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Gapped Wider

08 November 2019 by jbchevrel

The Gap, Inc. (GPS) is an international clothing retailer selling casual apparel, accessories, and personal care products in retail and outlet stores worldwide, although it generates ~80% of its revenue from the US. Their brand portfolio includes Gap, Banana Republic, Old Navy, Athleta, Intermix and Hill City. GPS CDS is in the CDX HY since the s27 and it was a member of the CDX IG before that. Since yesterday’s London close, GPS 5y CDS has widened by +26bp to ~125bp, thus underperforming the broader retail CDS complex. The curve didn’t steepen more, with 1y/5y curve just +5bp. The trigger was that GPS announced that 1/ its profits this year would be smaller than forecast 2/ its CEO would step down. The chairman Fisher will be the interim CEO. As far as 1/ is concerned, GPS sales kept weakening in Q3 and missed consensus in all brands. Indeed, comp. sales came down -4% for GPS as a whole, while -2% was broadly expected. That miss was mainly due to the GAP brand itself (comp. sales -7%) while other brands relatively outperformed (Banana Republic comp. sales -3% Old Navy comp. sales -4%). The miss was partly due to the continuation of more online buying trend, as opposed to traditional mall buying. It is against this backdrop that GPS has slashed their Q4 ([$0.34ps , $0.36ps] vs cons. $0.53ps) and thus their full-year earnings forecasts range to [$1.70ps , $1.75ps]. that is below the previous guidance [$2.05ps , $2.15ps]. that is below the $2.07ps consensus, and below any estimate, as the range was [1.95ps , $2.13ps]. As far as 2/ is concerned, it is puzzling because analysts are now discussing what the CEO depart will mean for the previously planned spin-off of the Old Navy brand, which is actually doing relatively well, compared to the GAP brand especially. the margins at Old Navy are higher and the brand is less dependent on mall activity, which has been a headwind for the group as a whole. Some analysts also pointed out that spinning the Old Navy brand off just as the sales are going down might not be the best timing as well, assuming those will rebound at some point. That said, on this 2/ point, the impact of a Old Navy spin-off for credit was far from totally clear. It would probably have required a partial pay down of the 5.95 21s ($1.25B total out). But the details of the new capital structure and importantly the debt split were not known. In covenants, there are no restrictions on divestitures, no mandatory redemption language. GPS will hold a board meeting next week, so the spin-off may be discussed there. We will also get more details on the occasion of the earnings call on Nov. 21.