Best-Case Scenario for This Retailer

For this clothing retailer, 2012 has lived up to its apocalyptic forecast. Same-store sales have dropped more than 10% year over year, the company's CEO was ousted (and has yet to be replaced), and there have been multiple shifts in strategy in just a few years. Now, with the help of an activist investor and some fresh blood, the company has some options -- including selling itself. The question is, which path leads to the greatest appreciation in shareholder value?

A slippery slope
About 13 months ago, Wet Seal (NAS: WTSLA) began its downward spiral that has resulted in more than 60% of its market value vanishing. During that time, sales have dropped, dropped, and dropped some more. Since the first quarter of 2012, the top line for the company has shot down 21%. Following a dismal second-quarter earnings release and a nasty racial discrimination lawsuit, the company's then-CEO, Susan McGalla, stepped down after only a year and a half of running the beleaguered teen retailer. Since then, the company has been run by board members -- until now.

One shareholder with a substantial interest in Wet Seal is private equity shop Clinton Group. Clinton owns around 7% of Wet Seal --making it the third-largest shareholder. The investment group has been on Wet Seal's case for some time, calling for changes in high-level management and now for a sale of the company. So far, Clinton has been successful in getting what it wants.

Just last week, after a flip-floppy battle between board and investor, Wet Seal Chairman Hal Kahn and three other directors were tossed out of the boardroom in favor of what Clinton believes are more experienced, top-tier retail players. I have to agree with Clinton; the new roster is impressive:

  • Mindy Meads -- Former co-CEO of clothing retailer Aeropostale (NYS: ARO)

  • John Mills -- Former COO of Aeropostale

  • Dorrit Bern -- Former CEO of Charming Shoppes

  • Lynda Davey -- CEO of investment bank Avalon Group

For those with any interest in the retail sector, Aeropostale is no stranger. The company is often cited as a possible value play, given the billion-dollar market cap compared to analyst estimates of nearly $2.5 billion in revenue for the year. And shares are down more than 30% since late this summer. Aeropostale focuses on its namesake brand for teenagers and pushes deep discounts.

Charming Shoppes is the parent company of clothing lines such as Lane Bryant and Catherines Plus. I tend to like specialty retailers more than the generalists as they attract a more loyal following and sell products that are harder to move on the Web.

For a turnaround story, Wet Seal is now well positioned with a deep roster of retail experience in discount and teen clothes.

Not the only rock sliding downhill
To be fair to Wet Seal, it's not the only one suffering. Fellow teen retailer Abercrombie and Fitch (NYS: ANF) has experienced similar droughts in its stores, and the company is far off its 52-week high of $77.49, down to $33.63.

To oversimplify, Wet Seal is operating in a weak bricks-and-mortar retail environment that is constantly being overturned by Web-based retailers. To top that, it sells its products to teenagers -- the least reliable retail demographic group ever, with tastes that change faster than Madonna at the Superbowl.

The Clinton Group wants the company to choose a new CEO -- which is likely to happen given its strong board representation -- and then to be sold off to the highest bidder.

In my opinion, this is the safer option, with guaranteed upside for current shareholders. A turnaround is possible as well, and intriguing given the new talent in the C-suite. With the company trading as cheaply as it is, there could be substantial upside if sales can switch direction and tick back up. This, though, is more speculative and runs the risk of becoming a value trap.

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Fool contributor Michael Lewis has no positions in the stocks mentioned above. The Motley Fool owns shares of Aeropostale. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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