Specialty without The Special

Gap Inc.’s problems have been well-documented. Between a loss of product cachet, trouble with information systems, an underperforming CEO and poor marketing campaigns, it seems that just about everything has been blamed for the retailer’s problems.

But one wonders, with more than 3,000 stores, perhaps Gap has simply expanded beyond the bounds of its target market. It’s rather ironic really: While many retailers complain (and rightly so) that their technology infrastructure inhibits their growth, Gap, a company with a solid technology infrastructure that would support expansion almost limitlessly, finds itself otherwise limited (no pun intended).

Enter Chico’s, my former favorite stock, and many of my friends’ favorite brand. Chico’s found an underserved niche, and has served it well.

Women of a certain age and size can be assured of finding really interesting products that actually fit them. Even the size numbers have been changed to protect the customer’s self-esteem, so where other retailers sell clothes in size 14, Chico’s touts a size 3.

Over the past few years, the chain grew and comparable-store sales rocketed quarter after quarter. Then along came acquisitions and new businesses, including Chico’s purchase of White House/Black Market and its launch of Soma, selling lingerie to the original banner’s target customers. Chico’s was special, and everyone knew it.

Last year the company opened 150 new stores, the most in its history. But 2006 was unique for Chico’s in other ways, too. Last August, for the first time in 111 months, Chico’s posted negative year-over-year comparable-store sales, and October sales were flat in both Chico’s and White House/Back Market.

The company’s CFO blamed poor sales on “higher price points and more casual styles.” Of course, the company is shifting back to its former price points, even as it plans to open 80-plus stores this year.

Chico’s made big changes on the technology front as well in 2006. In May, Chico’s chose SAP as its “end-to-end solution” to help fuel the company’s growth.

Infrastructure changes are required when a company moves into the rarified air of Tier 1, and as some of Chico’s systems began to groan under the company’s growth, there’s no doubt that this was a smart move.

But a disturbing pattern is emerging. Chico’s is starting to smell a lot like Gap. Catering to a niche market, the retailer still sees untrammeled growth ahead.

The hard question is not technology-related. The real question is: Has Chico’s saturated its target market?

Is there a cap on a specialty retailer’s growth? By definition, does it reach a point when growth is unreasonable? Are its customers getting older and heavier and slipping out of its core demographic?

Our hope, of course, is that Chico’s comes out of its swoon, has a successful system implementation, and returns to dramatic comparable-sales improvements.

However, our fear is that it is walking down the same path as Gap. If it truly has saturated the market, comparable-store sales will languish.

And should business initiatives fail, suggestions will be made that the founders should never have retired, and the company will likely blame declining or flat comparable-store sales on the “distraction caused by a new infrastructure implementation.”

When the SAP deal was announced, some analysts, including those at RSAG, felt this would be a Rubicon for SAP—a mid-sized apparel retail winner headed for Tier 1 that needed a fast implementation—and chose SAP.

We ourselves asked the questions: How rapidly would the system get implemented? Would the company falter during the implementation?

But the bottom line is we’ve changed our assessment. Chico’s success or failure will not be a statement about SAP. It will be a statement about the notion of infinite growth in a finite market.

Technology is an enabler. The best technologies may facilitate growth, but as we said earlier, growth can be limited (still no pun intended). The operation may well be successful. But the patient may still struggle.

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