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'98 Year In Review
December 17, 1998

Winner #4 --
American Eagle Outfitters

by David Marino-Nachison (TMF Braden)
Up 258.9% as of 12/15/98

At its core, the basic formula for running a successful retail operation is simple enough: sell people what they want at a price they'll pay. Thanks to the vagaries of fashion, however, the challenge of selling clothes is vastly different from, say, that of peddling bread and milk. One way to simplify the process is to simplify the product, which casual apparel retailers such as Abercrombie & Fitch <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ANF)") else Response.Write("(NYSE: ANF)") end if %> and Gap Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GPS)") else Response.Write("(NYSE: GPS)") end if %> do with aplomb.

This year's winner in the jeans-and-flannels category, however, appears to be American Eagle Outfitters <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AEOS)") else Response.Write("(Nasdaq: AEOS)") end if %>, which rode booming sales figures to a more than 250% gain in 1998. The stock's rise came on the heels of strong earnings performance. The company beat Wall Street's estimates soundly over the last four quarters.

American Eagle didn't always cater to the campus set. Founded in 1977, it sold branded sports apparel and outdoor sporting equipment until 1992, when it changed its focus to market its own brand of casual clothing.

American Eagle now operates 386 stores in 41 states, 50 stores and 1 state ahead of last year's mark, or about 15% store growth. For all the company's success, American Eagle managed to muscle its way into the national consciousness without a foothold in Seattle, the country's flannel capitol. The West Coast invasion began this winter with two new stores in grunge's hometown.

Investors began paying extra-close attention to American Eagle in early March, after the company reported a 40% same-store sales increase for February powered by a 50% jump in sales. That news pushed the shares above $20 per share for the first time and, except for a short stop around $28 per share in October, they haven't been below $30 per share since.

However, as pointed out by the Fool's Louis Corrigan (aka TMF Seymor) in a Daily Double earlier this month, the Eagle's flight really began in early 1997, when the shares traded below $4 apiece. If anyone's counting, that's more than 1300% in less than two years, placing this bird's roost atop a price chart that looks like Mt. McKinley.

The numbers tell the story. Same-store sales gains have been astounding in 1998. Excluding a 1.9% increase in January that the company attributed to a reduced emphasis on clearance sales, month-to-month comp sales were at least 25% above year-ago levels every month this year. Gross margins, at 39% through three quarters (ended Oct. 31), were equally impressive when compared with 31% from the same point a year before. Inventory controls are strong, a sign of intelligent buying.

While Gap and Limited Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LTD)") else Response.Write("(NYSE: LTD)") end if %> spin-off Abercrombie & Fitch are well-regarded chains, they haven't approached the kind of growth American Eagle has shown in 1998. Probably the simplest explanation is value -- as Louis said in his Double, "There's no doubt that paying $24.50 for a pair of cargo pants beats paying $59.50."

That's essentially a knock on Abercrombie, but the comparison holds throughout the sector: On a price continuum of casual apparel retailers, Abercrombie would sit with Gap's Banana Republic on the high side. Gap's eponymous stores man the middle, while American Eagle and Gap child Old Navy hang out at the low end. The variation in style and quality, shoppers seem to believe, isn't the same as that of price.

It's no surprise then that Gap sees Old Navy as it's biggest growth opportunity. That's in part because it's the newest and second-smallest of its four concepts -- GapKids and the upscale Banana Republic being the other two -- but, judging by the chain's rapid expansion, the concept is working. As of the quarter ended Oct. 31, there were 364 Old Navy stores, 102 -- or nearly 40% -- more than at the same point a year before. No Gap division had store growth even one-third that over the same period. Old Navy, born in 1995, hit $1 billion in sales last year, something it took the "original" Gap 18 years to do.

The bugaboos on American Eagle's horizon? For one thing, sustaining the kind of growth numbers the company put up this year won't be easy. Continued execution of the firm's strategy will be crucial as the chain expands onto the West Coast, and expansion into new geographic markets could prove difficult -- particularly since San Francisco-based Gap is no stranger to the area. And all the aforementioned companies have benefited from a general fashion shift away from athleticwear that the likes of Nike <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NKE)") else Response.Write("(NYSE: NKE)") end if %> and Reebok International <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RBK)") else Response.Write("(NYSE: RBK)") end if %> hope to reverse.

There's also the matter of a lawsuit. While the idea that khakis and flannel button-downs are essentially the same from store to store might seem like a no-brainer, to Abercrombie & Fitch it's a bruising affront. The Limited spin-off fired across American Eagle's bow in June with a lawsuit accusing American Eagle of "an intentional and systematic copying of the Abercrombie & Fitch brand," a broad indictment naming not only products, but also marketing practices and strategy as culprits.

American Eagle Chairman Jay Schottenstein has called the charges "meritless, frivolous, and ridiculous." Many observers, meanwhile, wonder where Abercrombie got its ideas, if not from such enviable fashion names as Polo Ralph Lauren <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RL)") else Response.Write("(NYSE: RL)") end if %> and Tommy Hilfiger <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TOM)") else Response.Write("(NYSE: TOM)") end if %>.

That said, Abercrombie wants not only to enjoin American Eagle's business practices, it also seeks damages and a slice of American Eagle's profits. Few observers gave the case much credence at its outset and, while evidence that American Eagle carefully tracked Abercrombie's marketing practices has surfaced, some believe that's simply par for the course in the retail world.

Imitation may still be a form of flattery in the waning 1990s, but so is litigation. Stay tuned.

American Eagle Company Information:
Trades on Nasdaq under symbol AEOS
American Eagle's Web Site (www.ae-outfitters.com)
Current Quote
American Eagle's Chart


Other Related American Eagle Links:
American Eagle Message Board
Daily Double -- 12/3/98

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