Although it isn’t as sexy as luxury or as dramatic as discount, the space somewhere in between is heating up.
In fact, recent deal activity suggests that retailers that cater to both low- and high-income segments — those serving “the middle” — have tremendous potential.
Buyers have been paying robust multiples — between nine and 11 times EBITDA in 2011 and year-to-date 2012 — for some of the middle’s best-known brands, like Sycamore Partners’ purchase of Talbots, Ascena’s acquisition of Charming Shoppes, Golfsmith’s sale to an investor group, and the sale of Cost Plus to Bed Bath & Beyond.
But other mid-tier retailers like Gap, Ann Taylor and Abercrombie & Fitch are trading at attractive valuations — between four and six times EBITDA — which represent a significant discount compared to recent trends and to premium and value retailers trading between seven and 11 times EBITDA.
It’s easy to see the reason for the renewed interest. Middle retailers cater to most Americans, and are well-positioned as lower- and middle-income consumers start to trade up again.
Many middle brands have considerable cachet and, with the right strategies and initiatives, significant growth potential. Middle retailers can also make smart financial sense, as they often have less fashion risk than some of their lower- and higher-end counterparts.
So how can the middle transform from blah to ah-ha? We suggest three strategies:
1. Optimize for omnichannel
Many middle retailers have been sluggish to adapt to a changing retail environment. But in a private setting, they have greater freedom to make necessary changes — starting with their store fleet. Many retailers could close 25%-30% of their worst-performing stores and open 10%-15% new stores in better locations or under different brands.
Take American Eagle. Faced with losses of $24 million on $40 million in sales of its 77kids brand, American Eagle recently announced plans to close all 77kids stores. The retailer is also reviewing each American Eagle store’s performance and will close underperformers while doubling outlet locations and opening more stores abroad.
2. Rekindle the brand’s former glory
Many mid-tier brands have considerable history, but are ripe for repositioning.
Consider Foot Locker. With its stock price hovering near $10 in 2009, the retailer embarked on an ambitious turnaround campaign. Because apparel is more profitable than footwear, stores were reorganized to feature color-coordinated outfits up front, with more clothing in the back to pull shoppers through the store. The retailer has also added over 500 associates to its stores, hoping its customer service can be a valuable asset versus e-commerce competitors. Foot Locker has also aggressively pursued deals with vendors — half of its products are exclusive.
The changes have paid off. The retailer is on track to achieve double-digit profit growth by the end of 2012, and will open 80 new locations in 2013, but will also close 74 underperformers.
3. Leverage operational efficiencies
Combining two similar middle retailers in the same portfolio and implementing a shared services platform can provide tremendous cost synergy opportunities and drive favorable