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Grown-Up Styles Earn Growing Market Share for Children's Place

Peter Pan's famous advice to Wendy and her playmates, to never grow up, seems as outdated today as a hook-handed pirate.

Kids, surrounded by a media avalanche, are growing up faster than ever. And that makes dressing them far from child's play. The trend is creating opportunities for Children's Place (PLCE), which sells miniature-adult styles for tykes. And it's throwing obstacles at Gymboree (GYMB), which, with roots in its namesake clown, markets a more cutesy look.

Adult-like clothes for kids isn't new. Gap (GPS) has long parlayed its adult brand into pint-sized replicas for tots. But in the past year, as grown-ups rediscovered khakis and collegiate sweaters thanks to Abercrombie & Fitch (ANF) and other specialty chains, more parents have opted to dress their kids the way they dress themselves. And children, who are exposed to mature styles through television and the Internet, are no longer content to look like ruffled dolls.

"That is definitely the trend," says Vanessa Groce, editor of children's wear magazine Earnshaw's. "Kids have access to more sophisticated influences with the media -- and a tremendous amount of more sophisticated clothing."

So analysts and investors say Children's Place is poised to grab a larger share of the $30 billion spent on dressing kids last year, as estimated by market research firm NPD Group. Parents who got a kick out of buying their kids $198 cashmere sweaters at babyGap last Christmas won't find those kinds of precious clothes at Children's Place.

"I don't think we'd carry cashmere unless we could sell it for $20 and make it washable," says Ezra Dabah, chairman and chief executive of the West Caldwell, N.J.-based company. "We're about 30% below Gap's prices," which makes the company more comparable to Gap's Old Navy division.

Children's Place overcame a rocky period following its initial public offering in fall '97, when unseasonably warm weather and color palates in two lines that failed to complement each other drove down same-store sales, an important barometer of a retailer's health. The stock dropped below its IPO price of 14 a share and lingered there for months.

But then the company hired Clark Hinkley, Talbots' (TLB) former chief operating officer, as merchandising chief. "He brought more structure and discipline to the merchandise calendar," says Dabah, the CEO. For instance, Hinkley ordered product for the 1999 back-to-school season a month ahead of schedule, which will give the company more time to stock its stores.

"The stores evolve much quicker now and in a more cohesive manner," says Marcia Aaron, an analyst with BT Alex. Brown, who rates the stock a buy. BT Alex. Brown has performed underwriting for the company.

Those changes helped the company grow same-store sales 14% in its most recent fiscal year, which ended in January, compared with 2% the year earlier. Earnings nearly tripled to $20.7 million, or 80 cents per share, compared with $7 million, or 29 cents per share, a year earlier, excluding a charge. Sales jumped 47% to $283.9 million from $192.6 million.

While Aaron says that she expects the company to be "a shining star in 1999," the stock has gotten expensive by some measures. Its price-to-earnings ratio surpasses that of market leader Gap. And Thursday a group of insiders registered to sell 4 million shares, which helped push the stock off its 52-week-high of 34. Shares were trading Monday at 28 7/8, up 1/8.

Kevin Wenck, president of Polynous Capital Management, which bought shares when they traded around 4, says that executives should be allowed to take profits like other investors, especially when the underlying business remains sound.

Analysts and investors say, barring an economic slowdown, there appears to be little standing in the way of the company's growth. The First Call consensus calls for earnings to increase 15% to 92 cents a share for the year ending January 2000, fueled by increasing sales at existing stores and the addition of 60 new ones. That means further profit-taking could create a buying opportunity. Children's Place also is preparing to launch its first advertising campaign this fall. The message: sophisticated, adult clothing in mini sizes.

That had been the opposite approach taken by Gymboree, which in the words of Chief Executive Gary White sells "clothes for kids. Not clothes for kids to look like adults." And for years it worked.

In the five years since the Burlingam, Calif.-based company's initial public offering in 1993 through the year ended in January 1998, Gymboree's earnings grew 19.8% on a compounded annualized basis.

But business eroded in the most recent fiscal year. Thursday Gymboree reported that earnings for the period dropped 82% to $6.2 million, or 26 cents per share, compared with $35.2 million, or $1.41 per share a year ago. While sales grew 22% to $457.2 million, sales at stores open at least a year increased a scant 1%.

And so followed Gymboree's stock, plunging from a 52-week high of 27 3/8 to a low 3 3/4, although shares have since rebounded. Monday they were trading at 10 1/4, off 1/4.

White says the company stocked too much inventory in its most recent fiscal year, and products, especially on the boys side, failed to sell as expected. The company was forced to take huge markdowns to move merchandise, cutting earnings.

Since April the company has hired a vice president of finance and has brought in a new head merchant, who hails from Urban Outfitters, (URBN) and a new designer, from the Limited's (LTD) pre-teen division, Limited Too.

The company also has scaled back expansion to 50 new stores this year, compared with 130 last year. And it has tabled plans to enter the Japanese market and open a Hong Kong sourcing office.

"Six months ago they had too much on their plate," says Jennifer Goff, portfolio manager of Revest Value Fund, which bought shares after they collapsed. "If they solve their merchandising problems, everything else appears to be on target."

But those fashion issues may prove nettlesome.

Gymboree's colorful clothes have long been a favorite gift for baby showers, but now mothers are opting to dress their kids in less frilly clothes.

"Gymboree's clothes are too clownish," says Debbie Lowenstein, a mother of two young children who lives in New Jersey. Instead she shops at Children's Place. The clothes are "cheap and cute. And more grown-up," she says.

White, the CEO, says Gymboree's research shows a niche exists for more embellished clothes. "There is a customer who wants kids to be kids," he says. "They want them to look cute."

Just how large that group is becomes an issue now that Gymboree has 525 stores in the U.S. and 39 in Europe and Canada. (The company also runs some 400 play groups, 20 of which are corporately owned and the rest franchised.)

"Their core concept doesn't have a lot of expansion," says Kindra Hix, an analyst with NationsBanc Montgomery Securities, who rates the stock a hold. (Montgomery has performed underwriting services for Gymboree.)

To goose its growth, Gymboree is testing a new concept called Zutopia, which targets 6- to 11-year-olds. White says as many as 20 stores could be open by the spring. They will be marketed and merchandised separately from Gymboree.

Still, investors and analysts are skeptical about Gymboree's ability to connect with preteens, who are increasingly fashion savvy.

"I get concerned when companies go outside their core competency, which for Gymboree has always been newborn to 6 years old," says Goff, the shareholder.

White concedes the current fiscal year will be one of rebuilding for Gymboree as it tries to find its place in the increasingly sophisticated fabric of children's wardrobes.

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