Apparel retailers are sometimes difficult to follow, and they're certainly difficult to grow attached to. After all, the consumer's taste seems to change almost constantly. In addition, ebbs and flows in the economy can cause stock prices to swing dramatically. In spite of all that, I think The Gap (NYSE: GPS) deserves some inspection.
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Why It Fits Nicely
A quick look at Gap's five-year chart clearly demonstrates that the company has had its share of troubles over the past few years. However, the stock has made a respectable comeback, and I think it can head even higher. For those who didn't see it, the company released its third-quarter earnings, and several items in the release are worth pointing out.
First off, the company earned 44 cents a share, and that was 1 cent better than Wall Street expectations. This is big, as it had beaten expectations in the three quarters before that as well. Investors like to see consistency, and this attracts attention. However, it wasn't the only attention getter in the release.
Additional Share Buybacks Authorized
Interestingly for the period, Gap said it bought back 4.1 million shares, and it indicated in another release that its board of directors authorized an additional $500 million share repurchase program. The board is sending a positive signal. Management could have kept the money or invested it in inventory or advertising. Its actions indicate that it believes the shares are a value.
On top of that, the company's gross margin grew 380 basis points during the quarter. And that is good news, particularly in this environment. Keep in mind that although the company isn't considered to be a direct competitor, the prices that some of the major discount chains like Target (NYSE: TGT) and Wal-Mart (NYSE: WMT) have been offering are attractive, so competition for dollars and consumer traffic has been tough indeed. Beyond that, note that operating margins also rose compared to last year.
Valuation
Right now the company trades at 14.6 times this year's $1.50 estimate, which is attractive, too. For reference, American Eagle (NYSE: AEO) trades for about 20.3 times the current year's 75-cent estimate. Meanwhile, Abercrombie is trading at more than 36.7 times this year's $1.06 estimate. In short, I think Gap's relatively low forward price to earnings multiple is a plus. It makes me think that the downside could be limited should this market rally eventually run out of steam.
Bottom Line
Apparel retailers certainly are facing tough competition because of the slowing economy. But I am optimistic that Gap has upside potential. With it trading at an attractive forward price to earnings multiple, and with the company buying back shares in its recent quarter, I find it hard to pass up. (Read Analyzing Retail Stocks to learn about the most important metrics to look at when analyzing retail stocks.)
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