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Over the past few years, Gap has shown an uncanny ability not to sell its merchandise. Could the retailer do a better job of getting rid of some or all of its operating businesses? Bringing in the investment bankers is a positive sign. For one thing, it suggests that after years of declining sales and eroding margins, Gap is ready to consider all options.
However, its long-suffering shareholders should not hold their breath. Among Gap’s three main brands, only Banana Republic can claim half-respectable results. But the brand only accounts for about 15 per cent of sales and probably under 20 per cent of profits. The company’s real problem is the poor performance of Old Navy and Gap itself. Adding in the operational overlaps between the brands, it looks more sensible to try selling the whole company rather than individual bits.
If private equity firms do take an interest, however, it might say more about their desperation for suitable targets than Gap’s appeal. After adjusting for net cash, it is already valued at about 9 times current earnings before interest, tax, depreciation and amortisation, slightly below the average for recent large retail deals. But unlike many rivals, Gap owns few real-estate assets and instead has significant lease obligations. Capitalising these is tricky, but doing so suggests an underlying ebitda multiple closer to 13 times.
Of course, Gap is a prime turnround candidate with impressive brands. But its franchises are fairly mature and highly exposed to fashion risks. Given tough competition, restoring their profitability is likely to take years, even if run by retail geniuses. In the meantime, a private equity buyer would probably have to reduce capital expenditure – making it harder to eventually float it as a growth story. At current valuation levels, Gap might struggle to find a buyer, even if its founding family agrees to sell.
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