American Eagle Apparel Stores

1. American EagleApparel Stores By: Nick Cecero

2. Market Multiples • I utilize market multiples as a means to compare firms across comparable industries, and size. • Market Multiples are preferable to forecasting financial performance because they do not rely on subjective forecasts. • They can also be used as a means to screen stocks in a quick and easy manner to get an idea of whether a company is overvalued compared to their specific industry or the S&P 500.

3. 5 Step Method of Comparable’s for AEO • Select a set of relevant summary measures of performance and in this example we will look at book value, and earnings. • Identify comparable companies within the apparel stores industry and I will be comparing American Eagle to Aeropostale, Abercrombie & Fitch, and Gap. • For each comparable we must compute multiples for each of the companies and then take an average of the three to give us a market multiple. I used 5 market multiples which include NEA, BV, EPAT, NI, & CI. • We must then multiply summary measure of performance for American Eagle by the market multiple which gives us either an enterprise value or equity value depending on the summary measure we choose. • If we use an enterprise summary measure we must break it down further to arrive at equity value per share where we will take American Eagle’s enterprise value and subtract out (or add) NFL and take that number and divide by shares outstanding.

4. List of Summary Measures • EPAT – Enterprise Value • NEA – Enterprise Value • NI – Equity Value • Comprehensive Income – Equity Value • Book Value – Equity Value

5. 3 Deficiencies to Keep in Mind • There are no specific performance measure’s that are supposed to be used each time for American Eagle. • There are no specific companies that American Eagles should always be compared to and this comes up when we compare American Eagle to Gap. (Same industry but different market cap sizes) • The market may be inefficient and current prices can be wrong as seen on 1/23/2014 in which there was a huge market sell off as compared to the closing prices I used from 1/22/2014.

6. Valuation using a NEA Multiple Data NEA According to the NEA Multiple American Eagles is overvalued as it should be trading at $12.43 as compared to its closing price of $14.31.

7. Valuation using a BV Multiple Data BV According to the book value multiple American Eagles is undervalued by a little over $4.00.

8. Valuation Using a EPAT Multiple Data EPAT According to the EPAT multiple American Eagle is undervalued by almost $5.00.

9. Valuation Using a NI Multiple Data NI According to the NI multiple American Eagle is undervalued by around $3.00.

10. Valuation Using a CI Multiple Data CI According to the CI multiple American Eagle is undervalued by about $4.00.

11. Combining Estimates of Equity Value Per Share After utilizing this particular valuation method we assume that American Eagle should be trading at $17.22 and is currently trading at $14.31 so it is undervalued and therefore should be bought.

12. Is Gap a Comparable Company • Gap’s market cap is valued at almost 17 billion dollars compared to Aeropostale, Abercrombie & Fitch, and America Eagle which all have substantially smaller market caps. • The problem with this is that with Gap’s market cap being so high it begs the question that does it distort our valuation? • It does distort the valuation by a material amount and the following slide will show the computed enterprise and equity value for American Eagle if we leave out Gap.

13. Value of AEO without Gap

14. Valuation Using Other Multiples • Price to sales multiple is useful especially for companies who have negative net income because a multiple of a loss is meaningless. • The reason why I do not want to use a sales multiple for American Eagle is because of the volatility associated with their industry and earnings. During harsh economic times specialty apparel stores tend to lack sales growth and especially with consumer confidence being less than adequate. • If I were to utilize a sales multiple it would yield a meaningless multiple.

15. Valuation Using a Price minus Book Value to R &D Multiple • I could not utilize this multiple in my valuation due to the fact that American Eagle does not have any R & D on their books. • Also, another problem with R & D is that for international companies who report under different accounting standards the rules on how to account for R & D are different under different standards. • For example, under IFRS research activities are expensed as incurred but costs in the development phase of a project are capitalized once economic viability is achieved. • It would be very misleading to utilize this ratio if the comparable companies are all accounting for R & D in different ways therefore throwing off the valuation in the end.

16. Valuation using an EBITDA Multiple • EBITDA multiple gives investors an accurate depiction of a firm’s value because it excludes interest and taxes which can vary across firm’s and their industries. • Also by excluding deprecation and amortization this allows for a more accurate measure of the firm’s finances because when you depreciate and/ or amortize assets these charges are put into earnings inflate a firm’s earnings. • Also, by excluding interest this takes the effect of financial leverage out of the equation, and the tax shield that comes with interest reformulation).

17. Valuation using an EBITDA Multiple According to the EBITDA Multiple American Eagle is overvalued.

18. Industry Specific Multiple Price Per Square foot of Selling Space According to the price per square foot of selling space American Eagle is overvalued by around $6 per share.

19. Recommendation • I recommend this company as a hold for the time being. Although the majority of my valuations signal to me and other potential investors that American Eagle is undervalued at the current moment I do not think it warrants a buy recommendation. The industry they are in is also very volatile and depends heavily on the consumer and their preferences which is extremely hard to predict. Also with the lack of discretionary income specialty apparel stores like American Eagle will have their margins pinched in the coming years. The only reason why I do not recommend selling it is because they do yield a quarterly dividend yield of 3.5% or 0.50 cents per year.

20. The End Any Questions?