American Eagle Outfitters (AEO 0.63%) and Gap (GPS -0.05%) both saw their stocks crushed over the past year as investors fretted over their slowing sales, declining margins, and supply chain challenges.
AEO's stock closed at an all-time high of $37.87 last April, but it now trades at about $12. Gap's stock surged to a 52-week high of $34.48 last July, but it's now worth just $9 a share. Can either of these beaten-down apparel retailers stage a meaningful comeback this year?
Image source: Getty Images.
What happened to American Eagle Outfitters?
AEO was one of the few mall-based apparel retailers that consistently grew its comparable store sales throughout the retail apocalypse. It maintained that stable growth by expanding Aerie, its smaller brand of lingerie and active wear, and expanding its e-commerce platform.
However, the COVID-19 pandemic throttled AEO's growth as it closed down its stores. Its revenue declined 13% to $3.8 billion in fiscal 2020, which ended last January, and it posted a net loss for the full year.
But in fiscal 2021, AEO's revenue increased 33% to $5 billion, which represented 16% growth from its pre-pandemic revenue in fiscal 2019, and it generated a full-year profit again. By brand, American Eagle's revenue rose 30% to $3.6 billion, reversing its 21% decline in 2020, while Aerie's revenue surged 39% to $1.4 billion on top of its 24% growth in 2020.
AEO's total gross margin also expanded from 30.5% to 39.7%. It attributed that expansion to "strong product demand, higher full-priced sales, lower promotions, rent savings, customer delivery efficiencies and inventory optimization initiatives" -- which all offset its higher air freight costs.
But in the first quarter of 2022, a few cracks appeared. Its revenue rose 2% year over year to $1.06 billion, but would have declined by about 1% without its recent supply chain-related acquisitions.
Aerie's revenue rose 8% to $322 million, or a three-year compound annual growth rate (CAGR) of 27%; but American Eagle's revenue fell 6% to $686 million, which represented a negative three-year CAGR of 2%. It attributed that slowdown to difficult comparisons to its post-lockdown recovery last year, which was amplified by stimulus-induced discretionary spending.
AEO's gross margin also fell 540 basis points year over year to 36.8% during the quarter as it was overwhelmed by higher freight and supply chain costs, and its earnings per share (EPS) declined 65%.
It expects that bottom-line pressure to persist in the second quarter, followed by a recovery in the second half of the year as it laps those higher expenses. For the full year, analysts expect AEO's revenue to rise 3% and for its EPS to decline 39%.
What happened to Gap?
Gap -- which generates most of its revenue from its namesake brand, Old Navy, and Banana Republic -- had been struggling against leading fast-fashion retailers like H&M before the pandemic started. Old Navy had largely withstood that downturn by selling cheaper apparel, but Gap and Banana Republic had repeatedly struggled to attract new shoppers.
Therefore, the temporary store closures throughout the pandemic hit Gap a lot harder than AEO. Its total revenue declined 16% to $13.8 billion in fiscal 2020, which ended last January, dropping 6% at Old Navy, 27% at Gap, and 42% at Banana Republic. Like AEO, Gap posted a net loss for the full year.
In fiscal 2021, Gap's revenue rose 21% to $16.7 billion -- and grew 2% compared to its pre-pandemic results from fiscal 2019 -- as its total comps rose 6%. All three of its core brands posted year-over-year growth and it returned to profitability. However, Gap's gross margin fell 330 basis points to 34.1% as it grappled with higher air freight and supply chain expenses.
In the first quarter of 2022, Gap's revenue fell 13% year over year to $3.5 billion as Old Navy and Gap lost their momentum. Old Navy's comps fell 22% as it struggled with size and assortment balances, inventory delays, and product acceptance issues. Gap's comps slid 11% as it struggled with inflationary headwinds, inventory delays, and sluggish sales in China. Those double-digit declines offset Banana Republic's 27% comps growth, which broadly benefited from the brand's relaunch last year.
Its gross margin fell 930 basis points year over year to 31.5% during the quarter, and it posted another net loss. For the full year, analysts expect Gap's revenue and earnings to decline 5% and 72%, respectively.
That grim outlook raises concerns about Gap's ability to achieve its "Power Plan 2023" goals, which are rooted in the expansion of its Old Navy and Athleta (athletic apparel) brands, the closures of hundreds of Gap and Banana Republic stores, and the expansion of its e-commerce platform.
Both stocks look cheap -- but one is a better value
AEO and Gap trade at just six and eight times forward earnings, respectively. Both stocks pay forward dividend yields of more than 6%.
AEO and Gap both look dirt cheap because they will inevitably struggle as the inflationary and supply chain headwinds worsen. But if I had to choose one over the other in this tough market, I'd stick with AEO -- it generates more consistent growth with higher gross margins.
