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Cost Discipline and Better Pricing Have Cushioned Gap’s Margins

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Earnings per share likely to fall 11% in Q4

As discussed, Gap’s (GPS) business has been under pressure during the last several quarters. The company’s sales have fallen for seven straight quarters, and so have its earnings. Earnings per share fell 43%, 6%, and 5% in the first three quarters of fiscal 2016, respectively. For the fourth quarter, Wall Street has forecasted an EPS drop of 11% to 51 cents a share, and the management’s guidance is in a range of $0.50 to $0.51.

For the full fiscal 2016, the company’s management is looking for adjusted earnings per share between $2.01 to $2.02. At the midpoint, this would imply a decline of 17%.

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Gap’s margins remain intact

While the company is likely far from delivering a satisfactory performance, its cost-cutting initiatives, correct pricing strategy, and disposal of non-profitable businesses have helped Gap in maintaining healthy margins.

As a result, its operating margin improved from 6.5% in 1Q16 to above 11% in the following two quarters.

Comparing Gap’s margin to peers

Gap’s margins have been inferior to those of peers. The company has a trailing-12-month operating margin of 8% as compared to 10%, 12.8%, and 12.6% for PVH (PVH), VF (VFC), and Hanesbrands (HBI).

Gap’s margins were better than these companies’ margins not long ago. In fiscal 2015, the company posted an operating margin of 13.3% as compared to 6.4%, 11.7%, and 10.3% for PVH, VFC, and HBI, respectively. Investors looking to invest in Gap through ETFs can choose to invest in the SPDR S&P Retail ETF (XRT), which invests 1.1% of its holdings in Gap.

In the next article, we’ll discuss Gap’s stock market performance.

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