One of world's leadingpremier specialty retailer, Gap Inc. (GPS) offering a diverse range of clothing, accessories, and personal care products for men, women, children and babies, recently posted its first-quarter 2011 results.
The street analysts had nearly a week to ponder on the news. In the subsequent paragraphs that follow, we will cover the recent earnings announcement, analysts' estimate revisions as well as the Zacks Rank and long-term recommendation on the stock.
Quarterly Review
On May 19, 2011, Gap posted a decline of 11.1% year over year in first-quarter 2011 earnings of 40 cents per share. However, quarterly earnings came a penny ahead of the Zacks Consensus Estimate. The drop in quarterly performance of the company was primarily attributable to sluggish top-line performance coupled with the rise in input cost.
During the quarter, net sales inched down 1.0% to $3,295.0 million from $3,329.0 million in the year-ago quarter. Same-store sales plummeted 3.0% for the quarter versus an increase of 5.0% in the prior-year quarter. Gap reported a decline in same store sales across all brands. The same-store sales of Gap North America, Old Navy North America,Banana Republic North America and International brands inched down 3.0%, 2.0%, 1.0% and 6.0%, respectively. However, total revenue beats the Zacks Consensus Estimate of $3,284.0 million.
Quarterly gross profit fell 6.9% year over year to $1,304.0 million, and gross margin contracted 250 basis points (bps) to 39.6%. Operating expenses, as a percentage of sales, increased marginally by 10 bps from the prior-year quarter to 27.9%. Accordingly, Gap's operating income plunged 22.8% year over year to $233.0 million, while operating margin fell 200 bps to 7.1%.
Management Guidance for 2011
The company is apprehensive regarding the operating margin in 2011 owing to cost inflation. As a result, the company has lowered its fiscal 2011 earnings guidance in the range of $1.40 to $1.50 from the earlier expectation of $1.88 to $1.93 per share.
(Read our full coverage on this earnings report: Gap Hit by Costs, Lowers Outlook)
Agreement of Analysts
Estimate revision trends for the upcoming second and third quarter of 2011 portrayed a negative sentiment among most of the analysts covering the stock. Over the last 7 days, 22 out of 29 analysts following the stock lowered their estimates for the upcoming two quarters of fiscal 2011.
Moreover, Zacks Consensus Estimates for fiscal 2011 and 2012 also portrayed a pessimistic outlook about the stock with 25 and 22 analysts lowering their estimates, respectively, in the last 7 days.
Magnitude of Estimate Revisions
The magnitude of estimate revisions for Gap depicts a pessimistic outlook. Over the last 7 days, estimates for second and third quarter of fiscal 2011 have been decreased by 6 and 12 cents to 31 and 37 cents per share, respectively. While for fiscals 2011 and 2012, estimates have been slashed by 32 and 26 cents to $1.52 and $1.79 per share, respectively.
Our Recommendation
In a drive to boost its international operations, Gap seeks to consolidate its foreign business under one division from London. The rationalized division will be headed by Stephen Sunnucks. Lackluster sales in North America compelled the company to expand overseas. In order to counter the mature domestic markets, Gap's agenda is to book as much as 30% of total sales from its overseas operations and online business by 2013. To achieve this end, Gap has opened its stores in China, Italy and Australia and has launched e-commerce in more than 90 markets, which are expected to further strengthen its top- and bottom-line performance, moving forward.
However, Gap operates in a highly fragmented market and competes with national and local department stores and discount stores, American Eagle Outfitters Inc. (AEO) and The TJX Companies Inc. (TJX), which offer products at fire sale prices. To retain the existing market share, the company may have to reduce its sales prices, which could affect its margins. Moreover, due to its exposure to international market, Gap remains prone to currency fluctuation. The weakening of foreign currencies against the U.S. dollar may require the company to either raise prices or contract profit margins in locations outside the U.S. An increase in product price may have a direct impact on consumer demand.
Gap's shares maintain a Zacks #4 Rank, which translates into a short-term 'Sell' rating. Our long-term recommendation on the stock remains 'Neutral'.
About Earnings Estimate Scorecard
Len Zacks, PhD in mathematics from MIT, proved over 30 years ago that earnings estimate revisions are the most powerful force impacting stock prices. He turned this ground breaking discovery into two of the most celebrating stock rating systems in use today. The Zacks Rank for stock trading in a 1 to 3 month time horizon and the Zacks Recommendation for long-term investing (6+ months). These "Earnings Estimate Scorecard" articles help analyze the important aspects of estimate revisions for each stock after their quarterly earnings announcements. Learn more about earnings estimates and our proven stock ratings at: http://www.zacks.com/education/
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