Street Patrol
Recent articles:
• Magic isn't enough for Harry Potter publisher, 9/23/2005
• Can FedEx keep on delivering for investors?, 9/22/2005
• Allstate's storm-damaged stock is a buy, 9/12/2005
More...
| | Street Patrol
Blue-jean sellers strike a blue-chip pose
Denim inventories are up, sparking shareholder fears of a jean glut and price cuts. But investors should never bet against resilient consumers or oblivious teens.
By Robert Walberg
Since early July, apparel retailers have been singing the denim blues. Investors have given the fashion-fixated teen retailers the boot amid fears that mounting denim inventories will create a jean glut and force price cuts later this year.
Of the seven stocks I looked at for this article, the average decline from recent highs is a heart-stopping 31%. In light of the big declines, I expected to discover a series of profit warnings and earnings downgrades. But that wasn't the case -- at least not for most of the companies.
To the contrary. As a group, the seven companies are projected to post average annual earnings growth of 26% in fiscal year 2006. Earnings are expected to continue growing at a respectable double-digit pace of 16% again in 2007.
My take: The current fears regarding the denim glut are exaggerated, making this a great buying opportunity. That runs counter to Wall Street's worry that analysts are simply waiting for a bit more data before taking the knife to future earnings estimates.
Not-so-riveting results
Some of that data may be in the retailers' sales reports for September. Early indications on this front are mixed. American Eagle (AEOS, news, msgs) recently issued a profit warning for the third quarter due to what it called "inconsistent" store traffic in September. The company put its same-store sales growth for stores open at least one year at 11% -- good by most standards, but below expectations. Management now expects to earn 43 cents to 44 cents a share, down from its earlier estimated range of 45 cents to 46 cents.
Also issuing a distress signal was bebe stores. (BEBE, news, msgs). The company noted that same-store sales growth of 16.9% in August was below expectations of 21%. Management noted that same-store sales in its fiscal first quarter were likely to run in the high teens rather than the low 20s. Despite the sales warning, the company maintained its earnings outlook. Wall Street expects bebe to grow earnings by 22.5% in fiscal 2006 and 18% in 2007.
More from MSN Money
These warnings came on the heels of lowered guidance from Aeropostale (ARO, news, msgs), which cited merchandising missteps for its weak results. The company is now expected to see a 4% drop in earnings in fiscal 2006. However, earnings are projected to jump by 25% in fiscal 2007.
Inventories in the most recently completed quarter grew by 32% compared with a year ago, with the biggest gains coming from Aeropostale (64%) and Abercrombie & Fitch (ANF, news, msgs) (72%). If the retailers are correct and the demand for denim among teenage and fashion-forward shoppers remains strong for the balance of the year, then the added inventory will prove to be a positive.
If not -- and with energy prices rising and consumer confidence falling, it's easy to see why investors expect demand for jeans to sag -- then bloated inventories will lead to more aggressive markdowns, which in turn will lead to lower profit margins and softer earnings.
Counting on the consumer
But it's still too early to determine if consumers are going into the tank before the crucial holiday shopping season. Despite recent negative headlines, job growth is up, real-estate values continue to climb and income levels are holding their own. More uncertain is whether teens -- often oblivious to macroeconomic issues -- will slow spending or dump denim and move on to the next hot thing.
No question rising inventories are worthy of concern. However, if there is one thing I've learned in my 18 years in this business, it is this never, ever underestimate the American consumers' ability and willingness to spend.
With these stocks down an average of 30% despite generally positive earnings and sales trends, investors should forget about cheap denim and buy the cheap stocks. The group currently trades at an average of 15.4 times this year's estimated earnings, and earnings for the group are projected to grow by 26% next year. Even if those estimates get trimmed, at these prices most of the potential for bad news is already reflected in the stock prices.
Three candidates most worthy of consideration are bebe stores, American Eagle and The Buckle (BKE, news, msgs). First, the inventory trends at these stores are decent to positive. Second, each is enjoying strong sales growth with an attractive merchandise mix. Finally, all three have positive cash flows and strong balance sheets. I'll add all three to my portfolio as of today, thereby replacing the housing stocks that I jettisoned last week.
At the time of publication, Robert Walberg did not own or control shares of companies mentioned in this column.
|
