Through The Fly's Eyes: Aeropostale

from Laurie Pasternack of Theflyonthewall.com

Aeropostale’s Big Drop

Shares of Aeropostale (ARO) were sharply down yesterday after analysts at Caris downgraded the retailer to Average from Above Average. On the downgrade, shares dropped 8% at yesterday's close.

Despite rising sales in 1H07, where EPS increased 71% to 36c and revenue increased 13% to $587M, and shares reaching a record high in May of $31.88 per share, the teen retailer saw its shares drop a sharp 42% over the summer. Additionally, its same store sales fell in July, growing less-than-expected in August. The company also lowered its Q3 estimates back in August.

Because of this, it's not surprising shares were downgraded. Caris analyst Scott Birkby explained that shares were downgraded due to less transparency and greater uncertainty of the drivers of gross and operating margin expansion in Q4 and FY08. While he believes the company's Q3 guidance is "not at risk," he said that the Q4 and FY08 EPS views are too aggressive. Why? He said there may have been some sort of "fundamental changes" in the company's operating strategy that could lead to weaker -- or even negative -- SSS for 2H. At the very least, Aeropostale will face difficult comparisons to the year-ago period in 2H, Birkby said.

What's going on here? Sources indicate it may have something to do with "growing pains," or, that the company is looking to expand quickly. For instance, last year alone, the company, which already has 792 mall-based stores, opened 66 new stores. Birkby also said that the company is currently looking to reduce costs of products from its South Bay Apparel vendor, and is attempting to grow margins by operating in a "less promotional environment." This is a stark departure from how the retailer successfully grew margins a year earlier in 2006 when it placed more focus on offering more fashionable merchandise. Further, Birkby believes the company is facing pressure from opening a new distribution center on the West Coast, as well as higher build-out costs from a new store prototype.

Some are still optimistic on the stock. For one thing, shares are still cheap; in particular, shares are significantly cheaper than rivals American Eagle Outfitters (AEO) and Abercrombie & Fitch (ANF). Additionally, NYBusiness.com reported, the retailer may be in a better position than other rival chains to "withstand a softening in the economy and a downturn in consumer spending."

Aeropostale wasn't the only apparel retailer to fall yesterday. Shares of Talbots (TLB) dropped after Friedman Billings downgraded shares to Underperform from Market Perform on weak traffic. Talbots dropped 5.9% to $18.31. Also falling were Gap Inc (GPS), down 6c to $18.85 and Guess Inc (GES), down 1.7% to $51.63.