If you walk into the typical American shopping mall today, you will see discount signs in nearly every clothing store. The promotional environment has never been more competitive. Aeropostale (NASDAQOTH:AROPQ) and Express (NYSE:EXPR) are among the dozens of popular clothing retailers that use sales promotions throughout the year to attract customers.
Earnings for both companies this past week left shareholders selling off their shares. Despite competition from department stores like Kohl's (NYSE:KSS) and industry competitors like Gap (NYSE:GPS) and H&M, more elements are killing Aeropostale and Express than frequent promotions.
Were third quarter earnings that bad?
The earnings reports for Aeropostale and Express couldn't have differed more. Net sales for Aeropostale dropped 15% to $514.6 million while comp sales declined by the same amount. The total net loss for the quarter was $25.6 million. On the other hand, Express reported that net sales increased 7% to $503.0 million while comp sales rose 5%. Net income came in at $19.3 million for Express.
So why did Aeropostale's shares fall by just over 6% while shares of Express tumbled by over 20%?
It was a difference in expectations. Aeropostale's third quarter closely mirrored its dismal second quarter earlier this year when it also reported a 15% decline in comps. The market already assumes that fiscal year 2013 will not be Aeropostale's year.
Express plunged mostly because of downbeat guidance for the remainder of the year given during the conference call.
Conference call highs and lows
Aeropostale CEO Thomas P. Johnson stated that this consecutive quarter of poor earnings stemmed from weak sales in core categories like graphics (logos) and fleece apparel. Even worse, he said that the company's Black Friday resulted in comp sales declining by mid-single digits. One possible reason that the stock didn't fall further was management announcing that they would close 175 stores over the next few years instead of 100.
For Express, the conference call started off well but gradually got worse. CEO Michael Weiss stated that sales numbers over Thanksgiving week were higher than they were last year, but the company had expected better. While the men's suit business was a standout category, the growing promotional environment has dampened the FY 2013 outlook.
Margin erosion by promotion
Both Aeropostale and Express are running a dangerous game. On any given day, there are relatively large discounts on everything in their respective stores. As a result, not only are both retailers losing significant profits as the promotions erode their margins, but perceptions about their brands are dropping.
Why would anyone buy anything at regular price at either store? When customers believe they can wait and get the same item at up to 70% off in the near future, they usually will. In the mean time, those same customers will be buying merchandise that is already on sale or in the clearance section.
Those other factors...
There are two main factors outside of constant promotions that Aeropostale and Express should consider.
First, and especially important for Aeropostale, is losing touch with current styles. Some would argue whether either company was ever in style. Among trend setters, Aeropostale is supposedly losing its edge at the beginning of middle school to other teen retailers. That means that Aeropostale is losing out on a lot of potential revenue from sixth grade on, and this explains the company's miserable year.
Second, both companies are suffering because of the new status symbols. Smartphones, Facebook, and tablets have changed everything. The brand of clothing you wear to school doesn't matter as much as whether you have the latest iPhone, how many friends you have on Facebook, and if you are using a tablet or a pencil and paper to take notes.
What are Kohl's, Gap, and H&M doing different?
Competition has taken market share away from everyone in the sector. In recent years, Kohl's has become an outlet for teens to shop for clothes at relatively cheap prices. Recently, the department store announced that it will be open 24/7 from December 20 to the 24 this year which may further hurt fourth-quarter sales for other retailers.
Gap's third quarter net sales were up 3%, and this past week it announced better-than-expected comp sales for November which helped its stock rise even higher.
Swedish retailer H&M is now the second largest global clothing retailer, ahead of Gap, and 2013 has been another success for the brand. H&M's third quarter sales were up 12% with gross profit up 22%. H&M also launched its U.S. website in August.
Around-the-clock promotions for Aeropostale and Express have become the new normal and they are clearly eroding profit margins. This element alone will slowly change brand perception for these companies and fewer people will buy their products at regular prices. However, not keeping pace with current styles will also hurt Aeropostale. Historically, it is hard to stop a change once it has started in regard to fashion styles.
While competition continues to be a factor, the new status symbols will affect the entire retail clothing industry. Having the most popular logo on your shirt pocket isn't as important as what type of phone you hold in that same pocket.
Michael Carter has no position in any stocks mentioned. The Motley Fool recommends Facebook. The Motley Fool owns shares of Facebook. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.