Investing in Aeropostale (NYS: ARO) is nice when things are good, but when things go wrong, it's time to run for the hills. Thursday's second-quarter results put everyone squarely in the latter frame of mind, and the stock is down nearly 10% since. The question is: Can the company get back on track, or is this the beginning of a long slide into oblivion?
Dear teenagers, please just choose one
Aeropostale caters to a fickle group, which is reflected in the stock's performance over the past few years. Just looking at the highlights, the stock price hit $23 and $9 in 2008, ran up to $29 in 2009, then back below $10 in 2011, up to $23 again this year, and now sits at $12 and some change. I can't imagine anyone is having fun on that rollercoaster. But teen fashion comes and goes, and Aeropostale just hasn't been able to lead the pack for any period of time.
Recently Gap (NYS: GPS) has made a comeback, and Aeropostale should be taking notes. Instead of trying to cater to whatever was popular, Gap has been working to give its brand meaning again. The move is paying off -- so far. In the last quarter, same-store sales increased 4%, while over at Aeropostale, comparable sales dropped 1%. The growth is reflected in the stock's valuations, with Gap trading at a forward P/E of 15 and Aeropostale lagging at 10, which still seems a bit high -- and I'll tell you why.
Keeping up with the Joneses
Aeropostale has suffered from its inability to move merchandise while the trend is still hot. That's due to the fact that it's been a trendchaser, instead of a trendsetter. The market for t-shirts and "core basics" has become so saturated that the company had to run more aggressive pricing promotions for the items, to get inventory in line with expectations. The remedy for this plight is to increase the speed at which the company can bring core items to market, allowing it to "chase best sellers," according to CEO Thomas Johnson.
That's not the way I like my apparel companies to operate. I'd rather they made best sellers, giving them market dominance right out of the gate. Remember when people only wore athletic apparel to work out? Lululemon athletica (NAS: LULU) turned that trend on its head and made workout clothing fashionable. Now, everyone from Gap to Target is jumping on the trend. Gap might be leading the way in basics, but it's chasing Lululemon with its own Athleta brand.
As a result, Lululemon is able to name any price it wants for its clothes, only rarely having to discount them. Last quarter, gross margins came in at 55%, and the company stores increased comparable sales by 25%. That's the power of naming your own price. For investors, it means being at the head of the curve, if you get in early. Once the trend catches on, we play catch-up, just like competitors. Lululemon's forward P/E is now 30, which is rather rich.
The great divide
Looking at ratios across the board, it's clear that Aeropostale is playing in a different league. Like Lululemon, many of the high-end trendsetting companies trade at high P/Es, while the trend followers like Aeropostale sit at the lower end. The difficulty for investors is finding the right balance of growth potential and stability. Growth comes from setting trends, while stability often comes from being able to follow trends without chasing ever new style, every season.
For stability, I can't get enough of Buckle (NYS: BKE) . The company sells jeans through its retail locations, and has been slowly growing its operation for decades. The CEO joined the company as a salesman in the '70s, and worked his way up through the ranks. Without trying to jinx it, Buckle is the retailer I reference most often when I'm talking about sustainable growth. Over the first half of this year, same store sales are up 4%, with revenue up 6%. Stability isn't very sexy, which is why Buckle's forward P/E is a manageable 12.
The bottom line
Looking at the range laid out here, we've got three different ways to get in on apparel retail. You can buy into the rock-solid-but-boring Buckle to play it safe. You can get rocket-boosted growth from Lululemon, though you're going to pay the price for that potential. Or you can try to strike a balance with Gap. But there is no reason I can see to buy Aeropostale. The company is a long way off from having its act together, and the trends aren't looking good.
I'm sold on Gap these days. While Buckle will continue to have a place in my heart, Gap is on a nice rebound, and I continue to be impressed with the work that it's doing. While it didn't make the list this year, Gap could easily be in next year's "Middle-Class Millionaire-Makers" report. The Fool has focused on three stocks that the big boys are overlooking, because the companies are too small or boring. But you can get all the details in this free report.
The article 1 Stock to Avoid Like Bellbottoms originally appeared on Fool.com.
Fool contributor Andrew Marder doesn't own any of the stocks mentioned in this article. The Motley Fool owns shares of Lululemon and Aeropostale. Motley Fool newsletter services have recommended buying shares of Lululemon and Buckle. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.
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