UPDATE 4-Margins, inventory concerns weigh on Abercrombie

* Q2 adj EPS $0.24 vs Wall Street’s $0.16

* Domestic sales rise 8 percent

* Gross margin down 150 bps

* Inventory at cost up 47 pct

* Shares fall 9 percent vs sub-index’s 2 pct gain
(Adds more analyst comments, updates shares)

By Nivedita Bhattacharjee

BANGALORE, Aug 17 (BestGrowthStock) – Discounts at Abercrombie &
Fitch Co (ANF.N: ) drew more customers and lifted sales, but the
resulting hit to margins, coupled with rising inventories,
pushed the retailer’s shares down 9 percent on Tuesday.

On a conference call with analysts, Chief Executive Mike
Jeffries said the company is ready to take a hit from margin
erosion as it keeps discounting to gain traffic.

The teen retailer, valued at around $3.3 billion, has
endured a long slump of weak sales, but a recent bout of
discounting helped it post one of the sector’s best same-store
sales results in July.

However, these promotions have eaten into gross margins,
which shrank 150 basis points in the second quarter.

Apparel companies, including rival Aeropostale (ARO.N: ) and
Gap Inc (GPS.N: ), report results on Thursday, amid fears that
higher-than-usual discounting and sourcing pressures just ahead
of the back-to-school season do not bode well for the sector.

“The recent run-up in product costs, raw material prices
(cotton and wool) and the increase in freight costs … are
causing significant headwinds for Abercrombie at a time when
the company is lowering average unit retail prices
significantly,” analyst Richard Jaffe with Stifel, Nicolaus &
Co said.

For many specialty apparel retailers, which have been
criticized for selling similar products, pricing is a way to
draw in shoppers.

Abercrombie said end-July inventory was up 47 percent at
cost — more than some analysts had expected.

In contrast, Urban Outfitters Inc’s (URBN.O: ) strong results
on Monday were anchored by fewer discounts, which held up
margins, and fresh fashions that attracted customers.
[ID:nSGE67F0G9]

“(Abercrombie is) managing sourcing costs better than most,
but the inventories are higher than people are looking for,”
Amy Noblin, analyst with Weeden & Co, said. “This is not a very
forgiving market.”

GOING INTERNATIONAL

Abercrombie, whose chains include Abercrombie & Fitch,
Hollister and its children’s unit abercrombie kids, has also
been scaling down on store growth, and shutting underperforming
shops.

On Tuesday, it said it plans to shut about 60 domestic
stores over the fiscal year, and open 20 international
mall-based Hollister stores — fewer than the 25 it had
estimated earlier.

Stifel’s Jaffe said the Hollister cut-backs have more to do
with timing, and were not an indication of poor performance.

For the second quarter, Abercrombie earned earned 24 cents
a share on an adjusted basis, while analysts on average had
predicted 16 cents per share, according to Thomson Reuters
I/B/E/S. [ID:nASA00NY8]

The company earlier said quarterly sales rose 17 percent to
$745.8 million. [ID:nASA00M9U], including an 8 percent rise in
the domestic market, which accounts for the majority of
revenue.

Analyst Noblin said that between the slower store growth,
higher inventories and rising expenses, expectations for the
second half were likely to go down.

While profitability will likely be under pressure from
weaker merchandise margins and incremental operating expenses,
Morningstar analyst Zoe Tan said the company will be able to
offset these pressures through cost-cutting and operating
leverage as it builds out its store base overseas.

“We project operating margins will expand to the high
single digits in 2010 from 4 percent in 2009,” Tan said.

Abercrombie shares, which have fallen about 27 percent
since hitting a 3-year high in April, were trading down at
$34.38 Tuesday on the New York Stock Exchange. The S&P 1500
Specialty Retail Industry Index is down 24 percent over the
same period.
(Reporting by Nivedita Bhattacharjee in Bangalore; Editing by
Don Sebastian, Anthony Kurian)

UPDATE 4-Margins, inventory concerns weigh on Abercrombie