Aeropostale (ARO): Teen titan or turnaround trap?

*Disclosure:  No position in ARO.  I’m not interested in buying at current levels.  This post may be a waste of your time.

After Julian Geiger left Aeropostale, his successor (Thomas Johnson) has managed to run the retailer into the ground.  On August 18, Aeropostale announced that Geiger is returning.  During Geiger’s previous reign, Aeropostale’s revenues went from $123.8M in 1997 to $1,886M in 2009.

Suppose that Geiger returns Aeropostale to its former glory several years from now.  Geiger’s last full fiscal year at the company was 2009 (Geiger officially left in Jan 2010).  In that fiscal year, Aeropostale posted GAAP net income for $149M.  Suppose that Aeropostale makes $149M, achieves a P/E multiple of 15, and has 82M shares outstanding.  The share price would be $27, roughly seven times the current share price of $3.87.  Of course, there are risks and other possible outcomes.  It is likely that Aeropostale will face the same secular headwinds affecting its peers ANF and AEO.  The profitability of all three ‘teen titans’ may be significantly lower several years from now.

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Retail and reversion to the mean

In investing, some people often make the argument that the profitability of a company will move away from the extremes towards the average of its (public) peers.  I see it often on valueinvestorsclub.com.  For example, this writeup on Aeropostale argues that Aeropostale’s profitability should trend back towards its past.  I think that this is a dangerous and flawed argument.

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