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Specialty Numbers: Gap Stars as Markdowns Hit Competition

Gap Inc. scored twice on Thursday, once with strong second-quarter earnings and again by coaxing Patricia DeRosa out of her retirement.

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Missy Elliott and Madonna pointed the way to Gap stores

Missy Elliott and Madonna pointed the way to Gap stores.

Photo By WWD Staff

NEW YORK — The turnaround is now official.

Gap Inc. struck a chord with its cords, enabling the nation’s largest apparel specialty retailer to complete a full year of earnings improvements in the second quarter.

The San Francisco-based company tripled its net income in the 13 weeks ended Aug. 2 to $209.3 million, or 22 cents a diluted share, reaching the high end of its earlier forecast and passing Wall Street’s best guess by 1 cent. That represents a 268.6 percent increase over the prior year’s income of $56.8 million, or 6 cents, and marked its fourth consecutive earnings increase.

Others among the many specialty retailers reporting results Thursday weren’t as fortunate. Limited Brands’ earnings improved despite softness in its apparel stores, but Charming Shoppes’, pressured by continuing aggravation at Lane Bryant, fell. Wet Seal weathered an eight-digit loss, as expected, but Aeropostale reversed a year-ago deficit.

Gap’s results left little room for interpretation or qualification, however. Summer marketing helped strengthen customer traffic, particularly at Gap and Old Navy, while better product assortments and inventory management resulted in more merchandise being sold at slightly better margins than during the same period last year, the company said.

In reporting a 9 percent increase in July sales, Gap said it expected earnings ranging between 20 and 22 cents.

Total sales for the quarter were $3.69 billion, representing an increase of 12.7 percent over the $3.3 billion reported for the same period last year. Comparable-store sales increased 10 percent, compared with a decrease of 7 percent in the second quarter of the prior year, and all divisions reported increases — 11 percent at Old Navy, 9 percent at Gap and 5 percent at Banana Republic.

Upgrading Gap to “buy” from “hold,” Todd Slater, a retail analyst with Lazard Frères, wrote in a research note that, while many specialty retailers, including Abercrombie & Fitch and American Eagle Outfitters, are struggling to find their fashion compass, “Gap seems to be invested in the right categories [corduroy, basic denim and lightweight, wear-now twill and canvas]. While other retailers are taking early markdowns on transitional and back-to-school inventory, a sign of early distress, Gap does not seem to be taking many unplanned markdowns, an indication that its assortments are selling at full price.”
With more customers spending more money in its stores, Gap chief financial officer Byron Pollitt was enthusiastic in describing what drove the numbers. “The second-quarter results reflect continued momentum in our business. Our performance further demonstrates our ability to generate strong earnings and comps when we effectively execute against our strategy,” he said.

It came down to meeting the public’s expectations, he said. “We delivered a better experience for our customers. We are working to ensure that top-line success translates into bottom-line growth.”

Dana Telsey, a retail analyst with Bear, Stearns, said, “They are making progress in product and advertising and with Leo Burnett, and they are targeting the customer that is appropriate for each brand.” Leo Burnett USA is a strategic branding partner for the Gap and Banana Republic brands.

“The Gap’s recent fall delivery, invested heavily in corduroy and basic denim, appears to be working,” wrote Lazard Frères’ Slater, adding that recent marketing efforts featuring Madonna and Missy Elliott appear to be attracting older, as well as younger, shoppers.

Gap, which operates 4,230 store concepts at 3,095 locations, decreased net square footage by 1 percent in the quarter and it reiterated its guidance for 2003 of an expected 2 percent decline in square footage for the full year.

For the first half, income catapulted 340.6 percent to $411.8 million, or 44 cents a diluted share, versus income of $93.5 million, or 11 cents, reported in the corresponding period last year. Sales for the six months surged to $7.04 billion, an increase of 14.3 percent over sales of $6.16 billion for the same period last year, and increased 11 percent on a comp basis.

LIMITED BRANDS

Despite ongoing problems in its apparel business, Limited Brands continues to sizzle at Victoria’s Secret and is beginning to show signs of life at Bath & Body Works, as its second-quarter profits climbed 22.5 percent.

Its anemic apparel business, however, is about to receive a promotional makeover.

The Columbus, Ohio-based specialty retailer said net income rose to $102 million, or 19 cents a diluted share, for the three months ended Aug. 2, ahead of its initial expectations and 3 cents ahead of Wall Street’s average estimate of 16 cents. That compares with earnings of $83.2 million, or 16 cents, in the year-ago period. Sales for the quarter were $2.01 billion, a 5.3 percent increase over sales of $1.91 billion, and same-store sales rose 3 percent.
Victoria’s Secret’s comps rose 6 percent, and operating income increased 20.7 percent to $174.9 million from $144.9 million. B&BW comps rose 4 percent and operating income rose 66.2 percent to $52.2 million from $31.4 million.

Meanwhile, the apparel group’s comps were flat and it lost $2.8 million, reversing year-ago profits of $3.3 million. Express’ comps rose 1 percent while Limited stores fell 4 percent.

The company also said August sales have been below plan at its apparel group and overall comps have been trending somewhat below its plan for low-single-digit growth. However, LB said it is comfortable with the third- and fourth-quarter consensus estimates of 4 cents and 74 cents, respectively, which represents earnings growth of 13 percent for the fall, and is predicated on low-single-digit comp growth.

To make up for the August shortfall, LB chief financial officer Ann Hailey said on a morning conference call that the retailer, beginning in September, will revise its markdown cadence, moving away from discounting entire stores and instead focusing on key item promotions. These will be supplemented by regular sales in which distressed inventories would be cleared if necessary.

“We are trying to back off of day-in and day-out discounting of the entire store, so we are making money on the best items instead of discounting everything equally,” Hailey said.

On the call, Grace Nichols, president and chief executive of VS stores, said beauty sales beat plan and June’s semiannual sale was successful even as full-priced products moved well.

On the other hand, Michael Weiss, president and chief executive of Express, said strength in knit tops, jeanswear and other key items was offset by weakness in sweaters, wovens and accessories.

Denim, he said, got off to a slow start in July with a negative 1 percent comp. Core products met expectations, but novelty denim sales did not.

For the first half, LB’s income rose 49.9 percent to $199.5 million, or 38 cents a share, compared with $133.1 million, or 26 cents. Excluding nonrecurring items, income would have fallen 5.4 percent to $151.8 million, or 29 cents, compared with $160.5 million, or 30 cents. Sales for the six months increased 3.9 percent to $3.86 billion from $3.71 billion.
CHARMING SHOPPES

Ongoing difficulties at its Lane Bryant brand offset incremental cost-cutting benefits, as Charming Shoppes posted a 26.8 percent reduction in second-quarter profits.

The Bensalem, Pa.-based specialty retailer of plus-sized apparel said income for the three months ended Aug. 2 receded to $18.6 million, or 15 cents a diluted share, including a 3 cent expense related to its cost reduction plan. That compares with income in the year-ago quarter of $25.5 million, or 20 cents. Sales for the quarter decreased 5.1 percent to $605.5 million from $638.3 million and dipped 1 percent on a comparable-store basis.

“We began to realize the benefits of our cost-reduction initiatives, which enabled us to exceed our earnings projection this quarter,” said Dorrit Bern, chairman, chief executive and president of the 2,240-unit chain.

However, she said, the disappointing performance at Lane Bryant more than offset the comp increases at its Fashion Bug and Catherine’s Plus Sizes stores. By division, LB’s comps, which have been negative since July 2002, fell 9 percent, offsetting gains at FB and Catherine’s of 3 and 4 percent, respectively. In the quarter, LB’s sales accounted for 36 percent of the company’s, compared with 50 percent at FB and 14 percent at Catherine’s.

The company reaffirmed its break-even earnings expectations for the third quarter, assuming a midsingle-digit comp decline in August and improving to flat comps for the quarter.

Bern said she expects LB’s comps to turn positive by the end of the third quarter, driven by a new wear-to-work floor set called Metroline.

For the first half, CS reported earnings of $28.3 million, or 24 cents, including a 5 cent cost-reduction charge. In the year-ago period, it reported a loss of $6.4 million, or 3 cents a diluted share. However, before the negative effects of an accounting charge last year, the firm recorded income of $42.7 million, or 34 cents. Sales for the six months decreased 7.8 percent to $1.17 billion from $1.27 billion and dropped 4 percent on a comp basis.

THE WET SEAL

Struggling to gain sales traction, The Wet Seal Inc. logged a net loss of $13.4 million, or 45 cents a diluted share, in the 13 weeks ended Aug. 2. The deficit matched the low end of the earnings guidance the firm provided on July 10 and was 5 cents below consensus estimates. The loss comes against net income of $3.7 million, or 12 cents a share, in the year-ago quarter.
As reported, sales declined 13.8 percent to $126 million from $146.2 million in the period and comps slid 19.8 percent. While declining throughout the quarter, comps improved somewhat as the second quarter unfolded. May comps declined 25 percent, while June’s were off 21.5 percent and July’s 12.9 percent.

Walter Parks, executive vice president and chief administrative officer of the Foothill Ranch, Calif.-based specialty chain, said in a statement, “We continue to focus on streamlining operations and capturing additional savings to bring our cost structure more in line with current sales.”

The company continues to struggle with merchandise missteps in the core Wet Seal division, according to Peter Whitford, chief executive officer.

There have been positive trends in bottoms and strong indications that activewear will perform for back-to-school, the ceo noted. “But the success is tempered with tops,” Whitford said, estimating that about half of the tops business – synthetic printed and sheer tops — is underperforming and taking a backseat to knits. Anything not working will be “aggressively” marked down, he said.

As reported, Wet Seal on Wednesday named Allan Haims president of the Wet Seal division and Victor Alfaro its senior vice president and creative director. As Alfaro will join the company in early September, his merchandising influence isn’t likely to be felt until next year.

“Victor Alfaro will make Wet Seal the business of choice for the fashion-savvy teen,” Whitford said.

In other news, Steven Strickland, the company’s senior vice president of creative marketing, resigned for personal reasons. Whitford said a replacement will be appointed soon.

For the third quarter, the company expects a net loss of between 22 and 26 cents per share.

For the six months, the net loss tallied to $21.9 million, or 74 cents a diluted share, versus net income of $12.4 million, or 39 cents. Sales plummeted 17.5 percent, to $249.7 million from $302.8 million, and comps contracted 22.8 percent.