Although Gap (currently trading at $23.07 per share) has gained 11.2% over the last six months, it has trailed the S&P 500’s 22.9% return during that period. This may have investors wondering how to approach the situation.
Is there a buying opportunity in Gap, or does it present a risk to your portfolio? See what our analysts have to say in our full research report, it’s free for active Edge members.
Why Is Gap Not Exciting?
We don't have much confidence in Gap. Here are three reasons why GAP doesn't excite us and a stock we'd rather own.
1. Same-Store Sales Falling Behind Peers
Same-store sales show the change in sales for a retailer's e-commerce platform and brick-and-mortar shops that have existed for at least a year. This is a key performance indicator because it measures organic growth.
Gap’s demand within its existing locations has been relatively stable over the last two years but was below most retailers. On average, the company’s same-store sales have grown by 1.4% per year.
2. Free Cash Flow Margin Dropping
If you’ve followed StockStory for a while, you know we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can’t use accounting profits to pay the bills.
As you can see below, Gap’s margin dropped by 2.7 percentage points over the last year. This decrease came from the higher costs associated with opening more stores.
3. Previous Growth Initiatives Haven’t Impressed
Growth gives us insight into a company’s long-term potential, but how capital-efficient was that growth? Enter ROIC, a metric showing how much operating profit a company generates relative to the money it has raised (debt and equity).
Gap historically did a mediocre job investing in profitable growth initiatives. Its five-year average ROIC was 7.6%, somewhat low compared to the best consumer retail companies that consistently pump out 25%+.
Final Judgment
Gap’s business quality ultimately falls short of our standards. With its shares trailing the market in recent months, the stock trades at 11.4× forward P/E (or $23.07 per share). This valuation is reasonable, but the company’s shakier fundamentals present too much downside risk. We're pretty confident there are superior stocks to buy right now. We’d suggest looking at the Amazon and PayPal of Latin America.
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