Aeropostale, Inc. (NYSE:ARO), a mall-based specialty retailer of casual apparel for young women and men, reported decent earnings yesterday after the bell. For the third quarter of fiscal 2014, net sales decreased 12% y/y to $452.9 million, but beat expectations by $8.17M. Additionally, the company reported a loss of $0.66 per diluted share, in line with analysts' expectations. And excluding several potentially nonrecurring items, the company reported an adjusted net loss of $0.45 per diluted share. However, the lower end of management's new guidance for Q4 fiscal year 2014 (-$0.37 to -$0.44) is over 20% lower than consensus expectations of -$0.36. This resulted in a sell-off in the stock during after-hours, with strong follow-through today, leading the stock down 25%.
Digging further into the third quarter results, we see that comparable sales (including e-commerce) fell 11% y/y, continuing the trend from Q2 when they fell 13%. Furthermore, gross margin dropped 190 bps y/y to 15.2%, and operating margins are also pressured as SG&A as a percentage of revenue grew from 25.1% to 26.8%. Importantly, these results reflect the negative impact of impairment charges and other restructuring expenses and the company closes underperforming stores and mounts a turnaround effort. And the company has launched several initiatives to reignite growth, including partnerships with social media celebrities and expansion in the Chilean market. However, the rapidly plummeting comparable sales figure indicates that the positive impact of all these efforts have yet to take hold.
Julian R. Geiger, Chief Executive Officer, commented, "our goal is clear - to return to profitability." This statement summarizes the key challenge management faces, and the key driver behind investors' bearishness on the Aeropostale's stock - liquidity risk. Since peaking in 2010, Aeropostale's operating results have been in steady decline, EPS has plunged, and the company is burning cash. It ended this fiscal quarter with $109.2M in cash, down from $152.3M at the end of last quarter, and long-term debt rose to $136M. Investors are no doubt wondering if and when Aeropostale can become cash flow positive, and whether or not the company has sufficient financial resources to survive until then. Hence, the focus on cash flow (or lack thereof) by management and analysts.
Obviously, the recent cash burn rate is unsustainable and presents a real liquidity risk for the retailer. On the earnings call, management stated that their Q4 guidance includes an expectation that the company will be operating cash flow positive, taking into account the cash outlays they expect related to store exits and severance and associated consulting fees. Additionally, management also indicated the company's $230M revolver remains undrawn, providing Aeropostale with another source of liquidity if needed.
Despite the in-line performance, performance continues to deteriorate at Aeropostale, making yesterday's selloff very logical. This stock may appeal to distressed investors looking for a high-risk opportunity, but we are still in the early stages of any potential turnaround, with more pain possible before reaching clearer skies. Turnaround situations are challenging for any company, and it is still unclear whether Aeropostale will be able to right the ship.
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