American Eagle Bouyed by Holiday Sales Trends

The retailer's profit margins could be tested by aggressive holiday promotions.
By Trefis ,

American Eagle Outfitters

'

(AEO) - Get Report

strong third-quarter 2010 results provide some cheer heading into the holiday shopping season.

The company generated a 1% year-over-year improvement in same-store sales with SG&A down slightly YOY (excluding $2.5 million in severance charges) and end-of-quarter inventory per square foot down 2% YOY.

In the days between AEO's third-quarter release and the Thanksgiving holiday, AEO's stock rose roughly 5% to $16.81, still 35% below the Trefis price estimate of $25.70.

Encouraging retail data for early holiday shopping could help to close the gap should investors gain confidence in a resurgence of retail spending. However, we note that aggressive holiday promotions could hinder EBITDA margins and provide a slight headwind to profitability.

American Eagle competes with

Aeropostale

(ARO)

,

Gap

(GPS) - Get Report

,

Abercrombie & Fitch

(ANF) - Get Report

and

Urban Outfitters

(URBN) - Get Report

in the specialty retail apparel market.

We estimate that the company's American Eagle brand stores constitute almost 50% of AEO's stock value. Our forecasts reveal that a 5% change in 2011 American Eagle revenue per square foot translates to a 2% move in the price estimate. A 50- basis point change in 2011 American Eagle store EBITDA margin translates to a 1-2% change in price estimate.

Holiday Sales Trends Could Push AEO

A National Retail Federation survey quoted by the

Wall Street Journal

cited an 8.7% YOY jump in online and store traffic to 212 million shoppers during the period between Thanksgiving and Sunday. Furthermore, average spend estimates showed a 6.4% YOY increase to $365.34.

American Eagle Stores revenue per square foot saw a sharp decline between 2007 and 2009 due to falling demand in the apparel industry alongside the economic downturn. We currently project a more gradual improvement between 2010 and 2013 with a 4.6% CAGR. Our estimates could see further upside as positive trends continue through the holiday season and into 2011.

Revenue upside from encouraging holiday shopping trends should be taken with caution as increased revenue often comes at the hands of promotional initiatives.

Despite this effect, AEO profits should continue to be buoyed by improving EBITDA margins. We estimate a 70-basis points improvement in 2010 EBITDA margins to 12.4%, following a string of annual declines between 2006 and 2009.

Our forecast show a 1% to 2% AEO price sensitivity to a 50-basis points change in 2011 American Eagle store EBITDA margins.

As we advance deeper into the holiday shopping season, investors should watch the development of trends in December sales to dissect the impact of bargain-hunting shoppers on early retail strength before deciding if this points to a more widespread improvement in consumer confidence.

See our full estimates for American Eagle Outfitters

here

.

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This commentary comes from an independent investor or market observer as part of TheStreet guest contributor program. The views expressed are those of the author and do not necessarily represent the views of TheStreet or its management.

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