Urban Outfitters (NASDAQ:URBN) and American Eagle Outfitters (NYSE:AEO) are lifestyle retailers focusing on young adults and teenagers. Both companies are in the challenging apparel retail segment. With declining mall traffic and increased competition from direct-to-consumer brands and e-commerce, these companies have had to work hard to stand out. Their strategies include exclusive collaborations with designer brands like Laura Ashley (Urban Outfitters) and musicians like Lil' Wayne (American Eagle) as well as branding messages that resonate strongly with their core audience.

While both specialty retailers cited increased promotional activity during the recent holiday season, one of the companies reaffirmed its fourth-quarter guidance while the other didn't. American Eagle Outfitters and Urban Outfitters each saw strong growth in their digital businesses over the last two quarters.

American Eagle Outfitters shares lost 24% in 2019, while Urban Outfitters shares lost 16% in the same period. Given the pullbacks in share prices, which one offers better value now?

Urban Outfitters store

Image source: Urban Outfitters.

Recent results and future growth opportunities

 In early January, Urban Outfitters announced holiday sales results that disappointed investors. Weaker sales at its retail stores had continued from the latest quarter, offset by strength from the digital channel. For the two months ended December 31, 2019, sales increased 2.9% year over year. Comparable sales at the retailer's Urban Outfitters division was down 1%, while they increased by 8% and 5% at the Free People and Anthropologie divisions, respectively. There was a high level of promotional activity in apparel at Anthropologie and Urban Outfitters, which will pressure gross margin in the fourth quarter.

For the quarter ended October 31, 2019 (fiscal third quarter), Urban Outfitters missed expectations on both earnings and sales. Comparable sales increased 3%, but the increase came only from the digital channel, with retail store sales decreasing. While the Free People division performed well with a 9% comparable sales increase, the Urban Outfitters division's comps were down 1%. CEO Richard Hayne spoke of "excellent fashion content and superior marketing" at Free People.

On January 13, American Eagle reaffirmed its prior fiscal fourth-quarter guidance and announced that fourth-quarter comparable sales-to-date are flat following a 6% increase last year. The company saw a continuation of strength in its Aerie brand and in its denim products. CEO Jay Schottenstein commented, "We delivered another holiday season of record revenue, driven by strength in the Aerie brand and American Eagle's signature jeans collections."

American Eagle beat earnings estimates during its fiscal third-quarter earnings (ending November 2) report, with strength in jeans and Aerie. Denim delivered the 25th consecutive quarter of record sales. The brand continues to resonate well with teens, and the company earned second place in favorite apparel brands in Piper Jaffray's Taking Stock with Teens survey. Aerie continued its impressive growth, with its 28th quarter of double-digit sales growth.

The youth-focused retailer continues to innovate with new products. During its fourth quarter, American Eagle launched new women's Dream Jean styles and new men's AirFlex denim styles. It also launched MOOD, a wellness and personal care line. Aerie's growth is being boosted by new stores, with 24 opened during the third quarter. The brand's message of inclusivity is resonating with the consumer, helping drive traffic that was "well ahead of mall averages" in the third quarter.

Valuation and which stock is the better investment

Urban Outfitters is trading at 12 times forward earnings, with projected earnings growth of 8% on sales growth of 4% in 2021, respectively. American Eagle is trading at a less expensive valuation of 10 times, with projected flat earnings growth on sales growth of 5% in 2021. In terms of dividends, American Eagle has a dividend yield of nearly 4%, while Urban Outfitters does not offer one.

Given recent results in the third quarter and the important holiday season, as well as brand strength, American Eagle is the better investment for those wanting exposure to the retail apparel space. It reaffirmed guidance for the current quarter and ranks as the second-favorite apparel brand among teens in a major research survey. Further, it sports a lower valuation and has a nearly 4% dividend.