U.S. consumers between the ages of 12 and 17 spent a total of over $200 billion in 2011, according to consulting firm Packaged Facts. In 2012, The Deal magazine pegged individual teen spending at an average of $4,000 a year. Of that, $1,150 was spent on clothing—and that figure seems likely to rise as the economy recovers.
The caveat for investors: teens are the most fickle consumer group. When a hot new product comes along, they can change their spending patterns in the blink of an eye. That gives chains that can tap into the next big trend the potential to take off seemingly overnight, while those that miss the boat, or simply fall out of fashion, quickly run into trouble.
Aeropostale Was a Teen Favorite During the Recession
Teenagers were one of the hardest-hit groups during the recession. According to Advertising Age, teen spending was down by about 14% in the spring of 2009 from the previous year, partly due to a sharp rise in unemployment among younger workers. In November 2009, the jobless rate among young people soared to 27.6%, as the tough economy forced more adults to compete for the lower-skilled jobs that teens typically fill.
The conditions were perfect for retail chain Aeropostale (NYSE: ARO), which currently operates 984 stores in the U.S., Puerto Rico and Canada, as well as 103 P.S. from Aeropostale outlets, which focus on seven to 10 year olds.
The chain took market share from competitors like Abercrombie & Fitch (NYSE: ANF) and American Eagle Outfitters (NYSE: AEO) during the recession by focusing on basic-yet-fashionable clothes at significantly lower prices—sometimes 30% to 50% lower.As a result, Aeropostale’s sales soared 50.1%, from $1.6 billion in its 2007 fiscal year to $2.4 billion in fiscal 2010. Profits more than doubled, from $1.15 a share to $2.49.
The stock also took off, from $9.33 a share in late November 2008 to $29.37 in September 2009—for a total gain of over 215% in less than a year. The shares broke through that ceiling again in April 2010, but they’ve mostly drifted lower since, including a 32% plunge on August 2, 2012, after the company lowered its second-quarter earnings forecast. Aeropostale now trades around $14.
Competitors Have Moved Ahead of Aeropostale
The reason? As the economy started to show signs of life, teens shifted toward more fashionable clothing and away from basics. Aeropostale’s annual sales have been stalled at $2.4 billion in its last two fiscal years, while earnings slipped to $0.85 a share in fiscal 2011 and to $0.43 in fiscal 2012.
In its latest quarter, Aeropostale posted a net loss of $700,000, or $0.01 a share, compared to a profit of $26.1 million, or $0.32 a share a year ago. Without goodwill writedowns in both quarters, it earned $0.24 a share, down from $0.44.
Sales dipped 1.3%, to $797.7 million. Excluding the company’s website, same-store sales fell 9%, matching the year-ago decline. Online sales continue to be a bright spot, however, rising 16% from a year ago.
Despite the declines, both revenue and earnings topped the consensus forecast of $0.23 a share in adjusted profits on $779.7 million of revenue. Gross margins narrowed to 19.8% from 24.3%.
In the current quarter, the company expects to report a loss of $0.15 to $0.20 a share, down from a $0.13-a-share profit a year ago and far short of the $0.08-a-share profit that analysts expected. Aeropostale attributed the wider loss to a glut of unsold inventory and the tough economy.
The company is now working on revamping its clothing lineup, but it’s whether that will be enough to win back teens’ loyalty is far from certain.
Takeover Talk Spurred Stock
The stock fell over 5% on the lower guidance, though it regained some of that ground on March 18 due a Bloomberg story that suggested Aeropostale could become a takeover target for a private-equity firm.
Bloomberg quoted analysts from Jeffries & Co., who based their analysis on the fact that Aeropostale continues to generate positive free cash flow and is currently valued at just 0.46 times its 2012 revenue. It also has a healthy balance sheet, ending 2012 with cash and equivalents of $231.5 million and no debt.
That would make Aeropostale well-suited to a leveraged buyout similar to Michael Dell’s plan to take Dell Inc. (NasdaqGS: DELL) private. Under a leveraged buyout, purchasers use a company’s asset value to finance most or all of the debt they take out acquire it.
Based on a recent deal from private-equity firm Sycamore Partners for fellow teen retailer Hot Topic (NasdaqGS: HOTT), Aeropostale could attract an offer in the range of $20 a share, a 43% premium on its current price, according to Morningstar.
The hitch? The company’s current troubles could make it too hard for a private equity firm to turn around in a reasonable amount of time. “Private equity wants more bang for their buck,” said Stifel Financial analyst Richard Jaffe. “You don’t have a growth story here.”
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