Abercrombie & Fitch Can Lose Up to 15% Of Its Value With Ineffective Customer Retention

There can be a downside of close to 15% to Abercrombie & Fitch‘s (NYSE:ANF) value if its store sales and EBITDA margins get weighed down by the aggressive buyer shift from physical to online retail channels. The entire apparel industry in the U.S. is gradually moving towards the online domain, on account of its incentives and convenience. The biggest repercussion of this has been the consistently declining foot traffic that has pushed several retailers to consolidate their respective store networks and aggressively pursue omni-channel strategies. While apparel retailers have gained from incremental online sales, it has been more than offset by the considerable fall in foot traffic, which has led to a decline in retailers’ revenue per square feet (RPSF).

Our current projections for Abercrombie’s RPSF do incorporate the fall in foot traffic on account of an online shift. However, the impact can be much more intense if the company is unable to retain the lost store customers through its websites. And this can happen due to the growing competition from fast fashion companies such as Zara and Forever 21 and pure-play online retailers, and ineffective omni-channel strategies.

Our price estimate for Abercrombie & Fitch stands at $ 28, implying a 10% premium to the current market price.

See our complete analysis for Abercrombie & Fitch

Inefficient Customer Retention Amid Online Shift

Online shopping has gained much steam over the past decade with growing Internet penetration. With buyers in number moving to online shopping, traditional apparel retailers such as Abercrombie have suffered due to a significant fall in foot traffic. Store traffic has been declining in high single digits in every month over the past few years. For the June-October period this year, foot traffic was down close to 10% on average, which indicates why several apparel retailers have been struggling to report positive growth. ^[1] For Abercrombie in particular, since online channel is much smaller relative to its physical store network, rapid growth in its web sales has been unable to compensate for fewer store shoppers.

Ideally, a retailer would not suffer if buyers shying away from its stores are still shopping at its websites and spending a similar amount. However, it is not the case. The online domain has become so competitive due to fewer restrictions to entry, that it is extremely hard for retailers to retain their customers. With so many options available over the Internet and the ease of browsing, buyers keep scouting for value-for-money products. As a result, even established retailers offer heavy discounts and enticing deals to fend off competition and retain their customers. This is why players such as Abercrombie are losing more due to a fall in foot traffic than they are gaining from incremental online sales. Though omni-channel strategies are being applied across the board to ensure maximum retention, there is a possibility that they may not pay off, thanks to the massive competition over the Internet.

A Marginal Fall In Revenue Per Square Feet (-15%)

Hollister’s revenue per square feet (excluding web sales) declined from $475 in 2012 to $356 in 2014, due to the online shift and portfolio transition. With the recreated merchandise portfolio, we currently expect the brand’s revenue per square feet to recover to $370 over the next six-to-seven years. However, if customer retention remains weak on account of intense competition and ineffective omni-channel strategies, the figure can decline further to around $320 in the long run. Similarly, for the scenario under discussion, we lower ANF’s long term RPSF forecast from $408 to $365, and abercrombie kids’ RPSF from $380 to $340. Simultaneously, we lower our long term EBITDA margin forecast by 20-30 basis points because with weak store sales, the proportion of online revenues will increase, and they will put a pressure on overall margins. The combined effect of the aforementioned changes results in a 15% downside to our price estimate for the company.

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