American Apparel (NYSE: APP) once seemed to have a bright future, but its recent "going concern" warning is of great concern. This risque stock may be hugely risky to its investors' financial well-being.
There used to be many things to love about American Apparel. Its sweatshop-free clothing is made right here in the USA, by an apparently well-treated workforce earning fair wages. The company's T-shirts and other attire appealed to hipster urban shoppers despite (or maybe because of) the controversy over its ultra-racy advertisements.
However, controversial founder and CEO Dov Charney's dubious, occasionally bizarre CEO behavior over the years increased the budding retailer's risk. Just for starters, Charney's been the target of several sexual harassment lawsuits in the past decade. Two years ago, I decided that regulatory filings stuffed with such issues, coupled with the company's formidable debt load, made American Apparel an extremely dangerous stock idea. American Apparel also experienced an immigration raid at one of its factories a year ago, which held up production and ultimately cost the company several thousand employees.
American Apparel recently revealed that it may not be able to keep the lights on. Its unwieldy debt and declining sales may soon force the company to breach a loan covenant. In addition, it received an inquiry from the Securities & Exchange Commission and a subpoena from the U.S. Attorney's Office for the Southern District of New York. They're looking into American Apparel's change of auditor; its former firm, Deloitte & Touche, had raised alerts about the company's financial reporting processes.
In bad economic times, a high debt load and flagging sales are a volatile recipe for disaster. Granted, sometimes companies can pull themselves back from the jaws of doom; Crocs (Nasdaq: CROX) managed to do so, even though things were ugly for a while. Still, investors should think long and hard before gambling on ultra-risky stocks.
There's no shortage of far more secure retail stocks out there. Urban Outfitters (Nasdaq: URBN) is one hot stock idea, and Aeropostale (NYSE: ARO) was my recent 11 O'Clock Stock Pick, a debt-free retail stock trading at a bargain price.
Penny stocks with well-known names may look tempting to some investors. I just hope they remember that embattled companies such as American Apparel sport their low prices for very good reason: They might soon go belly-up.
