August 15, 2012 10:53 pm

Abercrombie & Fitch – not wearing well

The US business never really made it back from the crash

The results were a shade less terrible than expected, and that was enough – at least for one day. Abercrombie and Fitch’s second-quarter net income was cut in half from a year ago, but was ahead of expectations. Along with a boost to the share buyback programme and a promise to expand more cautiously, that was enough to push the shares up a 10th on Wednesday.

This is just a blip. The shares are down more than 50 per cent since last November. Superficially, the crash is easy enough to understand. The shares rallied furiously for a year and a half starting in mid-2010 as Abercrombie’s global growth story gained traction. International sales growth hit 74 per cent in the second quarter of 2011. But the growth dropped off sharply from there, taking the share price with it.

In retrospect, there was always reason to be sceptical of the rally. Most retailers got hit hard during the credit crisis, Abercrombie particularly so. In 2007 the company could boast operating margins over 20 per cent and return on invested capital in the mid-teens. By 2008, margins were at 5 per cent, ROIC under 3 per cent. Yet as the company’s sales recovered – largely due to its eye-popping international expansion – profitability never returned to anywhere near the pre-crisis levels.

Abercrombie’s international flagship stores have great margins and return on investment, as management is fond of pointing out. But the US business, which still accounts for two-thirds of sales, never really made it back from the crash. In 2011, profit from the US stores dropped 10 per cent, which, paired with rising corporate expenses, led to a decline in the company’s overall margins. It is less than surprising that a retailer unable to protect its core business would struggle to maintain torrid growth at its periphery.

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