Fall 2014 Bain & Company Project American Eagle Outfitters Analysis
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Fall 2014 Bain & Company Project American Eagle Outfitters Analysis
Travel Team
Raymond Michuda Carolina Gutierrez Brendan Hurley Lavinia Li Anvi Ton
▪ Junior ▪ Junior ▪ Junior ▪ Sophomore ▪ Sophomore
▪ Mechanical ▪ Finance and ▪ Consulting and ▪ Finance and ▪ Finance and
Engineering Sociology Political Science Philosophy Sociology
Bernardo Elizondo Jenny Ng Aidan Coronel Colin Lillibridge Javier De Oña
▪ Freshman ▪ Sophomore ▪ Sophomore ▪ Sophomore ▪ Freshman
▪ Finance and ▪ Finance ▪ Finance ▪ Finance and ▪ Finance and
ACMS Economics Economics
2
Executive Summary
•American Eagle Outfitters (AEO) is a casual clothing and
Client accessories retailer that targets 15-25 year-old consumers
Situation •AEO is facing declining profitability in an uncertain market
•What is driving AEO’s decreasing profitability?
Questions •What is the most effective way to increase profitability?
•AEO can increase revenues by entering athleisure market
Recommendations •It can decrease costs by moving manufacturing to Mexico
3
Declining operating margin and stock price indicate
poor performance
Operating margin has declined with a Stock price has declined since 2010
-40% CAGR since 2010
15%
25
11.5% 11.5% $20.55
Operating Margin
12%
Stock Price ($)
20 $15.42
8.7% $14.75 $14.69
9% 15 $13.47
6% 4.2% 10
3% 5
0% 0
2010 2011 2012 2013
Experts are “American Eagle was once among
worried about the most sought-after apparel
AEO’s recent brands in the U.S., but it has lost
performance its essence” — Forbes
Source: SEC 4
Revenues have not grown quickly enough to keep up
with increasing costs
Components of AEO Revenue
4
$3.476
3.5 $3.306
$3.120
3 $2.945
2.5
$ Billions
2
1.5
1
0.5
0
2010 2011 2012 2013
Operating Costs Other costs Profit
Revenue = Operating Cost =
3.9% CAGR 6.7% CAGR
Source: SEC 5
The fact that AEO is positioned in the middle of the market,
despite its poor margins, suggests the market is unattractive
Note: GAP is significantly
larger because it owns
20 Old Navy, Banana
Republic, GAP, GAP Kids
etc.
15 GAP
10
Return on Sales
Abercrombie &
5
Fitch
0
-0.5 0 0.5 1 1.5 2 2.5 3 3.5 4 4.5
-5 American Eagle
-10
-15
Aeropostale
-20
-25
Relative Market Share
Sources: Yahoo Finance, Company 10-Ks 6
Industry margins have decreased by an average of
6.7 percentage points since 2010
Operating Margin by Competitor
21%
18%
Operating Margin
15%
12% AEO
A&F
9% ARO
GPS
6%
3%
0%
2010 2011 2012 2013
Operating AEO A&F ARO GPS Industry
Margin
Percentage -7.3% -4.8% -14.7% -.1% -6.7%
Point
Change
Source: Morningstar, SEC 7
Revenue and cost problems each require a separate
solution
AEO revenue experiencing
AEO margins decreasing
low growth
Problem
Market experiencing low Competitor margins
growth decreasing
Current market is Increase in costs is driving
unattractive this trend
Solution
Identify large costs and
Enter a new market with
determine feasible actions to
high growth rate
reduce them
8
Company &
Market Analysis
Opportunities in
Athleisure Market
Reduction in Cost
of Manufacturing
Final
Recommendation
9
Athleisure market is the most appealing new
market for AEO to enter
Aligns with
Barriers to Market
core Margins Overall
entry Growth
competencies
High-end
Low High 0.6% 3.2%
Clothing
Athleisure High Low 16.3% 18.0%
Outdoor Moderate Moderate 2.1% 10.0%
Fast
Low Moderate 12.0% 16.0%
Fashion
Source: IBISWorld, Euromonitor, NASDAQ 10US athleisure market is about 10% of the US
Sportswear market, sized at $8.17 billion
Athleisure market is embedded in Athleisure Market
Sportswear market, which has Estimate
experienced steady growth (5.6% CAGR)
US Sportswear Sales
$85 Top-Down Approach Bottom-Up
Approach
Sales in ($) Billions
$80 *Preferred method
$75
$70
$65
$60 $81.7 Billion US $1.7 Billion
2010 2011 2012 2013 Sportswear Market Lululemon Revenue
Athleisure market is fragmented; The company
Lululemon is the most recognized brand Athleisure represents 20% of
represents 10% of the athleisure
Sportswear market
• Lululemon
• Athleta (GAP)
• H&M ~$8.17 Billion ~$8.5 Billion
• Foot Locker Athleisure Athleisure
Market Market
• Fabletics (Kate Hudson)
Source: Euromonitor, Morningstar 11Athleisure market is the most favorable of all
clothing markets
Increasing preference for comfortable Athleisure/Sportswear market is growing
clothes over regular clothes faster than regular clothing market
Survey of Teenage Clothing Preferences
25%
Percent of Teens (%)
20% CAGR
15% (2008-13)
10%
5% Regular 1.3%
0% Apparel
Sportswear 3.5%
Athleisure Denim
“The U.S. apparel industry, battered by a slowdown in mall traffic and
stagnant wage growth, is still seeing one category thrive: athleisure.”
- Bloomberg
Source: Mintel, Euromonitor, Bloomberg 12Lululemon’s success demonstrates the athleisure
market’s potential
Lululemon is a good indicator of the overall
attractiveness of the athleisure market
because it is one of the few companies that
almost exclusively sells athleisure clothing
Lululemon has been experiencing steadily Athleisure clothing has lower associated
increasing revenue with a 44.7% CAGR COGS as a percentage of revenue
1600 70%
Revenue ($) in Millions
60%
1200
50%
% of Revenue
40% Lululemon
800 COGS
30% AEO COGS
400 20%
10%
0 0%
2010 2011 2012 2013 2010 2011 2012 2013
Source: Euromonitor, Morningstar 13Barriers to entry include customer loyalty and
advertisement spending, but can be overcome
Customer
Advertising
Loyalty Barrier:
Barrier:
AEO currently unknown
Large players’ high
in the athleisure market
quality and variety of
and requires large
products (i.e.
marketing expenses to
Lululemon)
gain recognition
Response Strategy: Response Strategy:
Attract consumers by AEO can afford to incur
offering a lower price higher advertisement
point expenses because it will
- “48% of Lululemon’s not have to invest in
customers “extremely likely” additional capital
to switch to cheaper
products” expenses
Source: Surverymonkey 14Organic production strategy would be the best way
for AEO to enter the market
M&A Joint Venture Organic Production
• Pros • Pros • Pros
• Strong market • Sharing risk • High product
impact • Medium design design flexibility
• Faster growth flexibility • Control over costs
• Lower barriers to • Lower barriers to and revenue
entry entry • Lowest costs by
• Cons • Cons using existing
• Very expensive • Medium costs facilities and
outsourcing
• Highest risk • R&D costs
contracts
• Integration Issues • Medium product
• Least risk if failure
• Financial fallout design flexibility
• Cons
• Low product • Integration issues
• R&D costs
design flexibility • Not long term
solution • Average barriers to
entry
• 80% of ventures
end in a sale
Source: VR Business Sales Edmonton, Deal Capital 15AEO’s athleisure prices will be above H&M’s and
below Athleta’s and Lululemon’s
Yoga Pants Fitness Shorts
AEO: $65 Lululemon: $81 AEO: $35 Lululemon: $51
H&M: $25 Athleta: $69 H&M: $15 Athleta: $39
Fitness T-Shirt Hoodie/Sweatshirt
AEO: $45 Lululemon: $52 AEO: $65 Lululemon: $112
H&M: $24 Athleta: $49 H&M: $40 Athleta: $94
Source: Company websites 16If AEO captures 3% of growing US athleisure market,
it will increase revenue by $423 million by 2018
Sportswear and Athleisure Markets AEO’s Athleisure Market Revenue
Forecast Forecast
100
94 US Sportswear Sales
Revenue in ($) Billions
Revenue from Athleisure
80 90 92
87
500
Sales ($Millions)
60 69
400
40 300
20 12 13 200
8 10 14
0 100
2014 2015 2016 2017 2018 0
US Sportswear Sales Athleisure Market 2014 2015 2016 2017 2018
Assumption: Athleisure’s share of Sportswear Assumption: AEO will capture 3% of the
market will grow from 10% to 15% in 2018 athleisure market by 2018
AEO Market Share by 2018
2% 3% 5% 10%
Sensitivity
Athleisure share of
Sportswear Market
Analysis for 10% 188 282 470 940
athleisure 15% 282 423 705 1410
market and
AEO shares 20% 376 564 940 1880
25% 470 705 1175 2350
Source: Euromonitor 17Company &
Market Analysis
Opportunities in
Athleisure Market
Reduction in Cost
of Manufacturing
Final
Recommendation
18COGS are driving increased costs; manufacturing, labor, and
logistics are addressable components of COGS
Operating costs are increasing; COGS are a COGS are increasing at a higher
significant portion of these costs rate than operating costs
3.5
3 CAGR of
CAGR of
operating
COGS
2.5 costs
2
$ Billions
Other
1.5 SG&A
6.7% 7.5%
COGS
1
0.5
0
2010 2011 2012 2013
Components of Raw Materials costs have 1. With raw materials costs
COGS decreased declining, we do not need to
2 address this component
• Raw Materials 1.5
Price ($ per
2. Data is not available to address
• Manufacturing
pound)
1 Cotton merchandising costs
• Labor
Polyester
• Logistics 0.5 This leaves manufacturing,
• Merchandising labor, and logistics as the costs
0
2010 2011 2012 2013
that we want to reduce
Source: SEC 19China/North Asia accounts for most of AEO’s
production; costs in this region are higher than and
rising relative to other countries
Majority of AEO’s production is done in There are countries that are cheaper than
China and North Asia China to manufacture in
22 100
58 Americas
Cost of Manufacturing
100 97 96
95 91 91
China & North Asia 90 87
Index
85 83
Europe, Middle
59 80
East, & Africa
75
South Asia
185
5
Southeast Asia
Number of factories
China’s Yuan has appreciated relative to Inflation pressures in China
the U.S Dollar; the Peso has depreciated
Within 5 years, wages are expected to be 25%
16 higher in China than in Mexico
Currency Value Per US
14
12
China’s unit cost has grown over 60% since 2007
10 due to Yuan appreciation
Dollar
8 Yuan
6 Mexican Peso
Energy costs have risen and continue to do so
4 due to China’s industrialization and increased
2 consumption by its people
0
2005 2007 2009 2011 2013
Source: AEO, Economist, IBC, BetterWorld 20Mexico is a more appealing location to
manufacture than China
These other companies have moved most China Mexico
of their manufacturing to Mexico Cost of Manufacturing Cost of Manufacturing
index is 96 (U.S is 100) index is 91 and shrinking
relative to China
Current natural gas Natural gas is tied to the
prices are 64% higher U.S’s natural gas
than Mexico’s prices resources, resulting in
lower prices
Long transportation Connected to U.S via
routes to transport goods land, making goods
to the U.S, which also transportation easier and
makes quality control faster, and makes quality
more difficult control easier
Currently have export Tariff free imports to the
tariffs are 15.9% U.S under NAFTO
Trends in Percentage of United States Imports
U.S.Stats about imports U.S. imports from China In recent events, Some concerns over
imports from Mexico
intellectual property security that are solved
have steadily increased to have remained stagnant at rights have been by using guards at
14.4% of all U.S. imports 19% for the past 3 years compromised by police manufacturing hubs
over the past decade forces and hackers
Source: Census Bureau, IBC, USAToday, Economist, WSJ, 21AEO can best launch Mexican manufacturing
operations by following a five step process
Choose production facilities to terminate operations within China
1 based on expiration date of contract, consistency and quality of
work, social responsibility history and costs of manufacturing and
logistics
Initiate new sourcing relationships in Mexico, starting with Mexico
2 City where AEO currently owns 5,800 sq ft of office space, 2 major
flag ship stores, and maintains a highly competent management team
Encourage other clothing retailers in different markets to partner
3 with AEO in these sourcing relationships to reduce costs and share
best practices
Once locations to close and open have been selected, move
4 production centers at staggered intervals, preferably at periods of
low location usage
Analyze the impact of moving production and continue to move
5 production until the mix of factory locations is optimized
Source: http://www.ae.com/Images/corpResp/AEBetterWorldNew.pdf 22Considerations must be made in order to reduce risk,
but overall this is a low-risk solution
Production can
Certain factors must easily be moved
back to China due
be considered in to AEO’s sourcing
order to mitigate model
risks
Gang-related violence in
Production can be
Mexico
moved one factory Low
at a time, allowing
for AEO to
proposed
However, constantly assess risk
Mexican sourcing the impact
companies may not have
overall this
the expertise to is a very
manufacture AEO products
low-risk
solution
Mexico can possibly
become more expensive to AEO does not own
produce in, though this is factories to begin
with
highly unlikely
23AEO can reduce COGS up to 2.4% by shifting
production to Mexico
Calculation process Savings based on two scenarios
Move 50% of Chinese and North Asian Factories to
COGS Mexico
Year Manufacturing & Percentage of COGS
60% of COGS are from Labor Savings ($M) Savings
manufacturing and labor*
2014 16.5 0.7%
Manufacturing & 2015 21.5 0.9%
Labor Costs 2016 26.9 1.1%
56% of goods made in 2017 32.8 1.3%
China/North Asia
2018 39.0 1.6%
China Manufacturing
& Labor Costs Manufacturing Cost in Mexico
is 95.8% of that of Move 75% of Chinese and North Asian Factories to
China/North Asia (and will Mexico
decrease to 91.8% by 2018*), Year Manufacturing & Percentage of COGS
then multiply by percentage Labor Savings ($M) Savings
Mexico-China Mix of factories to be moved
Mfg. & Labor Costs 2014 24.7 1.0%
2015 32.2 1.3%
Savings = China/North Asia
Costs − Mexico Costs 2016 40.4 1.6%
2017 49.1 2.0%
Manufacturing &
Labor Savings 2018 58.5 2.4%
*Assumption
Source: http://www.fcbco.com/articles-and-whitepapers/articles/bid/129456/Controlling -and-Reducing-Your-Fulfillment-Costs, CBIC 24AEO can also save money on shipping, with total
combined savings reaching up to 4.5% of COGS
Calculation process Savings based on two scenarios
Move 50% of Chinese and North Asian Factories to Mexico
COGS
Year Shipping Total Savings Total Percent of
8% of COGS are from Savings ($M) ($M) COGS Savings
shipping* 2014 33.4 49.9 2.8%
2015 36.1 57.6 3.0%
Shipping 2016 39.0 65.9 3.2%
2017 42.2 75 3.4%
56% of goods shipped from
China/North Asia 2018 45.6 84.6 3.7%
China/North Asia
Shipping Costs Shipping cost in Mexico is Move 75% of Chinese and North Asian Factories to Mexico
37% of shipping cost in
China/North Asia, then Year Shipping Total Savings Total Percent of
multiply by percentage of Savings ($M) ($M) COGS Savings
Mexico-China Mix factories to be moved
2014 50.1 74.8 3.1%
Shipping Costs
2015 54.2 86.4 3.4%
Savings = China/North Asia
Shipping Costs − Mexico 2016 58.6 99 3.8%
Shipping Costs 2017 63.3 112.4 4.1%
Shipping Savings 2018 68.4 126.9 4.5%
*Assumption
Source: http://www.fcbco.com/articles-and-whitepapers/articles/bid/129456/Controlling -and-Reducing-Your-Fulfillment-Costs, CBIC 25Moving 75% of factories to Mexico will increase
projected operating margins by 3%, but margins will
continue to decline
AEO Operating Margin
14%
12%
Operating Margin
10%
8%
6%
4%
2%
0%
2010 2011 2012 2013 2014 2015 2016 2017 2018
Known Projection if cost solution implemented Projection if no change
Reducing costs alone is not enough. Revenues must also be
increased in order to stabilize operating margin.
Source: SEC 26Company &
Market Analysis
Opportunities in
Athleisure Market
Reduction in Cost
of Manufacturing
Final
Recommendation
27Entering the athleisure market and implementing the
cost savings strategy will cause operating margin to
stabilize at 6.5%
AEO Operating Margin
14%
12% Margin
stable at
10% 6.5%
Operating Margin
8%
6%
4%
2%
0%
2010 2011 2012 2013 2014 2015 2016 2017 2018
Known Projection if no change
Projection if both solutions implemented Projection if cost solution implemented
Source: SEC 28Questions?
Thank you for your time!
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