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The Gap is in trouble, and spinning off Old Navy could be a mistake

CNN logo CNN 3 days ago Nathaniel Meyersohn

Gap outlined a plan to rescue itself in February, and Wall Street was firmly behind it: The company would spin off its popular Old Navy brand in 2020 and focus on its own struggling flagship, as well as its Banana Republic, Athleta and Hill City lines.

But the future of that strategy is now up in the air.

Gap chief executive Art Peck, an architect of the plan who said in February that he wanted to "write the next chapter for specialty retail," abruptly stepped down Thursday and will give up his board seat. Gap tapped Robert Fisher, a son of the Gap's founders, to step in as interim CEO.

Perhaps more troubling, Gap said that sales at Old Navy stores open at least a year slipped 4% during its most recent quarter compared with the same period a year earlier. Gap also trimmed its guidance for the remainder of the year.

For investors, the lack of a clear succession plan atop Gap and weakness at Old Navy are signs of trouble. Gap plunged 7% Friday as a half-dozen Wall Street analysts slashed their price targets on the company and called the planned spinoff into question.

"Weaker results at the [Old Navy] business reduce the upside potential to the value of a standalone entity," Dana Telsey, analyst at Telsey Advisory Group, said in a note to clients Friday.

"Does this spin actually still make sense?" Jefferies analyst Randal Konik said in a note Friday.

Old Navy, born in 1994, has been the top prize in Gap's often inconsistent brand portfolio. Old Navy reached $1 billion in annual sales in its first four years by hawking trendy, low-priced clothes. The brand has thrived in recent years as more Americans shop for bargains. Sales at stores open at least a year grew 3% in 2018 and the brand has grown to $8 billion in revenue. It aims to hit $10 billion.

Most of the budget brand's nearly 1,200 stores are away from the mall, and Old Navy CEO Sonia Syngal recently said the brand plans to open 800 new stores in "under-served small markets."

"We're an $8 billion start-up," Syngal said at an investor conference in September. "The sky's the limit."

"The opportunity to focus as a stand-alone mono brand and mono company is going to give us that much more ability to move fast," she added.

Gap's board of directors has a regularly scheduled meeting next week. A spokesperson for the company said the board "continues to believe in the strategic rationale for the planned separation."

But the spokesperson added, "if there is any additional perspective, we will provide it on our earnings call on November 21."

Some analysts believe the company may postpone or even pull the plug on the spinoff.

"We think the board may be re-evaluating their options," RBC Capital Markets analyst Kate Fitzsimmons said in a note Thursday.

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