 Gap's belt-tightening keeps shares in vogueSales at the retailer's stores have declined for a staggering 10 consecutive quarters, but shares have spiked on stronger cost-management, says Fortune's Suzanne Kapner. (Fortune) -- Gap Inc.'s fashions are hardly topping consumers' shopping lists this holiday season. But that shouldn't stop investors from taking a closer look at the company's stock, which has been soaring, even as shares of other major retailers hit the skids. The secret behind Gap's gravity-defying stock price -- which rose 15 percent in the last three months, while the S&P Retail Index has seen 11 percent drop -- is a hawk-like focus on expense reduction. Gap (Charts, Fortune 500), which operates the Gap, Old Navy and Banana Republic chains, has slashed its workforce, reduced office space and trimmed inventories, all of which should help the company report third quarter earnings on Wednesday of 28 cents a share, midway between its upwardly revised range, according to analysts polled by First Call. Moreover, analysts expect Gap to stick with its full-year guidance of 83 cents to 88 cents a share, well above the 76 cents to 86 cents a share the company initially projected. The cost savings from many of these initiatives are just starting to flow to the bottom line, and analysts expect the benefits to carry the company well into next year. "This is not even close to being played out, " said Mark Montagna of CL King Associates. Gap's focus on paring expenses couldn't be more timely, as consumers, worried about the falling value of their homes and an uncertain economic environment, are moving to curtail spending. The slowdown has already derailed the holiday shopping forecasts of several major retailers, including Talbots, J.C. Penney (Charts, Fortune 500), Kohl's (Charts, Fortune 500) and Macy's (Charts, Fortune 500) -- all of which have lowered expectations over the past week for the crucial fourth quarter. So far this year Gap has eliminated 1,600 jobs, or about 1 percent of its workforce, which will translate into $100 million in annual savings. The company also plans to sublet about 380,000 square feet of office space, mainly in its San Francisco headquarters. Perhaps even more importantly, Gap is trimming inventory to match slower sales growth. While other retailers were caught flatfooted by the retail slowdown and have bloated inventories heading into the fourth quarter, Gap should be in a much leaner position. Lehman Brothers analyst Jeff Black estimates that when Gap reports earnings, the company will show a mid-single digit decline in inventory, roughly in line with sale decreases. Less inventory means fewer markdowns, which can help profits when sales are slowing. "Gap is one of the few retailers realizing better merchandise margins by managing inventory to current sales growth rates," Black wrote in a recent research note. Skeptics will rightly argue that cost cutting can only go so far. Over the longer term, Gap needs to once again kick start sales. Despite a renewed effort on creating more stylish, trendy apparel -- including the recruitment of top designers like Todd Oldham, who was recently named creative director of Old Navy -- there is no guarantee Gap will regain lost ground. The company has suffered a stunning loss of customers. Sales at stores open at least a year have declined for 10 consecutive quarters, including a 5 percent drop in the most recent three month period. Gap has tried in the past to breath new life into its merchandise, but those efforts, largely spearheaded by former chief executive Paul Pressler, resulted in little more than false starts. Though Pressler was credited with cleaning up the company's balance sheet and paying down debt, he lacked the creative flare and gut instinct needed to keep an apparel retailer on the cutting edge. It remains unclear whether new CEO Glenn Murphy, who was installed in July, has the creative chops needed to get Gap back on track. He hails from drug store retailing, which bears little similarity to the trend-driven world of apparel. Murphy has told analysts that he expects the new design leadership at the helm of the Gap and Old Navy chains to start delivering results as early as this spring. Until then, Gap's belt tightening looks set to keep the company in fashion. |
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