16% Forecasted Growth In Back-to-school Sales Viewed As Too Optimistic By Wedbush Senior Analyst
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Betty Chen covers softlines retailers for Wedbush Securities. Previously, she was a specialty retail Research Associate at Cowen & Co. Her former positions include Investment Analyst, Morley Fund Management, and Research Analyst, Robertson Stephens, Inc. Ms. Chen received her B.A. from the University of California, Berkeley.
TWST: The National Retail Federation estimated 16% growth in back-to-school sales over last year. Do you feel that's too optimistic?
Ms. Chen: Yes, we certainly do. We had also conducted a survey to parents and teens in late July. It was a nationwide survey of over 500 teens and almost 1,000 adults across all income buckets, and they indicated to us their budget plans were pretty much flattish year-over-year. We think that was more reflective of some of our channel checks and other primary research we've conducted. And I think in this scenario, it becomes even more of a zero-sum gain for different companies to try to grab market share.
TWST: What are some other key insights that you came out of that survey with?
Ms. Chen: I think, as expected, price was a primary driver of store selection. We also saw a growing inclination to shop at discounters and big-box retailers. However, we did see specialty stores place much higher in preference amongst teens. And then I think within some of the store brands, we were surprised to see Old Navy and Gap (GPS) lose a little bit of resonance, but Aeropostale (ARO), American Eagle Outfitters (AEO), Hollister and Abercrombie And Fitch (ANF) continuing to dominate the rankings.
TWST: Another story we've heard a lot about is the international expansion taking place among several companies that seek to take advantage of the cache awarded to American brands in Europe and Asia. What do you look for when evaluating a company's international strategy and growth potential?
Ms. Chen: I think definitely one of the first things we look at is brand equity - if there is the appetite for that retailer abroad. Secondly, how are they testing the waters before jumping in with store openings? In many cases, we're seeing them maybe ship internationally or partnering up with a third party, like NET-A-PORTER in the case of J.Crew (JCG), and then measuring the demand. I think the third is understanding how are they allocating the capital? Do they want to spend the cap ex themselves or do they want to partner up with local expertise through more of a franchise/joint venture? So I think in the case of Guess? (GES), it's a great example of combining a retail and wholesale strategy to enter some of the new markets and seeing very good results. The Asian market for them was up 43% in the second quarter, and Europe continues to grow, up 18% in local currency.
TWST: Many of the stocks in this space have been hammered. Generally speaking, what do you think of valuations right now?
Ms. Chen: It's definitely looking very compelling for many of the names that we feel are quality companies that investors can hold for the long term. J.Crew is an example of that, where it's one of the best brands out there and reaffirmed by the survey we conducted. You've also got companies like Urban Outfitters (URBN), which is quite similar in terms of growth profile longer term. And so I think those are definitely some of the companies we would look at. Another company would be Chico's (CHS). I think for investors willing to have even a slightly higher risk appetite of dabbling into the teen space, Aeropostale is a retailer that we believe is another core holding - not only because eventually their competitors, like Hollister and Abercrombie, cannot maintain that kind of price point because they'll just continue to see their margins deteriorate, but Aeropostale's value strategy is what they do on a daily basis.
TWST: What type of growth opportunities do you see? I imagine that J.Crew and Urban Outfitters would have similar projectories.
Ms. Chen: I think for J.Crew, in the foreseeable future you could see them grow square footage by at least mid-single digits, but earnings this year is expected to hit at least 17% this year. Urban, as you mentioned, shares very similar characteristics - square footage growth in the low-double-digits range, earnings in the 20% to 30% range. And then I think if you look at a company more like Aeropostale, we're looking at mid-single-digit square-footage growth and earnings of at least 12% to 15%.
TWST: You also mentioned Chico's. What do you like about that story?
Ms. Chen: I think they are the leading player for the slightly older missy customer, someone in her maybe 40s or 50s. They also have another concept called White House | Black Market that has been doing a good job of attracting the 20- to 30-year-old shopper. Management has really revitalized the marketing product design, and we're seeing margins really rebound from negative territory to hopefully hitting 10% this year. We believe longer term, we could expect that margin to get back into the mid-teens range, and so that's why we look at a company that can post 50% EPS growth this year, 30% EPS growth next year and yet trade at only nine times p/e, with almost $3 of cash per share and clearly trading at a discount because of the sentiment in the space.
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