February 5, 2023

Clothing company Gap (GPS) recently witnessed a rally. However, with lingering macroeconomic uncertainties around rate hikes, let’s see if the stock has what it takes to deliver sustainable returns….

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The Gap, Inc. (GPS) is a specialized clothing company offering clothing, accessories and personal care products for women, men and children. The global and omnichannel retailer markets its offerings under the Old Navy, Gap, Banana Republic and Athleta brands.

Despite losing 17.7% year-to-date to close out the last trading session at $15.15, the stock is currently trading above its 200-day moving average of $11.30, indicating potential downside risks.

However, with the possibility of the Fed eventually raising benchmark interest rates significantly above expectations with each release of economic data, an end to the current economic uncertainties does not appear to be in sight.

So let’s take a closer look at whether the basics make GPS worth investing in.

Weak finances

For the fiscal third quarter of 2022 ended Oct. 29, GPS’s non-GAAP gross profit declined 5.4% year over year to $1.56 billion. The company’s gross margin for the period was 38.7%, down from 41.9% in the same quarter last year. Operating income also fell 8.2% year over year to $156 million.

GPS’s total assets were $12 billion as of October 29, 2022, compared to $12.78 billion as of October 30, 2021.

Gloomy estimates from analysts

Analysts expect GPS revenue to decline 5.6% year over year for the fiscal year ending January 2023 to $15.73 billion. The company is expected to report a loss of $0.13 per share during the same period, compared to earnings per share of $1.44 during the previous fiscal year.

Inefficient use of assets by management

GPS’ backlog of 12 months return on equity of 2.05% is 84.1% lower than the industry average of 12.92%. The company’s lagging 12-month net profit margin of 0.35% is notably lower than the industry average of 5.05%, while its lagging 12-month return on total assets of 0.46% is 89.5% lower than the industry average of 4.36%.

Unenviable track record

Over the past three years, GPS revenue has shrunk to a CAGR of 0.9%, while EBITDA has fallen to a CAGR of 33.3%. The company’s net income also shrank at a CAGR of 59.2% during the same period.

POWR ratings reflect fundamental weakness

GPS’s overall D rating translates into a Sale in our POWR ratings system. The POWR Ratings rate stocks on 118 different factors, each with its own weighting.

Our proprietary rating system also evaluates each stock based on eight different categories. GPS has a class D for stability due to frequent changes at the helm. After parting ways with Art Peck in late 2019 and Sonia Syngal in July of this year, the company has yet to appoint a new permanent CEO.

In addition, GPS has a D grade for growth, consistent with its weak historical growth rates and dismal analyst estimates.

Unsurprisingly, GPS is ranked 59 out of 66 stocks Fashion & Luxury industry.

click here to see additional POWR ratings for value, momentum, sentiment, and quality for GPS.

It boils down

As the Fed may go further than expected with its rate hikes, higher borrowing costs and cuts in discretionary spending could put further pressure on the company’s already compressed margins. The near-term outlook does not look encouraging for GPS.

In addition, the company has an additional threat of fast fashion, which could further erode its profitability.

Given GPS’s weak financial position, low profitability and disappointing growth prospects, it may be prudent to avoid this clothing stock for now.

How does The Gap, Inc. (GPS) Stacking up against his peers?

GPS is rated D, which equates to strong sales. You can check out these other stocks within the fashion and luxury industry with an A (strong buy) or B (buy) rating: J. Jill, Inc. (JILL), Hugo Boss AG (BOSSY), and Chico’s FAS, Inc. (CHS).

GPS shares traded at $14.40 per share Tuesday afternoon, down $0.75 (-4.95%). Year-to-date, GPS is down -14.01%, versus a -16.51% increase in the benchmark S&P 500 index over the same period.

About the author: Santanu Roy

Fascinated by the traditional and evolving factors that influence investment decisions, Santanu decided to pursue a career as an investment analyst. Prior to moving into investment research, he was a process officer at Cognizant. With a master’s degree in business administration and a fundamental approach to analyzing companies, he aims to help private investors identify the best long-term investment opportunities.


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