Summary
- AEO is a clothing and accessories retailer based in Pittsburgh, Pennsylvania ().
- At the time of this writing the company had a trailing twelve months price-to-earnings ratio of 9.95.
- A simulation-based (sim-based) valuation () suggests that the fair price-to-earnings ratio is 16.73, leading to a fair share value of $23.62.
- AEO currently trades at $14.05, so it appears to be undervalued, with a potential upside of 68.11%.
American Eagle Outfitters (AEO)
AEO is a clothing and accessories retailer based in Pittsburgh, Pennsylvania (). It focuses on casual apparel, accessories, and footwear for men and women aged 15–25 years. Notably, it sells intimates, apparel, and personal care products for women under the Aerie brand; this is a major growth engine for the company.
AEO does not own or operate any manufacturing facility. As such, it depends on third-party manufacturers for all of its merchandise. The company’s operations may be negatively affected by import disruptions. Trade-related unpredictability is not good for this company. On the other hand, such unpredictability also regularly offers attractive entry points for investors.
Estimating a fair value for the stock
In this post we provide a simulation-based (sim-based) valuation () of AEO.
At the time of this writing the company had a trailing twelve months price-to-earnings ratio of 9.95. The growth in earnings for the past 5 years has been on average 27.87%, but has recently (trailing twelve months) gone down to 5.56%. To be conservative, we will consider the mid-point between these two numbers, or 16.76%, to be the sim-based earnings growth rate for the next 5 years.
Is the price-to-earnings ratio of 9.95 suggestive of undervaluation? As you can see in the table below, the answer to this question seems to be “yes”. Since our sim-based analysis uses a S&P 500 return as a basis, the fair price-to-earnings ratio should be 16.73, leading to a current fair value of $23.62. AEO currently trades at $14.05, so it appears to be undervalued, with a potential upside of 68.11%.
Is the fair price-to-earnings ratio of 16.73 too high?
Could the fair price-to-earnings ratio estimated above, of 16.73, be too high? Arguably the answer is “no”, because AEO’s price-to-earnings ratio for the past 5 years has been on average 19.80. In fact, given this, our potential upside may be underestimated.
Other pluses and minuses
AEO pays an attractive dividend of 3.64%, significantly higher than the average S&P 500 dividend, and with a comfortable payout ratio of 36.47%. It has an attractive balance sheet, with $317 million in cash, and no debt – unlike other retailers being affected by what has been called the Amazon-driven “retail apocalypse”.
Also, AEO has been steadily buying back its shares, and it has not been issuing any new debt to finance this.
Recently the stock has lost about 7% of its value in one single day, after it provided “soft” Q4 guidance in an earnings report. The forward guidance was below what analysts expected, but consistent with the conservative approach to guidance usually adopted by AEO.
Still, even with the soft guidance, AEO reported earnings (bottom line) in line with analyst expectations, and revenues (top line) that beat expectations.
Disclosure
The author owns AEO shares at the time of this writing.
