) $0.15
Industria de Diseño Textil, S.A. Stock Quote
Industria de Diseño Textil, S.A.
IDEXY
$15.77 (-2.17%) $0.35

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