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Old Navy, Athleta Power Gap to First $4 Billion Quarter

Gap Inc.’s Power Plan 2023 is giving new life to the specialty apparel company thanks largely to the continued growth of the Old Navy and Athleta brands. In response to cracking the $4 billion sales mark and generating $166 million in net income, Gap Inc. raised its 2021 guidance across net sales, diluted earnings and operating margin.

In a Nutshell: Gap Inc. revealed its earnings shortly after unveiling it has entered the home category in collaboration with Walmart. Gap Home products exclusively sold on starting June 24 will offer more than 400 items across home décor, tabletop, bedding and bath.

“A $164 billion category in the U.S. alone, home is a natural extension of apparel and a category where storytelling drives sales and builds a natural fit as we build lifestyle brands,” Sonia Syngal, CEO of Gap Inc., said in an earnings call Thursday. “Leveraging our model of partnering to amplify the Gap and Walmart partnership is a capital efficient alternative to acquiring capabilities in house.”

Syngal wouldn’t spill the beans on when the long-awaited Yeezy x Gap collaboration would drop, but appeared to narrow it down to one of the next two quarters: “Will it be Q2 or Q3? We’ll see.”

A store fleet rationalization undertaking is currently on schedule, with the company still set to close 350 North American Gap and Banana Republic stores by end of 2023. Approximately 75 percent of these closures will be complete by the end of the 2021 fiscal year. Gap Inc. now operates 3,571 store locations in over 40 countries, of which 2,997 were company-operated.

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Total inventory was up 7 percent year over year to $2.4 billion, and up 6 percent on a two-year basis, driven by increased in-transit inventory as a result of port congestion, longer lead times, and supply chain challenges in Southeast Asia.

With the in-transit issues, Gap Inc. now expects inventory growth at the end of the second quarter to increase “high-single digits” to “mid-teens” compared to last year.

“We experienced about 200 basis points (2 percentage points) of shipping headwinds in the quarter,” said Katrina O’Connell, chief financial officer at Gap Inc. in the call. “I think that’s a reasonable amount to assume for the rest of the year. As the vendors are more impacted by the Covid outbreaks in India and Southeast Asia and as those orders transpire and we start to see what happens there, we don’t know yet how much we will or won’t have to air in order to get that here or if there will be freight implications.”

Gross profit was $1.63 billion, while gross margin was 40.8 percent, 2810 basis points (28.1 percentage points) ahead of the 12.7 percent gross margin in the 2020 first quarter. In comparison to the 2019 first quarter, when all stores were open, gross margin lifted 450 basis points (4.5 percentage points) from the 36.3 percent total. The margin increases can be attributed to the leveraging of 430 basis points (4.3 percentage points) primarily related to online growth, store closures and rent negotiations. Merchandise margins expanded 20 basis points (0.2 percentage points) as strong product acceptance resulted in lower discounting.

Gap Inc. has $2.5 billion in cash, cash equivalents and short-term investments. First-quarter free cash flow, defined as net cash from operating activities less purchases of property and equipment, was $216 million.

First-quarter capital expenditures were $124 million, with Gap Inc. still expecting capital spending to be approximately $800 million for the full year.

Looking out at 2021, Gap Inc. expects net sales growth for the full year to be in the low-to-mid 20 percent range versus 2020, an increase from the previously anticipated “mid-to-high teens” range. The company noted that this outlook reflects lost revenue attributable to the sales of the Janie and Jack and Intermix brands, which together represented approximately 2 percent of annual company sales.

The retail giant raised its reported full-year diluted earnings per share guidance to be in the range of $1.55 to $1.70, well ahead of the initial range of $1.20 to $1.35. Excluding charges associated with the Janie and Jack and Intermix sales, full-year earnings per share on an adjusted basis are projected to fall in the range of $1.60 to $1.75. This outlook does not include potential impacts of Gap Inc.’s ongoing strategic review of the European business.

Additionally, Gap Inc. updated reported and adjusted operating margin guidance to approximately 6 percent, up from previous guidance of roughly 5 percent, further progressing toward the company’s objective of achieving a 10 percent operating margin by the end of 2023.

Net Sales: Net sales of $4 billion were 89 percent higher than the first-quarter of 2020 and up 8 percent compared to 2019 pre-Covid levels. The company estimates that Covid-related closures in markets outside of the U.S. resulted in an approximately 2 percent sales decline.

Old Navy and Athleta represented 66 percent of the company’s sales in the first quarter, moving closer to the target of 70 percent by the end of 2023.

Comparable sales were up 28 percent year-over-year, and up 13 percent versus 2019, reflecting online sales and comparable sales days for stores that were open on the same days in both the current and prior comparable period.

Digital sales represented 40 percent of total sales, growing 61 percent versus 2020 and 82 percent versus 2019.

Old Navy’s net sales were up 120 percent versus the first quarter of last year to $2.3 billion, or 57 percent of total Gap Inc. sales. Sales went up 27 percent from the two-years-ago period. Comparable sales were up 35 percent year-over-year and up 25 percent versus 2019.

Net sales at the namesake Gap brand saw a 69 increase over last year’s first quarter to $886 million, or 22 percent of Gap Inc.’s sales. Sales declined 16 percent versus 2019, with permanent store closures resulting in an estimated 11 percent sales decline, and international Covid closures driving an estimated 4 percent decline.

Comparable sales increased 29 percent year-over-year and slightly dipped 1 percent versus 2019. The North America business saw first-quarter comparable sales increase 9 percent on a two-year basis.

At Banana Republic, net sales dipped 4 percent to $389 million, a decline of 29 percent versus 2019 and totaling 10 percent of the company’s sales. Comparable sales were down 4 percent year-over-year and down 22 percent compared to 2019.

And Athleta’s first-quarter saw net sales of $347 million, up 69 percent compared to the year-ago period and up 56 percent versus 2019. The athleticwear brand now generates 9 percent of the company’s sales. Comparable sales jumped 27 percent year-over-year and 46 percent versus 2019.

Athleta saw 113 percent online growth compared to the first quarter of 2019, while achieving record regular-priced sales through gains in relevant product categories and purpose-led marketing.

Net Earnings: Net income for the first quarter at Gap Inc. was $166 million, swinging in the positive for the second quarter in a row. In the year-ago period, Gap incurred a net loss $932 million.

Diluted earnings per share were 43 cents, a turnaround from the loss per diluted share of $2.51 in the first quarter of 2020. Adjusted diluted earnings per share were 48 cents in the first quarter when including the impact of the Janie and Jack and Intermix sales.

CEO’s Take: Syngal highlighted the intimates and activewear categories as top sellers for Old Navy, which she said “has a lot of permission to play across categories.”

“They have leaned into intimates as their latest foray and we have our body positivity launch in the fall as another example of Old Navy’s expansion and authority,” Syngal said. “Activewear has been one of the biggest growth categories, if not the biggest growth category for Old Navy. We’re giving it more space in store, more space online and it’s attracting a much younger customer. We’re seeing moms and a lot of teenagers join the brand for the first time through the active business so we are seeing more new and younger customers.”