Gap's Guidance Reflects Volatile Q2 Traffic Trends; Old Navy Business Model Offers Some Support

Gap Inc GPS announced its Q2 EPS broadly in-line with expectations, reflecting volatile traffic trends. The company’s full-year guidance disappointed. Wedbush’s Morry Brown maintained a Neutral rating on the company, while reducing estimates but raising the price target from $20 to $25.

Q2 Earnings

Gap announced its Q2 EPS at $0.60, marginally above the consensus and Wedbush estimates of $0.59. Gross margin came in flat, against expectations of a slight contraction. “Better than expected gross margin was driven by a 20 bps benefit in merchandise margin, primarily from Old Navy,” analyst Brown wrote.

Old Navy Provided Support

Old Navy provided some support in Q2, with continued momentum of improved traffic and higher AUR, backed by an enhanced merchandise assortment and healthy merchandise margins. “Looking ahead, smaller format stores present Old Navy with the opportunity to drive further in-store productivity and right size its store fleet,” Brown commented.

Full-Year Guidance

Comps decelerated in July, from June's performance, and the company cited traffic volatility and ongoing uncertainty. This is reflected in Gap’s full-year guidance, which projected EPS in the range of $1.87-$1.92, below the consensus estimate of $1.96.

“This outlook accounts for Old Navy's improved 2Q momentum continuing in 2H and increased marketing spend to drive traffic,” the analyst noted.

The EPS estimates for 2016, 2017 and 2018 have been reduced from $1.99 to $1.92, from $2.20 to $2.18 and from $2.31 to $2.27, respectively. “We raise our price target to $25 from $20 based on 11x (9x previously) our forward-24-month EPS estimate to reflect the turnaround in Old Navy,” Brown added.

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