The apparel retail space is crowded, competitive, and challenging. This has led to a highly promotional environment. When retailers offer promotions, it negatively impacts their margins, which then often leads to bottom-line disappointments. This trend is broad, and it seems to be spreading. J.C. Penney (OTC:JCPN.Q) is one of its biggest victims. However, for every J.C. Penney, there is a Macy's (NYSE:M) or a Gap (NYSE:GPS). We'll first take a look at the current retail environment, then compare the three aforementioned companies to see which one (or two) is likely to offer the most investment potential.
An ugly retail scene
The median family income is now $51,017 per year, which is down from $51,100 in 2011. Since 2007, income has dropped 8.3%. With companies afraid to hire because they're unsure of the long-term economic picture, there has been a lack of wage growth.
While the economic "recovery" is certainly uncertain, I have been extremely impressed at the innovation and efficiency of so many American companies. While this isn't the case for all companies, the majority of them are excellent at finding ways to grow their top and bottom lines despite economic headwinds.
If you're in the mood for more optimism in order to even out the yin-yang balance of this article, then you will be happy to know that October retail sales increased 0.4%. That's not a brilliant performance, but at least it's a positive. Additionally, ShopperTrak expects holiday sales to increase 2.4% this holiday season. If you're a pessimist, then you could point out that this would be the smallest increase since 2009, but once again, at least it's a positive number. The NRF expects a more robust 3.9% increase in holiday sales, which would beat last year's 3.5% improvement. Only time will tell. All we can do in the meantime is look at how individual companies are performing and determine whether or not they're likely to be worthwhile investments.
Gap's recent performance
Gap recently reported October and third quarter results.
In October, net sales increased 6% year over year, with comps growing at a 4% clip. All brands saw positive comps growth, with Gap Global comps increasing 5%, Banana Republic comps improving 1%, and Old Navy comps growing 2%.
For the third quarter, the comps picture wasn't quite as impressive. Gap Global comps increased 1%, Banana Republic comps declined 1%, and Old Navy comps were flat.
However, Gap, along with Macy's, has managed to grow its top line in a challenging environment. J.C. Penney, on the other hand, has been in a rush to visit a bottomless pit.
Hope and doubt
Gap and Macy's have provided investors with reasons to hope for continued growth, whereas J.C. Penney has gone from a company attracting investors to a stock attracting gamblers.
J.C. Penney recently reported third quarter results. The company spun those results well, citing a 24.5% increase in online sales. That might be factual, but almost every retailer is seeing increasing online sales simply because more people are shopping online than in the past.
J.C. Penney's third-quarter sales came in at $2.78 billion versus $2.93 billion in the year-ago quarter, and comps slid 4.8%. However, J.C. Penney pointed to an October comps improvement of 0.9%.
J.C. Penney's gross margin declined to 29.5% from 32.5% due to lower margins, increased clearance, inventory overhang, and costs related to transitioning back to a promotional strategy. Most importantly, the company's operating loss was $489 million.
Though the J.C. Penney situation is direr, this reminds me of Best Buy. Investors hung onto hope and potential instead of looking at the facts. While J.C. Penney's stock could skyrocket on hopes of a turnaround, if you're looking for an investment in a sounder company then you might want to opt for Gap or Macy's.
Speaking of Macy's
Very unlike J.C. Penney, Macy's sales were up 3.3% in the third quarter year over year, comps increased 3.5% (that's 15 consecutive quarters of comps growth), and earnings improved 31%. Macy's cited initiatives like My Macy's (shop whatever, whenever, wherever), omni-channel integration, Magic Selling for salespeople (meet and connect, ask questions and listen, give options and advice, inspire to buy and sell more, celebrate the purchase), consumer engagement, and fashionable items at fair prices as the reasons for its success. Looking ahead, Macy's expects comps to increase 2%-2.9% for fiscal year 2013, and for diluted EPS to come in between $3.80 and $3.90.
The bottom line
While these aren't the most resilient companies you can find, Gap and Macy's continue to show improvements whereas J.C. Penney continues to search for reasons to give investors hope. Investing in potential turnarounds can be extremely profitable, and that might end up being the case for J.C. Penney. However, this usually doesn't end well, and Foolish investors prefer to go with proven winners.