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Gap Slashes China Sourcing, Eyes Old Navy Split as Way to “Win” at Retail

Gap Inc., while dealing with problems over store traffic, sluggish retail comps and the complications of splitting off Old Navy into a separate company, has taken steps to limit its exposure to Chinese sourcing in the midst of the U.S.-China trade war.

Art Peck, president and CEO of Gap Inc., told analysts on a conference call last week after the company released first quarter results that he was “not at all satisfied with,” that the topic impacting the entire industry, is the recently announced intent to impose on tariffs on clothing manufactured in China, which Peck agreed, “largely translates into a tax on American consumers.”


And Gap’s plan do dodge the impact of these potential tariffs, is in line with what many in the industry are likely to do.

“We’ve been migrating sourcing out of China for the last several years, and we’ll continue to do this responsibly going forward,” Peck said. “As recently as three years ago, about 25 percent of our product was manufactured in China. In our most recent disclosure, that number was down to 21 percent. And if you include only apparel, our penetration is approximately 16 percent, which is significantly lower than the relevant portions of the industry.”

Gap Inc.’s current guidance incorporates the impact of List 3 Chinese goods, but does not include the proposed List 4 changes, he noted. “We’re actively monitoring the issue, we’re actively engaged in the conversation, and we’re managing our sourcing operations accordingly,” Peck said.

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 Old Navy separation

Meanwhile, top of mind for investors is the planned separation of Old Navy from Gap Inc. and its brands, which include Gap, Banana Republic and Athleta.

As Peck told analysts, “The rationale behind the separation is simple and we will continue to reiterate it: The needs of our specialty and our value customers are diverging and the pace of change in retail continues to accelerate.”

“Our planned separation will enable each brand to move more quickly and efficiently to maximize focus and flexibility, to align investments to meet unique business needs and to optimize cost structures to deliver profitable growth,” the CEO continued. “When I look to Old Navy, I see a brand with a strong track record and a long clear runway for growth ahead.”

To win in apparel retail, Peck said, “You need to be focused on unique competitive differentiation against a targeted customer base. This is the logic that we have used, it’s the analysis that we have done and we’re doubly committed to making this happen. Importantly, we remain on track as we work toward executing the separation into two independent companies in 2020.”

For Old Navy, success is based on a “powerful, almost unique, four-wall model, a highly valued value proposition for our customers and strong brand health,” he explained.

Chain analysis

In the first quarter ended May 4, Old Navy’s traffic was flat and market share gains were modest. Part of the growth plan for Old Navy, Peck said, is simple store penetration. The Old Navy retail footprint added six new stores in the quarter, with plans to open 20 units in the second quarter and a total of 70 forecasted for the year.

“While new stores offer a clear path to growth for Old Navy, e-commerce also continues to expand with impressive double-digit comps online in both traffic and conversion,” Peck said. “Reinforcing our view that stores and online are complementary channels when paired thoughtfully, the buy online pickup-in store program continues to help us better understand the intersection of offline and online shopping behavior for the Old Navy customer.”

Turning to Gap brand, Peck said the focus is on regaining profitability and the brand has made “significant operational improvements” in inventory, product assortment and reduces expenses.

“The aggressive store closure plan to rationalize the specialty fleet is on track and we remain committed to quickly, thoughtfully and decisively eliminating stores that are underperforming,” Peck said.

As for the Gap fleet restructuring, Teri List-Stoll, executive vice president and chief financial officer, said the company closed eight stores (primarily in North America), net of openings (primarily in Asia), in the first quarter, ending the period with 3,335 company-operated stores. The company expects to close about 230 specialty stores over the next two years.

At Banana Republic, Peck said he was pleased with the brand’s progress after questions about its core viability surfaced some years back. “We moved in a new management team, got back to the fundamentals of delivering high quality, reliable products, and today Banana Republic is earning its place in the Gap Inc. portfolio,” he said.

Turning to Athleta, Peck said it’s “one of North America’s fastest growing athletic brands” and it’s positioned to capture share. In 2019, the company is accelerating store growth with plans for roughly 25 new stores versus the historical average of 15 to 20 openings per year.

Part of Athleta’s success is its brand identity and commitment to sustainability, according to Peck. The brand just celebrated its first year as B Corp by announcing progress against its sustainability goals, including 60 percent of materials now being made from sustainable fibers.

“Customers connect with the fundamental ethos of the brand in a way that is difficult to duplicate or replace, and that connection is part of why we’re so bullish on the Athleta opportunity moving forward,” he said.

From product perspective, List-Stoll said, “Our Old Navy customer responds to a broad assortment and overall we did not provide her with enough choice. With these key insights derived from customer response to holiday and spring product, the design and merchandising teams were able to significantly redesign the fall season, with even more ability to influence holiday.”

Peck said bottoms are “playing well” right now across all Gap Inc. brands “where we’re seeing the proper silhouettes in denim, the proper rise.”

At Gap, he said, “As we move throughout the year, we have a particular focus on re-establishing our strength in denim, with improved quality fit and silhouettes. We remain focused on driving improvement in the brand with cleaner inventory positions, better product assortment, leaner inventory buys and continued cost discipline.”