American Eagle: Winning In The Teen Apparel Space

2017 has not been a good year for the apparel retail sector, with the stocks of many such companies down considerably this year. American Eagle Outfitters (NYSE:AEO) is one such company whose shares have taken a bit of a beating. While the share price has recovered from the lows seen in the middle of this year, it is still down over 7% year-to-date. Such a development is in stark contrast to its sales performance. The company has been bucking the general trend in the apparel space by improving its revenues quarter after quarter. However, the company is not being rewarded for this by investors, as the current fear of retail stocks is keeping them away from even the good performers.

New Survey Spells Good News For AEO

In Piper Jaffray’s semi-annual Taking Stock With Teens research survey, which highlights the spending patterns and brand preferences among 6,100 teens, American Eagle emerged as the second most preferred clothing brand, with 11% of the votes. It came in ahead of brands such as Adidas, Hollister, and Forever 21. Furthermore, among shopping websites, its website came in at third, behind Amazon and Nike. Given the robust performance of its online segment, the company has focused its marketing on the digital space, which has been highly effective in drawing in new customers. To reel in these customers, AEO is also launching a new rewards program soon, which should ensure growth in the future as well.

With effective marketing in its lingerie segment Aerie has also ensured double-digit comps improvement for the past several quarters. The brand achieved 26% comps growth in the second quarter, building on the 24% seen in the prior-year quarter. This figure is all the more impressive when compared to the growth figures delivered by its competitors. While the brand is much smaller in terms of sales when contrasted with Victoria’s Secret, the latter posted a comps decline of 14% in Q2. These two segments (online and Aerie) can be expected to be the growth drivers for the company in the future as well.

Reasons For Stock Price Decline

A weak industry outlook can be blamed for much of the downfall the company’s stock has seen this year. The rise in online shopping and consequently, a decline in mall traffic, have been crushing teen apparel retailers. Recent years have been hard for these companies, with some even filing for Chapter 11 bankruptcy, such as Quicksilver in September 2015, Pacific Sunwear in April 2016, and Aeropostale in May 2016. Earlier in the year, news also surfaced regarding the shuttering of The Limited and True Religion. Others have hobbled along, including Abercrombie & Fitch (NYSE:ANF), and Gap Inc (NYSE:GPS). These once sought-after brands, among high school kids in the US, have been blighted as a result of their over-reliance on the footfall at shopping malls, and the rise of fast-fashion brands, such as H&M and Zara. In the face of a bleak future for retail companies, American Eagle has also suffered as a result.

Another factor that has been hurting the stock price has been the weak margins posted by the company. While the top-line growth delivered has been impressive, given the soft state of the apparel retail market in the country, it may have been driven by the promotions put in place by AEO. This factor has strained the margins, with a 270 and a 260 basis points decline witnessed in the gross margins in Q1 and Q2. Moreover, a greater focus on the online space, reflected by a higher digital marketing spending, has pushed up the SG&A expenses, which coupled with the higher promotions, were responsible for the 300 and 370 basis points fall in the operating margin in the two quarters. Higher promotions are set to continue in the third quarter, along with an increase in the SG&A expenses, which will again pressure the margins, though the decline may improve sequentially. However, as the company expands, it will be able to get better costing which should ease the margins a bit in the future.

We have a $13 price estimate for American Eagle’s stock, which is in line with the current market price.

See our complete analysis for American Eagle Outfitters

Have more questions about American Eagle Outfitters? See the links below:

• Is India The Place To Be For Apparel Retail Companies?
• Increased Online Sales Boost Top Line But Pressure The Bottom Line For American Eagle
• Investors Overlooking American Eagle’s Growth Potential

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