The apparel industry can be very volatile at times. Trends come and go, and so do several brands. It can also be a good industry for speculative bets since top brands can be incredibly profitable and boast huge growth. In this article, I make a bull case for Aeropostale (NYSE:ARO) as I believe the company will grow its brand and its shares are currently undervalued.
On The Rebound
Aeropostale as a company has had some recent struggles. The company experienced a hiccup last year as the company's small decrease in revenue led to a 70 percent drop in earnings. The company also had a tough second quarter in its current fiscal year as it reported a mere $70,000 in net income when in the prior year's second quarter, Aeropostale's net income was $2.94 million. The company's disappointing results have caused its stock price to drop by a third in the last six months. However, there is a lot of potential for a rebound.
After a bad year, it looked like the momentum is shifting for Aeropostale. Comparable store sales stayed flat year over year in its last earnings report and in the second quarter in fiscal year 2012 (ends in January), the company's comparable store sales dropped by 14 percent.
In the near future, the company will rely on new store sales for growth. In its first two quarters this fiscal year, it opened ten new Aeropostale stores and closed seven. In addition, it opened 25 P.S by Aeropostale stores, which is a relatively newer brand that markets to ages 7 through 12. The company currently operates or licenses a total of 1106 stores, which means that Aeropostale is on pace to increase its new store openings by 5.2 percent this year. With this kind of store growth, in conjunction to closing unprofitable stores, Aeropostale should have no problem growing its revenue by 4 percent per year, as analysts expect.
Expanding on this, I believe that Aeropostale has a good chance of meeting its earnings expectations. Its recent struggles with earnings resulted from heightened costs due to unrealistic revenue growth expectations. Now that its expectations look more attainable, I believe that Aeropostale could meet its earnings per share expectation of 97 cents in its current year and $1.22 in its next fiscal year. Aeropostale has a critical earnings call on November 28th as it makes almost all of its profit in the third (back to school) and fourth (holiday shopping) fiscal quarters.
Looking at Aeropostale's expected revenue, earnings, and business model, I put a one year target price on Aeropostale of $16.75, which is 18 percent higher than its current price of $14.19. ARO shares had a big boost today as FBR Capital upgraded shares to "Outperform". I currently put a buy recommendation on the stock. With a strong earnings report at the end of this month, its shares could experience huge gains.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.