On Thursday, CFRA made a notable adjustment to Gap Inc (NYSE:GAP). (NYSE:GPS), raising the stock from a Sell to a Hold rating and increasing the price target to $22 from the previous $20. This decision follows Gap's demonstration of stronger-than-expected earnings and revenue performance in the second quarter, as well as an optimistic outlook on gross margins.
The upgrade is grounded in a revised 12-month price target based on a 12.2 times multiple of CFRA's fiscal year 2026 (ending in January) earnings per share (EPS) estimate. This valuation is below Gap's one-year average forward price-to-earnings (P/E) multiple of 15.2 times but aligns with the company's pre-pandemic multiples. The firm's EPS estimates for fiscal years 2025 and 2026 have been increased by $0.20 and $0.55, reaching $1.80 for both years.
Gap reported a normalized second-quarter EPS of $0.54, surpassing the consensus estimates by $0.13 and showcasing a significant improvement from the $0.34 figure in the same quarter of the previous year. The company's revenues also exceeded expectations, coming in at $3.72 billion against the anticipated $3.55 billion.
A breakdown by brand showed a 1% year-over-year increase for Gap, an 8% rise for Old Navy, stable sales for Banana Republic, and a slight 1% decrease for Athleta.
A key factor in the company's robust quarterly performance was a 500 basis point expansion in gross margin, reaching 42.6%. This improvement was attributed to lower commodity costs, better sales leverage, and more effective promotional activities. Encouraged by these results, Gap has revised its full-year gross margin expansion forecast to approximately 200 basis points, a positive adjustment from the fiscal year 2024.
CFRA's revised opinion reflects a recognition of Gap's stock trading mostly sideways since the beginning of the year, leading to a perception of fair valuation at approximately 12 times the fiscal year 2026 EPS estimates of $1.94.
InvestingPro Insights
As Gap Inc. (NYSE:GPS) navigates through its fiscal challenges, current InvestingPro data provides a granular perspective on the company's financial health. With a negative P/E ratio (adjusted) of -0.17 for the last twelve months as of Q4 2023, the valuation metrics suggest that investors are concerned about Gap's profitability. However, the company's revenue saw a quarterly increase of 10.71% in Q4 2023, indicating some resilience in sales. Despite a notable year-over-year revenue decline of -31.36%, this recent uptick could be aligned with CFRA's optimism regarding Gap's gross margin outlook.
InvestingPro Tips highlight the importance of monitoring gross profit margins, which for Gap stood at a negative -32.37% for the last twelve months as of Q4 2023. This metric underscores the company's struggle to convert sales into profits efficiently. Additionally, with an operating income margin of -65.78%, the company faces challenges in managing its operational costs relative to revenue.
For investors seeking a deeper analysis, InvestingPro offers several additional tips on evaluating company performance and stock potential. As of now, there are 15 more InvestingPro Tips available that can provide further guidance on making informed investment decisions in the retail sector.
Gap's next earnings date is slated for August 30, 2024, which will be a critical time for investors to assess the company's progress towards achieving its revised gross margin expansion and overall financial health.
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