Mall Star Analyst
Come along as a top-ranked stock picker shows us what's sizzling and what's fizzling in the world of retail.
(FORTUNE Magazine) - It's a Tuesday morning in early February, and Bob Buchanan, dressed casually but expensively (black Prada shoes from Barneys, corduroy pants from Neiman Marcus, a Saks T-shirt), is exploring The Westchester, an upscale mall in White Plains, N.Y. Standing between the women's shoes and cosmetics on Nordstrom's main floor, amid rows of slingbacks and arrays of lip gloss, he looks more than a little out of place. But that impression fades quickly once he begins to speak. As the lead retail stock analyst for A.G. Edwards, Buchanan, 50, knows Nordstrom (Research) inside out, from the proportion of private label apparel in its overall mix (30%) to the brand of its inventory software (Oracle), which, he notes, is one key to the company's success. "They always know how many are in stock and how many are in transit," he says approvingly as he strides to the men's department, where he rifles through a stack of white dress shirts to confirm that the most popular size, 16½-34, is on hand.
The shirt-size test is just one way Buchanan takes the measure of a store. Like a retail Sherlock Holmes, he quizzes salespeople, queries shoppers, and counts cars in parking lots, looking for clues to how the stores and their stocks will fare in coming quarters. His outgoing personality and keen eye for detail help make him one of Wall Street's top retail analysts. For the past 12 months, he has posted the best record for stock picking in the multiline retail sector and the best earnings estimates in both multiline and specialty retailing, according to research firm StarMine.
Buchanan agreed to share some of his secrets during a four-hour stroll through The Westchester, which draws shoppers from the prosperous suburbs north of New York City. Along the way Buchanan pointed out new trends--the kind of fashions that really drive the bottom line--and in follow-up interviews gave recommendations on key retail stocks. Legendary fund manager Peter Lynch is famous for preaching that investors can make money buying what they know. As Buchanan's tour illustrated, being smart about fashion stocks involves a lot more than being able to assemble a trendy outfit.
"Blake gets it," declares Buchanan, praising Blake Nordstrom (the founder's great-grandson), who has turned the company around since taking over as president in 2000. Among other things, he has embraced new technology and improved the company's fashion sense. Buchanan thinks the company, which operates 98 full-line stores, can grow to 150. (It also runs 49 Nordstrom Racks and 37 FaĆ§onnable clothing stores here and abroad.) He expects the combination of technology, web sales, and improved pricing strategies will help push profit margins from under 10% to 13% or 14%. He sees the shares, now trading at $40, rising to $47 over the next 18 months. (Buchanan holds no stock in any of the companies he covers, but A.G. Edwards has investment banking relationships with many of them.)
"Are you ready to go from the sublime to the ridiculous?" Buchanan asks as he marches from Nordstrom toward a Gap (Research) outpost. He believes the once-hip San Francisco apparel chain has badly lost its way.
To size up a specialty retailer, Buchanan starts with three questions. First, does it make an emotional connection with its customer? Second, does it try to be all things to all people, or does it do one thing well? Finally, what he calls "the five-seconds test": When he stands in front of a display window, can he figure out almost instantly whom the retailer is targeting?
As we enter Gap, the bright fluorescent lighting and sterile displays pretty much rule out any emotional connection between store and shopper. The retailer is failing Buchanan's other tests as well. "Who is its customer, Elmer Fudd?" he jokes, holding up a green and purple argyle sweater. Gap has a classic case of retail confusion, he says: "It is trying to be all things to all people. It lacks focus." Buchanan even critiques the rips and stains on Gap's distressed jeans: "Very formulaic." He marvels that Gap hasn't come up with the right products to cash in on the current craze for jeans. "They missed the biggest swing in denim," Buchanan remarks. "And that's what they used to be good at."
What about the stock? Despite all his criticism, he rates it a hold. The company does have some strengths, he says, including improving technology and "global sourcing prowess." Also, the shares have taken a beating, so they may not have that much further to fall. At a recent $19, they sell at about 15 times estimated 2007 earnings. "I try to put sells on stocks before they get body-slammed," he says.
Our next stop is Buchanan's favorite place in the mall. "I'm not wild about anything now except Build-A-Bear," he says, heading straight for Velvet Teddy. "Feel how soft this is." Buchanan bounces around the store like a kid, outfitting his $15 Velvet Teddy with $5 red satin boxer shorts, a $12 sailor suit, and $7 black shoes. Such accessories add up quickly, bringing the average purchase at Build-A-Bear (Research) close to $34. According to Buchanan's estimates, that helps the chain pull in more than $600 in annual revenue per square foot of floor space. (For comparison, Gap, he says, is averaging $430.)
Build-A-Bear is the creation of Maxine Clark, a friend of Buchanan's, and he's an unabashed fan, calling her "one of the top five operators I've ever met." Even so, his initial rating was hold because the stock soared so fast after it went public, with A.G. Edwards' help, in 2004. He's changed his view. Buchanan sees growth coming from new store openings (30 to 35 shops a year) and expanding margins as the retailer gains clout with suppliers. He thinks the stock, now trading at $28, will climb to $41 over the next 12 to 18 months.
Directly across the mall's central corridor is the Limited Too. If any store should pass the five-seconds test, it's this one. It was the company's CEO, Michael Rayden, who taught Buchanan the technique. And indeed, as soon as we cross the threshold, there's no missing the fact that Limited Too is a clothing haven for tween girls.
"Mike is a great merchandiser," Buchanan says, noting that the clothes are grouped by color so "there's something for the 'blue girl,' something for the 'green girl.' " He also likes the denim skirts with lots of "bling" and colorful track jackets that are a "must-have" this season. Even so, he rates the stock a hold. "Mike has great products," he says, but the chain is averaging less than $300 a square foot in sales, and "it needs to establish an emotional relationship with the customer."
Always on the lookout for new opportunities, Buchanan decides to check out Anthropologie, a store geared toward twenty- and thirtysomething women. (It's owned by Urban Outfitters (Research), a company he doesn't cover.) At first Buchanan complains about the dim lighting: "If I am going to pay $100 for a pair of pants, I'd better be able to see them." But he soon changes his tune. "Look at how they bring an outfit together," he says, noting a glass-encased box with a matching gold belt and clutch lying near a flowing skirt. "More stores should do that."
Distinctive fashions and housewares are what set Anthropologie apart, he observes. The store sells clothes you won't find at run-of-the-mall shops, like intricately embroidered skirts and silk-chiffon blouses. Urban Outfitters co-founder and chairman Richard Hayne "is taking some chances and the customer is rewarding him for it," Buchanan says, noting that Anthropologie is averaging $600 a square foot in sales.
ABERCROMBIE & FITCH
Buchanan spends a few minutes trying on gear at a local surf and skateboard shop before finding retail nirvana at Abercrombie & Fitch (Research). "The presentation is perfect," Buchanan says as he assesses the country-club-meets-surf-bungalow surroundings. "Jeffries is very meticulous," he adds, referring to the company's 61-year-old CEO, Michael Jeffries. "He has a detailed planogram for how each store should look."
That extends to the employees, who seem to have jumped out of the retailer's provocative catalog. They make the rounds spritzing Fierce, the company's cologne, and turning up collars and rolling sleeves to produce the store's casual but controlled style. "They make big bets on a few select styles, and that tells me they have conviction," Buchanan says, pointing to baskets of plastic flip-flops and the retailer's new line of "artfully" distressed jeans.
With Madonna's new album blaring and the intense smell of Fierce hanging in the air, the shop can easily overwhelm the senses. But what mothers might detest, 16-year-old boys and girls seem to love. The company is coming off a record fourth quarter, with profits up 58% and sales up 40%. It is expanding all its offshoots: abercrombie, its younger tween chain; Hollister, which features surf-style clothes; and Ruehl, Jeffries' latest launch, a brand targeted at a slightly older crowd. Buchanan thinks the stock, now at $65, could climb 34% to $87. "Abercrombie will continue to be special as long as Mike Jeffries runs it," he declares.
There's a lesson in Buchanan's mastery of retailing data and intimate knowledge of fashions: If you're going to follow Peter Lynch's advice and buy what you know, you'd better know it really, really well. The Westchester is the seventh shopping center Buchanan has explored in the past ten days--an excursion that's taken him through four states and into perhaps 70 stores. After he catches a plane for his home in St. Louis, he'll take a day off before flying to Florida for another round of mall visits. Does he ever get tired of the pace? "I really like to shop," he says. "And if you are going to gain an edge, you need to walk more stores than your competitor. I'll know my career is over when I start driving past the mall."
A Super-Shopper Sizes Up the Retailers
Despite January's surprisingly strong retail sales figures, Buchanan isn't wildly enthusiastic about the outlook for the sector right now. Among his concerns: rising interest rates, new rules requiring higher minimum credit card payments, and the pinch consumers are feeling from energy costs. Even so, there are several names in the industry that he thinks can post impressive gains. Here is his take on five stocks discussed in the story and five other key retail players.
Prices as of Feb. 17.