Friday, May 19, 2006

Does Loft Deserve a Loftier Multiple?

[For a PDF version of this report, click here.] Retailing queen Ann Taylor (ANN) will report numbers later today. Here's a quick look at what she's got in store for investors in 2006.

Description Ann Taylor sells women's apparel, shoes and accessories. The retail stores offer career and casual separates, dresses, tops, weekend wear, shoes and accessories coordinated as part of a total wardrobe strategy. It sells its products through traditional retail stores (through 824 AnnTaylor or Loft stores) and over the internet. The company, which has a $2.7B market cap, generated $2B in sales last year.

Positive Considerations We were happy with Ann Taylor's April same-store sales results. Both the Loft division and the Ann Taylor brand impressed, with Loft's same-store sales increasing by 13.4% and Ann Taylor's same-store sales up 7.6%. Despite a very competitive retail environment, Ann finds itself in a good position, targeting high margin shoppers looking for that impeccable boardroom outfit. While it used to be that shoppers could barely detect the difference between Loft and Ann Taylor merchandise, we're now getting positive feedback from shoppers who say that the 2 brands are gradually becoming distinguishable. The Street is closely watching Loft, whose lower price points could capture a sizable part of the casual apparel space. Loft should open anywhere between 40 and 50 stores on average for the next 3-5 years, according to our forecasts.

Valuation We'd love a pullback here. Analysts expect EPS to jump 33% in 2007. The market has clearly priced this information into shares, which go for 33 X next year's forecast. Because we think Ann is expanding at the right pace -- not too fast, not too slow -- and the company is operating debt free with over $5 a share in cash, we believe the stock will ultimately trade at 1.3 to 1.5 x growth. A higher multiple would reflect Loft's growth prospects as well as the possibility that ANN's competitors (ahem, Banana Republic [GPS]) may stumble, get stuck with inventory, and lose brand cachet. Although the current inflationary setting does not bode well for retailers, ANN is less susceptible to compressed consumer spending because its target customer is typically affluent. In short, it's the Walmart (WMT) crowd who catches a beating when gas creeps above $3.

Risks Management's has to 1) ensure investors that it'll continue to find ways to differentiate the Loft and Ann brands in the consumer's psyche and 2) reassure analysts that it can grow its top line by 10% and sustain at least 8% operating margins. The female apparel space is getting more crowded by the minute and any missteps could impinge heavily on shares.

The Bottom Line Ann envisions itself as a one-stop shop for Blackberry-toting, career-driven women. The problem is: so does everyone else. If Ann can maintain a good operating margin story (we'd have to sell if they fell below 7%) and leverage its brand name to boost same store sales at Loft, the stock could finally get the higher multiple it's been waiting for. is growing incredibly fast. Beginning today, readers will be able to view charts, as well as the regular mix of in-depth articles and conference call transcripts. It is there that you'll also find an archive of our best work!

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