Chico's falls out of fashion

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Women's apparel retailer Chico's FAS Inc. has a problem: It has been so successful that there may not be many new customers left to attract.

After becoming one of the stock market's top performers over the past decade, Chico's shares have fallen more than 50 percent since reaching a high Feb. 22 of $49.40. The slide began in early March, when the company reported sales and earnings below analysts' expectations.

Chico's shares fell 33 cents, or 1.5 percent, to $21.90 in 4 p.m. composite trading on the New York Stock Exchange Thursday, setting a 52-week low and giving the company a market value of about $4 billion.

Wall Street's sudden snub has irked Chico's Chief Financial Officer Charlie Kleman, who assailed critics in an investor conference this month. "Certainly the Chico's brand is more mature than it was three to five years ago, but we do not believe it is by any means mature," he fumed.

The reversal in Chico's fortune revolves around the question of whether the Fort Myers, Fla., company can sustain its success as the expansion of its original brand -- which sells comfortable, colorful styles aimed at baby-boomer women in about 500 stores -- slows while the company develops three other brands it has created or acquired in the past three years.

Chico's has high hopes for those newer brands: White House/Black Market, with about 200 stores that sell only black-and-white apparel and have a younger customer base; Soma, an intimate-apparel brand with 20 stores; and Fitigues, a small, upscale active-wear chain of 10 stores. This year, the company plans to open an additional 63 to 67 White House/Black Market stores, 45 to 47 Chico's stores and 33 to 36 Soma stores.

But they have a tough act to follow. Chico's has long been one of the most admired retail companies in the U.S. Its operating-income margin consistently exceeds 20 percent, compared with 3.5 percent for the apparel-retail industry, according to financial-information service ProfitCents. Its average sales per square foot of more than $1,000 for the Chico's brand are among the highest in specialty retail, its embellished styles have proved difficult for competitors to mimic and it has one of the most successful loyalty programs in retail. Its unique sizing system, which has a scale of 0 to 3 instead of a standard 4 to 16, has been a big draw for aging customers. Some analysts cite these strengths in arguing the stock is undervalued.

"We continue to view Chico's as a core retail holding and recommend investors capitalize on the recent pullback," wrote Lauren Cooks Levitan, an analyst with Cowen & Co., in a research note to investors this month. Cowen seeks investment-banking business with the companies covered in its research reports.

Mr. Kleman, the finance chief, is clearly feeling some "how soon they forget" frustration. At the investor conference he said, "The shifting of the pendulum to our younger brands allows us to position the company for years and years and years."

Even though investment in the new brands will slightly shrink the company's operating margin, he said, Chico's will have one of the best margins in the retail sector, exceeding 20 percent of sales in the fiscal first quarter. He also said square footage will continue to increase quickly, by opening stores and by expanding those too crowded to reach their maximum sales potential.

But as long as Chico's remains the dominant brand, investors will base their view of the company on that brand's performance. Lately the news hasn't been good. After the sales and earnings disappointment in March, Chico's in late May scaled back its earnings estimate for the year.

This month, it said sales at stores open at least a year rose 5.1 percent in June -- less than the 5.8 percent analysts were expecting and well below the double-digit gains of recent years. Chico's expects same-store sales, a closely watched measure, to increase in the mid-single digits for the rest of the year.

The retailer attributes these problems to a few discrete problems. It says it is fixing bad color choices and improving its selection of cold-weather clothing for its northern U.S. stores. It is expanding some Chico's and White House/Black Market stores, with more space for cash registers and dressing rooms to shorten lines. In April, it hired a new chief marketing officer from teen retailer American Eagle Outfitters Inc.

For the first time in years, the number of new sign-ups to Chico's loyalty program is slowing, spelling trouble for future sales growth, as most of its sales come from these regular shoppers.

Neely Tamminga, a retail analyst with Piper Jaffray, points out that 23 percent of households with an income of $75,000 or more -- Chico's target demographic -- include a loyal Chico's shopper. That is up from one in 10 three years ago. Ms. Tamminga has a "market perform" rating, the equivalent of a "hold," on the stock; she doesn't own Chico's shares, but Piper Jaffray makes a market in its securities.

"Clearly this speaks to Chico's past success, but we believe that the concept may be hitting a saturation point," Ms. Tamminga wrote in a July 5 note to investors. She said retailers at a similar stage of growth to Chico's typically begin to command lower price/earnings ratios. Chico's trades at a per-share multiple of about 20, while its specialty-retail competitors range from 13 for the established Talbots Inc. to about 40 for relative newcomer Coldwater Creek Inc.


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