Why I Was Wrong About Abercrombie & Fitch

Abercrombie & Fitch (NYSE: ANF) is a retailer I’ve long said I wouldn’t touch with a 10-foot pole. Its problems were too deep, the changes it was making too superficial, and the chance for it to make a U-turn and recover too small. Looks like I was wrong.

The teen retailer has made an amazing rebound with sales not only at its vibrant Hollister brand that’s continuing to grow, but also in its namesake stores that are putting on a clinic in how to revive a once moribund brand.

A new CEO and new marketing have led the Abercrombie & Fitch revival. Image source: Abercrombie & Fitch.

A revival in the making

It took Abercrombie five years to report an increases in comparable sales, and now it has put up back-to-back increases with first-quarter comps across its brands growing 5%. Hollister comps were 6% higher, marking the sixth consecutive quarter it has notched higher sales.

Although Abercrombie & Fitch is still recording losses, the $41.5 million loss reported in the first quarter was smaller than the $61 million it lost a year ago and shows the retailer is still a work in progress, though one that looks like it has finally found its footing.

My thinking was that there would be little reason for twenty-somethings to need to go back in time to the teen retailer of their youth as it refashioned a former preppy teen brand into one that appealed to those that had now graduated college and gone to work.

It blinded me to the change in fashion that went with it, which Abercrombie calls its must-win categories including graphic tees, outerwear, and jeans. Its must-grow categories include swimwear and dresses. In the first quarter, these categories accounted for over two-thirds of sales, and the company is seeing success with males and females.

It’s easy to say no

Although many investors find it easy to be persuaded into buying a stock, ignoring all the warning signs that suggest a company could be failing because its story sounds so good, my conceit is that I find it all too easy to be bearish about a stock. I pick apart even the best bullish sentiments with a good deal of “whataboutism,” sometimes magnifying risks out of proportion.

That may help me to avoid buying into overhyped stocks, but it also means I can miss out on otherwise good companies and turnaround stories like Abercrombie & Fitch, which still has difficulties, but is busy repairing its business.

Image source: Getty Images.

Investors would do well to learn from my mistake in being too critical of the teen retailer without seeing the possibility that it may have found a new avenue for growth. Abercrombie has a new CEO who is the driving force for the turnaround and who is beginning to see positive results from her efforts.

She has also brought on a new chief marketing officer who was tasked with reconnecting the company with its roots of a love of the outdoors, adventure, and exploration. It looks like it has resonated with consumers.

Moreover, the company has embarked on a major remodeling program to improve its look. While it long ago jettisoned the perfumed aisles and bare-chested and bikini-clad models, it’s more recently updated its portfolio by shrinking square footage so as to create a more intimate engagement with its customers. In all it’s a multipronged plan that is beginning to pay off.

The lesson: By all means cast a skeptical eye on what management says, as it is always trying to put its business in the best possible light and spin the negative, but don’t be so pigheaded about it that you overlook what’s possible.

A long road back

With that said, shares of Abercrombie & Fitch have more than doubled over the past year and trade at over 42 times trailing earnings. Also comps are down sequentially for both Abercrombie and Hollister, notable particularly for the former considering how low the bar was set.

At 42 times trailing earnings and 25 times next year’s estimates, Abercrombie & Fitch may appear overvalued, even when supported by a dividend that currently yields 3.1%, but with it trading at a fraction of its sales and going for only 16 times the free cash flow it produces, the teen retailer may not be as pricey as it seems even though its shares are up 46% in 2018 and have more than doubled in the past year.

I may have missed out on Abercrombie’s strong comeback because I was too negative, but one of the most important parts of becoming a better investor is owning up to a mistake. Retail is still a difficult environment, and the shopping mall is not a completely healthy space, but Abercrombie & Fitch looks like it will thrive despite my original doom and gloom prediction.

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Rich Duprey has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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