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2 Retail Stocks Poised for a Bull Run

By Lawrence Rothman, CFA – Oct 14, 2020 at 11:15AM

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The improving results from these two retailers are not fully appreciated yet.

With COVID-19 cases on the rise, many are fearing the dreaded second wave. Certainly, a lot of retailers have experienced the pain of having to shut down their operations earlier this year.

This shouldn't stop you from investing in the sector, though. There are always companies that perform well, even when confronting challenges. Below are two retailers that are likely to continue showing better results, but the market does not fully appreciate their prospects right now.

That makes this a compelling opportunity to pick up some shares in the companies.

Shoppers walking in mall

Image source: Getty Images.

1. Gap

The last few years have not been a picnic for Gap (GPS 3.11%). Sales suffered as its once favored apparel didn't seem to resonate with customers. Additionally, Gap's sales also took a hit from customers no longer traveling to malls like they once did. In three out of five of the last years, its same-store sales (comps) were negative. This includes last year, when they dropped by 3%. No wonder the stock is down by 33% over the last three years.

Management took steps to rectify the situation. This included closing some mall-based stores. Additionally, last year, it announced plans to close 230 poorly performing namesake stores out of its more than 1,200 worldwide stores.

This year, the pandemic forced Gap to close its doors to the public, and this hurt its results. In the second quarter, which ended on Aug. 1, its sales fell by 18% from $4 billion to $3.3 billion. However, it counts online sales, which grew by 95%, in comps, which helped them increase by 13%.

Its Old Navy brand, a bright spot, continued to do well with a 24% comps increase. Its smaller Athleta also saw its top line remain on a roll, with another strong rise. This lifestyle and fitness brand, which Gap acquired in 2008, has also been a source of strength. With the ongoing popularity of these items, there's no reason this won't continue. The Gap brand also did well on a comps basis. Only Banana Republic lagged.

Adding 3.5 million new online customers shows that Gap is starting to hit the mark with its merchandise. Up 12% this year, the share price looks poised to keep rising as Gap benefits from better locations, a strong online presence, and relevant merchandise selections.

2. Ulta Beauty

Ulta Beauty (ULTA -0.01%) was doing quite well until COVID-19 struck. It offers a broad range of products at various price points that appeal to a wide range of customers. This has clearly worked well for the company, garnering a loyal customer base, and Ulta has generated positive annual comps for about two decades. Last year, its comps increased by 5%.

Of course, COVID-19, which forced Ulta to shut its stores to the public, hurt this year's results. Ulta's fiscal second quarter (ended Aug. 1) comps fell by 26.7%. However, by the end of July, it had reopened all of its stores. It provided salon and brow services, key offerings that get people into its stores, in more than 88% and 85% of the locations, respectively.

Granted, it is operating its stores under limited capacity, but customers can see the products, which is important before people make a purchase. Its comps improved throughout the quarter, going from down 37% in May to a mid-single-digit decline in the first three weeks of August. This clearly shows that customers still wanted Ulta's products once they regained access to the locations.

Omnichannel has been a key part of management's strategy, and its e-commerce sales grew by more than 200% in the second quarter. This should continue helping Ulta's results. Management has long claimed that omnichannel customers spend about three times more than those who only visit the stores.

There is still room for Ulta to grow, too. In fact, management kick-started its expansion plans in August. In 2019, it added a net of 80 stores, bringing the total to over 1,250, and it brought the number to 1,264 stores this year before management put on the brakes due to the pandemic. It plans to open 19 sites in the second half of this year. Ulta's long-term vision is to bring the total to 1,500 to 1,700 locations in the U.S.

Despite its improving customer traffic, Ulta's share price remains down by about 7% this year, as management noted it will take time to bring sales back to pre-COVID-19 levels. It won't stay at these levels for long, though. The long-term growth story remains intact, which makes this an attractive level to buy shares of a company that has been executing its plans.

Lawrence Rothman, CFA has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Ulta Beauty. The Motley Fool has a disclosure policy.

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