The Gap

An Early Black Friday Deal?

This will be a quick write up as GAP’s (NYSE: GAP) earnings come out tomorrow and I wanted to get this out before then.

Everyone in America is likely familiar with The Gap or one of its other brands – Old Navy, Banana Republic and Athleta.

For shareholders, it’s been a real dog. The stock price is down slightly from where it was twenty years ago and down almost 50% from ten years ago. This isn’t the kind of set up that makes investors excited to buy a stock.

However, the company currently trades at about 10 times free cash flow ($8B market cap with free cash flow (FCF) of about $800M) and has no net debt. If you believe, as I do, that the company will be around in roughly the same form for the next ten years, then this could be compelling chance to buy in.

Select financials going back eight years are here.

Assuming the business generates the same level of cash flow for the next five years, they could comfortably retire half of the outstanding shares while paying the 3% dividend. All else being equal, this means the share price doubles in five years.

The company brought in Richard Dickson as CEO in August 2023. If he can deliver on improved margins as he aims to, while also growing topline 3-5%, there’s a path to the company making over $1B in FCF in a few years. A 15x multiple would not be crazy for a company that has proven its staying power for over 50 years. In this scenario, investors would double their money sooner (2-3 years). It doesn’t hurt that Mr. Dickson was awarded over $20M in equity in various forms when he joined the company and hasn’t sold any stock to date. Clearly his interests are aligned with the shareholders.

The downside risks here are the same as they’ve been for the last decade. They get the product assortment wrong. Consumer tastes change and they need to discount aggressively to move product. Lower cost retailers like Shein take market share (Trump’s election may help Gap here). New direct-to-consumer brands, like Mack Weldon, take customers away from the Gap. You could also have a recession (though this would be bad for most consumer companies).

However, given the multiple and new management team, I’m inclined to take a small position here. My sense is this is a leaner, more focused company than they were pre-pandemic. The market cap bottomed at about $4B in 2023 and I think that was a wake up call for management and the Fisher family (they own about 40% of the company). There’s a good chance the next five years will be much better for shareholders than the last five.

As always - disclaimer.