Gap Shows CEO the Door in Wake of Awful Sales

On Nov. 7, no-moat Gap GPS announced that longtime employee Art Peck is resigning as CEO after more than four years in the position and, separately, that third-quarter sales and earnings had badly missed expectations. Shares dropped a high-single-digit percentage in post-market trading on the news. Peck will be replaced as CEO on an interim basis by chairman Robert Fisher until a replacement can be found. The announcement came less than two months after Gap held an analyst event to discuss the planned separation of Old Navy from the rest of the company. While Gap claims the Old Navy separation will go forward, we believe it makes little sense to spin Old Navy given the drop in its business (three straight quarters of negative same-store sales).

Gap's consolidated same-store sales of negative 4% in the third quarter missed our negative 2% view as none of its three segments performed well. Gap Global's same-store sales of negative 7% fell far short of our negative 2% forecast even though the comparison was relatively easy (negative 7% last year). These results come even as Gap has already closed many of its lowest-performing stores. Meanwhile, Old Navy's same-store sales of negative 4% and Banana Republic's same-store sales of negative 3% each missed our forecasts by one percentage point. Further, Gap projected third-quarter adjusted EPS and GAAP EPS ranges of $0.50-$0.52 and $0.34-$0.36, respectively, versus our forecasts of $0.58 and $0.43, respectively. For the full-year, Gap guided to adjusted EPS of $1.70-$1.75, well below our $2.09 forecast. This guidance suggests poor sales and earnings in the fourth quarter as well. Gap will report its full third-quarter earnings on Nov. 21. It is highly likely that the weak sales negatively impacted gross and operating margins in the quarter. We view Gap as undervalued but expect to reduce our fair value estimate of $27 by a mid-single-digit percentage based on the sales trends and expected margin deterioration.

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