Gap Inc

Gap's second-quarter same-store sales fell 1% as a 10% increase at its namesake (23% of sales) did not offset Old Navy's 4% decline (57%). Excluding a tariff refund, gross margin rose 20 basis points to 41.4% on higher prices, but operating margin dropped to 7.1% from 7.8% on lower sales.

Why it matters: In his three years as CEO, Richard Dickson has improved Gap's financial discipline and the relevance of both its eponymous brand and Banana Republic. However, neither Old Navy nor Athleta has had the consistency that Gap needs for significant sales and profit growth. Old Navy's summer apparel offerings and marketing did not have the desired result, so its comparable sales missed our estimate for a 2% decline. Even so, Gap's other brands met sales expectations, and its adjusted operating margin beat our 6.6% estimate by 50 basis points. We are encouraged that Gap's management is acting aggressively to fix Old Navy, its largest profit driver. Merchandising and marketing changes are underway, and the brand's CEO is being replaced. In the long run, we project Old Navy will generate 2% annual comparable sales growth.

The bottom line: Gap's shares are undervalued relative to our $29 fair value estimate, which we do not expect to change materially. We rate Gap as no-moat but think investors are overly pessimistic about its ability to lift sales at Old Navy and Athleta and hold yearly operating margins of 7.5%-8%. Gap only slightly revised its full-year guidance despite Old Navy's issues. The adjusted EPS range was raised to $2.35-$2.45 from $2.30-$2.40 due to share repurchases above our forecast. With shares trading below our valuation, we think aggressive buybacks create value for investors. We intend to adjust the Morningstar Uncertainty Rating to High from Very High based on our quantitative model and Gap's improved stability under Dickson.

Gap continues to invest in nascent noncore categories, such as beauty and accessories. Given the numerous established firms and brands in these categories, we do not think they will be material sales drivers for Gap in the foreseeable future. However, they are worthwhile attempts to generate incremental revenue and diversify into markets that may offer higher margins and growth potential than apparel.

We hold our fair value estimate at $29 per share.

Gap's second-quarter same-store sales fell 1% as a 10% increase at its namesake did not offset Old Navy's 4% decline. Excluding a tariff refund, gross margin rose 20 basis points to 41.4% on higher prices but operating margin dropped to 7.1% from 7.8% on lower sales. Although Old Navy’s comparable sales missed our estimate for a 2% decline, Gap's other brands met sales expectations, and its adjusted operating margin beat our 6.6% estimate by 50 basis points.

Banana Republic and Gap Global demonstrate positive sales trends, but near-term challenges include higher costs (such as tariffs and energy), weakness in some women’s apparel at Old Navy, and Athleta’s ongoing struggles. For 2026, we forecast 1% sales growth (unchanged), $2.43 in adjusted EPS (up from $2.37 on a lower share count), and adjusted EBITDA of $1.7 billion (10.7% margin). For 2027, we project $2.58 in EPS (down from $2.70 on higher costs) on 2% sales growth (unchanged). Our fair value estimate implies 2027 price/earnings of 11 times and an enterprise value/EBITDA of 5 times.

We expect Gap Global and Banana Republic will downsize, while Old Navy will open stores. We anticipate the number of company-owned Gap Global stores worldwide to fall to 503 in 2035 from 582 at the end of 2025. Between 2025 and 2035, we estimate the number of Banana Republic stores to decline to 333 stores from 409. We forecast long-term same-store sales growth of 1% for each brand. For Old Navy, we forecast 1,417 stores at the end of 2035, up from 1,242 at the end of 2025, and 2% comparable sales growth. We view Gap’s goal for $10 billion in Old Navy annual sales as achievable in 2030. We anticipate the number of Athleta stores will rise to 292 at the end of 2035, up from 252 at the end of 2025. We have reduced our store expansion assumptions for Athleta in recent years due to its weak results and uncertain turnaround; we forecast another large (11%) comparable sales decline in 2026 after a 9% fall in 2025. However, we forecast long-term same-store sales growth will improve to 5% by 2029 as Athleta upgrades its merchandise and as the market for women’s athleisure grows.

We don't believe that Gap has an economic moat. As both a retailer and producer of four individual apparel and accessories brands—Old Navy, Banana Republic, Athleta, and its namesake, Gap—it is one of the most visible clothing firms in North America. However, Gap has been a troubled company for many years; its market capitalization peaked in 2000. The company is highly dependent on very competitive categories (T-shirts, jeans, shorts, polo shirts, sweaters, and so on), and its merchandise is generally not differentiated. As such, it does not achieve premium pricing or profit margins that might provide evidence of a brand-based competitive edge.

As evidence that the firm lacks a competitive edge, Gap's margins and returns on invested capital have been underwhelming. The main problem is that competitive pressures have forced the company to respond with increased spending and discounts, but sales have not increased at all over the past 20 years. Consequently, Gap's gross margins have receded from the mid-40s in its late 1990s heyday to an average of 38% over the past decade. Similarly, the company used to routinely record operating margins above 10% but has not done so since 2015. As its sales have stagnated and its margins have dropped, Gap's returns on investment have been subpar. Over the past five years, its adjusted returns on invested capital, including goodwill, have averaged 8%, below our 10% weighted average cost of capital estimate. Although we project Gap's ROICs will average about 13% over the next decade, we do not think this is enough to evidence a moat.

We forecast Gap's operating margins at an underwhelming 7.5% in the long term. The main issue is that we forecast yearly long-term operating costs (including depreciation) at 32.5% of sales, up from the mid-20s a decade ago, as we believe costs have permanently increased because of competition, lower productivity, and e-commerce fulfillment.

On a stand-alone basis, we do not believe Old Navy, Gap's biggest brand (56% of 2025 sales), would have a moat. Founded as an outlet concept in 1994, the moderately priced family apparel retailer was an instant success, reaching $1 billion in sales in just four years and continuing to grow from there. Today, Old Navy has about 1,240 stores in North America and more than $8 billion in yearly sales, but it faces the same competitive pressures as other clothing retailers.

Old Navy's inconsistent same-store sales support our view that it does not have a competitive advantage. Excluding 2021 (in which it faced easy comparisons due to covid-related store closures in 2020), Old Navy has not achieved same-store sales growth above 3% for an entire year since 2017. Its North America store growth has slowed considerably and has trailed the company's projections. We think the primary problem has been the proliferation of other apparel retailers that sell similar merchandise at low prices.

Gap's namesake chain (23% of 2025 sales) is a shadow of its former self and lacks a competitive advantage. Gap Global, the segment that includes Gap-branded stores, had many years of poor same-store sales before experiencing a renaissance over the past three years. The brand has struggled with competition and a lack of differentiated merchandise. Moreover, Gap has suffered as customer traffic in many enclosed malls has declined. We do not believe Gap has the brand strength to hold off its innumerable competitors.

Similarly, Banana Republic (12.5% of 2025 sales) is fading and lacks a competitive advantage. Banana Republic sells upscale apparel and home goods at generally higher price points than Gap or Old Navy. However, we do not believe it has any significant pricing power over similar brands. It is highly dependent on the North America market (96% of total sales) and competes directly against department stores, e-commerce, discount apparel stores, specialty stores, and many others. Banana Republic, like Gap, has significant exposure to struggling malls. Consequently, same-store sales have been inconsistent, and it has closed stores.

We do not think Athleta (8% of 2025 sales) is strong or time-proven enough to contribute to an economic moat. Athleta is a brand and chain of retail stores that specializes in athletic apparel for women. It was bright spot for Gap, having grown to $1.2 billion in sales in 2025 from $249 million in 2012. Moreover, its merchandise has the highest average unit retail price of Gap's brands at more than $50. However, Athleta's sales growth has reversed over the past four years as competition in the women's athleisure market has intensified.

Gap's international woes support our opinion that it lacks a competitive edge. The company operates and franchises about 1,000 (combined) stores in Asia, Europe, and other regions. However, in 2021, Gap closed its physical stores in the United Kingdom and Ireland and franchised its stores in Italy and France. Gap is also pulling back in Asia, having sold its 89 Gap stores in China for just $50 million and transitioned them to franchises. The company entered China in 2010, years behind rivals like Uniqlo, H&M, and Zara, and struggled to operate efficiently amid high competition. We no longer think Old Navy has any opportunity in Asia as it closed all its 15 or so stores in China in 2020 after having exited in Japan in 2016. North America now accounts for 96% of Gap's sales (up from 84% in 2016).

We do not believe Gap has a moat based on a brand intangible asset, cost advantage, or any other source. Gap, like many apparel retailers and producers, outsources its production, primarily to manufacturers in Asia, and we do not think it can negotiate lower prices to achieve a cost advantage. We do not think the firm has a moat based on efficient scale, either, as the market size and potential for return have not impeded the entrance of other competitors. There is no network effect in apparel retail, and switching costs are nonexistent.

Old Navy is the largest apparel brand in terms of retail sales in the US (Euromonitor). It competes in the discount apparel sector, which has been healthier than other areas of apparel retail.

Gap's debt is manageable, and it has no maturities until 2029. The firm generates free cash flow that will be used for dividends and share repurchases.

Gap generated $6 billion in online sales in 2025 (39% of its total sales). Its digital operations help offset the declining productivity of its stores.

Athleta has gone from being a bright spot to a source of concern as its recent results have badly trailed those of Lululemon and some other peers.

We believe Old Navy generates most of Gap’s operating profit, but its same-store sales have been inconsistent due, in part, to merchandising issues. The ultimate success of Gap’s turnaround plan for the brand is uncertain.

Gap has pulled back from its international expansion plans, so it is highly dependent on spending by US consumers. Issues like prolonged inflation may affect this spending.