What happened

Shares of Gap (GPS 0.57%) were climbing today after the apparel retailer's third-quarter earnings report topped low expectations.

As of 2 p.m. ET, the stock was up 4.9%.

So what

Comparable sales rose 1%, and overall revenue increased 2% to $4.04 billion, beating expectations at $3.8 billion.

Store rationalization efforts appear to be paying off at Gap brand and Banana Republic stores, where comparable sales rose 4% and 10%, respectively, though they were flat at Gap North America. At Old Navy, which makes up roughly half of the company's revenue, comps were down 1% and they were flat at Athleta.

Adjusted gross margin, which excludes a $53 million impairment charge related to the termination of Gap's relationship with Kanye West, fell 320 basis points to 38.7% due to higher discounting and elevated commodity input prices.

However, the company made up for that with new cost-cutting efforts targeting $250 million in annual cost savings. As a result, adjusted operating expenses fell by 280 basis points as a percentage of revenue to 34.8%.

On the bottom line, the company reported adjusted earnings per share of $0.71, up from $0.27 a year ago and much better than estimates at breakeven. Without a $0.33 per share tax benefit, adjusted EPS would have been $0.38.

Interim CEO Bob Martin said: "We have sharpened our focus on execution to optimize profitability and cash flow, are bringing more rigor to our operations, and balancing our assortments in response to what our customers are telling us. While our efforts show early signs of improvement, we are clear that there is work to be done to deliver what our customers, employees and shareholders expect from Gap Inc."

Now what

In its guidance, the company expected trends to deteriorate in the holiday quarter, forecasting a revenue decline of mid-single-digits, which compares to the analyst consensus calling for a decline of just 0.6%. Gap did expect to get a boost on the cost side, calling for a 540 basis point lift in gross margin as it laps additional air freight charges from last year, though it said inflation would add 200 basis points in expenses.

The company did not give EPS guidance, but based on that commentary and the third-quarter performance, it seems likely to top the average estimate at $0.08. After struggling for years, Gap is showing progress in its turnaround. For now, that's enough to give the beaten-down apparel stock a lift, though it still faces challenges ahead.