Most companies strive to increase their scale and grow larger, but Gap (NYSE: GPS) has decided the best path forward is to go smaller. In February 2019, the company announced it will be separating into two entities: Old Navy and a yet-to-be-named company with the remaining brands (Gap, Athleta, Banana Republic, Intermix, and Hill City).
The transaction, which is expected to happen at some point in 2020, is a major step in Gap's long-running effort to restructure its business and turn around disappointing results.
Image source: Getty Images.
Old Navy stands out from the pack
Why would Gap want to spin off Old Navy? The answer has a lot to do with growth. Specifically, Old Navy is the company's only brand that is showing meaningful growth. As you can see in the table below, Old Navy has put up positive same-store sales growth for the past three years, while the rest of the brands reported mixed or negative comps.
| Retail brands | 2016 | 2017 | 2018 |
|---|---|---|---|
| Old Navy sales comps | 1% | 6% | 3% |
| Gap sales comps | (3%) | (1%) | (5%) |
| Banana Republic sales comps | (7%) | (2%) | 1% |
| Total company sales comps | (2%) | 3% | 0% |
Data source: Gap financial reports.
Old Navy's strong performance speaks to shifting consumer preferences toward shopping at discount retailers versus more expensive specialty retail brands like Gap and Banana Republic. For context, Old Navy was started in the early 1990s as a more affordable version of Gap stores. The Old Navy brand has exploded in popularity and now generates roughly $7.8 billion in annual sales compared with $8.7 billion in sales for the rest of the company.
This divergence in performance between discount and specialty retail isn't unique to Gap. Discount retailers such as TJX Companies and Ross Stores have prospered in recent years, while specialty brands such as Gap and Abercrombie & Fitch have suffered.
At Gap, this is not only reflected by the divergence in comparable sales but also in store counts. Old Navy is the company's only major brand that is still growing its store base. The difference is even starker than the table below suggests, when factoring in the recently announced plan to close an additional 230 Gap stores over the next few years.
| Retail brands | 2016 | 2017 | 2018 |
|---|---|---|---|
| Old Navy store count | 1,056 | 1,080 | 1,154 |
| Gap store count | 1,319 | 1,278 | 1,242 |
| Banana Republic store count | 650 | 621 | 601 |
| Other brands' store count | 175 | 186 | 197 |
Data source: Gap financial reports. Figures as of the end of each respective fiscal year for company-owned locations.
Old Navy's massive success has created a situation where its business has very different needs and priorities than the rest of the company, which is focused on slowing sales declines and improving margins. On the fiscal fourth quarter earnings call in February, Gap CEO Arthur Peck commented: