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Weakness at Gap's `Golden Brand' Puts Spin Off in Question

Old Navy’s first quarter same-store sales went down for the first time in three years.

(Bloomberg)—Gap Inc.’s planned Old Navy spin off -- widely viewed by investors as a much-needed catalyst -- is being called into question by nearly all but the most bullish analysts after a quarter where all three brands posted negative comparable-store sales.

This degree of slowing at the Old Navy “golden brand," which has “fueled profitability for the total company over the last several years” couldn’t have come at a worse time and “calls into question both the likelihood and valuation” of the spinoff, Wedbush’s Jen Redding wrote.

Old Navy’s first-quarter comparable sales were negative for the first time in exactly three years and Gap brand’s 10% comps. drop was the worst in four years. Results sent shares plunging as much as 17% on Friday to the lowest level since May 2016. Gap is now down 32% this year and is the second worst performer in the S&P 500 Retailing Index, behind Nordstrom Inc.

Here’s what analysts are saying after the quarterly report:

RBC Capital Markets, Kate Fitzsimons

With a “tough start” to the beginning of the year, “questions remain on whether the complexity of executing a spin in the current environment and a Gap turnaround is too much.”

Gap brand’s 10% comp. sales decline was the weakest since 1Q15, but “impressively,” profitability was up y/y on both the gross margin and operating expense side.

“Trading at ~$18 after hours, Old Navy sum-of-the-parts provides interesting valuation case, but weaker 2Q trends, 2H-hockey stick, and tariff overhang make it hard to step in.”

Rates sector perform, price target to $22 from $26

Bloomberg Intelligence, Poonam Goyal

Gap’s weak results “raise questions about its ability to drive a sustained turnaround. While cooler temperatures and a later Easter may be to blame, the sales miss signals broader woes.”

“A slashed full-year outlook, beyond 1Q’s miss, implies continued weakness across all banners.”

Nomura Instinet, Simeon Siegel

“With the retail sector at large facing meaningful headwinds this quarter, GPS’ 1Q miss (notably a negative Old Navy comp), FY guide down and excess inventory weighed on shares and continued to stress investors’ perceptions of the strategic spin off set to occur next year.”

“Although, like many others, shares appear ‘cheap,’ we remain neutral as we await clarity around stabilization and return to growth.” Cuts price target to $22 from $32.

Jefferies, Randal Konik

“We see 2H comp and margin trends improving as management works to correct assortment and profitability issues.” Plus, Gap brand faces “very easy” sales and margin comparisons going forward and the closure of “hundreds of money-losing Gap stores also improves the divisional margins.”

“We see a bottom forming, and we are unchanged in our view that Old Navy is a crown jewel worth more than the market cap of the enterprise today.” “We are buyers of weakness.”

Konik has a buy rating, cuts price target $40 (still a street high) from $50.

Telsey Advisory Group, Dana Telsey

“The first quarter performance is a disappointment, and of course the approach to a spin-off is not ideal timing for merchandising missteps at Old Navy. In addition, inventory is elevated, which looks to lead to further margin pressure in the coming quarter, while May is off to a slow start in the space across the board.”

With that said, Gap brand’s profitability “actually improved” amid merchandise margin expansion and cost controls and Telsey continues to believe the Old Navy brand is “well-positioned with a compelling value-oriented fashion offering for the entire family.”

The Old Navy brand deserves a higher multiple than where the combined company trades now given that a majority of the of the total company earnings is derived from the brand. “We therefore continue to see the Old Navy spin off as a potential catalyst.”

Rates outperform, price target to $27 from $40

B.Riley FBR, Susan Anderson

“Still work to be done on the Banana Republic assortment.”

“We remain on the sidelines until we see stabilization and improvement in operating performance across GPS’s core brands.”

To contact the reporter on this story: Janet Freund in New York at [email protected] To contact the editors responsible for this story: Catherine Larkin at [email protected] Steven Fromm, Morwenna Coniam


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