Restructuring and Investing: Gap Execs Cite Progress, Path Ahead

Gap Inc., moving out from under the grip of COVID-19, has new goals and hopes to achieve them through the “hard work” of reducing fixed costs and investing in “demand generation” to grow the business.

That synopsis on Gap’s path ahead came from its chief executive officer Sonia Syngal and chief financial officer Katrina O’Connell at Monday’s Deutsche Bank Access Global Consumer conference, held virtually.

“Our long-term financial targets are to deliver low- to midsingle-digit annual sales growth, with a 10 percent-plus EBIT [earnings before interest and taxes] margin by 2023,” said Syngal, noting that the company was pleased with its first-quarter results and raised its outlook from 5 to 6 percent operating margin for 2021.

Last week, the San Francisco-based operator of Gap, Old Navy, Banana Republic and Athleta reported a net profit of $166 million for the first quarter versus a loss of $932 million in the year-ago period; operating profits rose to $240 million versus a loss of $1.24 billion in the year-ago period, and comparable sales rose 28 percent year-over-year, and were up 13 percent from 2019.

“We are playing to win and to grow top and bottom lines as opposed to the flat business of garnering the bottom line,” Syngal said at the Deutsche presentation. “We’re dealing with the hard work necessary to set this company up for the next chapter, the restructuring work,” which involves continuing to rationalize the retail real estate and review international markets.

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“We laid out in our plan back in October that we are going to do the hard work, as Sonia said, to restructure the trapped fixed cost in the business while investing in demand generation to grow the business,” said O’Connell. Costs are being driven down and margins driven up through store closings. As O’Connell noted, a total of 225 Gap and Banana stores closed permanently in 2020, and 75 more closings are in the works.

The Gap and Banana Republic brands have long been troubled by declining market share and relevance, but O’Connell said Gap is “healthy and cool” again and “recovering.” According to Syngal, introducing the BR Sport, comfort and intimate lines helped drive sales during COVID-19, while wear-to-work looks are being “re-embraced.”

Gap Inc. is on track to complete its European business review this year, though Syngal said Gap and Banana in the U.K. are well-received and that there remains good business opportunity in Europe as well as in Asia “through the right partners.”

Gap Inc. chief financial officer Katrina O’Connell. 

Syngal said her Gap team for 16 months has been working to restore “the obsession” over being a brand that exudes creativity and cool, that in North America the brand is growing, and developing partnerships to “amplify” its reach. She cited Gap’s upcoming home collection at Walmart and upcoming Yeezy brand collaboration with Kanye West. “We’re pleased with the momentum and pleased what these collaborations will do for us.”

Gap brand has completed more than half of its planned remodels in North America. “Now, when you walk into the Gap store, it’s light, it’s bright, it’s happy.” Banana Republic stores are undergoing a “light refresh” and Old Navy is on “a remodel path.”

Old Navy, the CEO said, is approaching $10 billion in annual sales and “delivering on all cylinders.” The division recently launched intimates and is taking extended sizes to all of its 1,300 stores. Old Navy generated $7.54 billion in revenues last year and $7.98 billion in 2019. Gap Inc. generated $13.8 billion in sales last year and $16.4 billion in 2019.

Syngal characterized the $1 billion-plus Athleta as Gap Inc.’s fastest growing brand, “uniquely positioned” as a brand designed by women for women and girls that seeks to engage customers in a “very fulsome way.” The recent partnership with superstar gymnast Simone Biles “is going to raise Athleta’s brand awareness, which sits at below 30 percent only. So it shows you the runway ahead.”

Discussing consumer demand, Syngal said, “She wants cozy and casual as well as the cocktail dress. She wants to stay in and go out.…And then we’re seeing the reemergence of pre-COVID-19 occasion wear at Banana Republic whether it’s for a high-stakes vacation or going-out occasion. But she’s also wanted to come home and put on her cozy sweatpants and workout in her activewear.”

With denim, “Two years ago, 90 percent of the business was in skinny silhouettes, but it’s shifted to more like 50 percent. And we’re seeing a lot more fashion, a lot more range, whether it’s boyfriend, straight or wide-leg. That halos to the top business. So we’re seeing the outfit completely change. Denim cycles happen like this once a decade.” Adding comfort, whether it’s four-way stretch, a contoured waistband or a great fit for every body shape, “that is really where our sweet spot is.”

According to Syngal, Old Navy’s average unit price is $12. At Gap, it’s $20; BR, $35, and Athleta, $50.

Last year, while developing the “Power Plan 2023” strategy of simultaneous restructuring and investment, “One of the biggest muscles we developed last year was speed and agility, and a great example of that is our mask business,” Syngal said. “We went from recognizing a new must-have item and creating a $400 million business pretty much overnight. We went from design to in our customers’ hands in less than six weeks.”

“Sonia and I believe that investing in market share growth is important,” O’Connell said. “Our brands need to be healthy and competitive to gain market share and customers. And so while we restructure the company, we are also investing in demand generation.”

O’Connell explained that driving down fixed operating costs largely comes from the North America store closures, which eliminates unprofitable sales, rents, occupancy costs and store expenses. “We’re focused on digitizing the operations of the company so that we can further drive down the operating costs in the company. That’s critical to me and Sonia, to get the fat out of the system.

“But we also believe that it’s critical that our four purpose-driven lifestyle brands have the investment they need to be able to acquire customers. So whether that’s in the form of partnerships or whether it’s the launch of our loyalty program — we’re actually launching our first multitender loyalty program in July,” which will provide better perks and hopefully drive frequency and average transaction amounts. Barclays and Mastercard beginning May 2022 will be issuing the cobranded card. With 188 million known customers and 62 million active customers, “the potential reach for this loyalty program is massive,” Syngal said.

O’Connell cited shifts in the capital spend. “Historically, [it’s] been in the 4 percent of sales range which is fine, but it’s really been focused more on international sales growth, as well as store sales growth, none of which has [resulted in] returns in the way that we see fit. And so, as we look to partner international businesses and close stores, we’re pivoting our cap-ex into demand driving customer loyalty, technology and digital, those types of investments that we think will drive higher returns.”

Gap recently reinstituted its dividend; is doing a “modest” share repurchase, enough to offset dilution, and will soon restructure its debt to create a better capital structure, O’Connell said.

With ESG, Syngal said, “We are proud of all of our firsts,” including being the first Fortune 500 company to be validated for providing equal pay for men and women, at every level in the company and in every country where the company operates.

Syngal also said Gap Inc. was the first company to require suppliers to pay workers electronically; that Gap Inc. is a founding member of the Fashion Pact, which focuses on minimizing fashion’s impact on the environment, and that the company is working to reduce plastic and water consumption, including plastic bags at Old Navy by 2023.

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