American Eagle Outfitters: The Market Is Overlooking This Solid Company

American Eagle Outfitters (NYSE:AEO) provides clothing and personal care products worldwide. AEO recently announced solid Q2 FY23 results. I think the market is overlooking this company. It has solid financials and a low valuation. Its balance sheet has also improved a lot. In this report, I will analyze its Q2 FY23 results. This company has a great upside potential. So, I assign a buy rating on AEO.

Financial Analysis

AEO recently announced its Q2 FY23 results. The total revenue for Q2 FY23 was $1.2 billion, slightly up compared to Q2 FY22. Their store revenues grew by 4% in Q2 FY23 compared to Q2 FY22, and especially its Aerie brand revenue was up 2% in Q2 FY23 compared to Q2 FY22. Along with strong demand for its Aerie brand and store revenue increase, I think one more major factor led to the revenue increase. Their average unit retail in Q2 FY23 was the second highest in the company’s history. Their gross profit margin for Q2 FY23 was 37.7%, which was 30.8% in Q2 FY22. The gross margin improvement was mainly due to lower markdowns due to better inventory control.

Its gross profit increased 22.4% in Q2 FY23 compared to Q2 FY22. The company's profitability was positively affected by several factors, including lower delivery and warehousing costs. Its net income in Q2 FY23 was $48.5 million compared to a net loss of $42.4 million in Q2 FY22. The company's margin and profitability have increased significantly in this quarter, which shows the efficiency of the company. Talking about revenue growth, it wasn't significant, but the revenue in Q2 FY23 was a record second-quarter revenue. So even if the growth wasn't significant, it was impressive, and what was more impressive to me was, along with solid financials, the balance sheet of the company improved quite significantly. By the end of July 2023, its cash and cash equivalent was $175.3 million, which was $98.2 million in July 2022. Its long-term debt has been reduced to a mere $3.2 million from $376.5 million in July 2022, and the current ratio of the company is 1.58. So the balance sheet of the company is looking quite strong.

Technical Analysis

AEO is trading at $15. After an unrealistic upward rally in 2020, the stock went into a downtrend in 2021. It was like a freefall, and the price tanked almost 74% from the highs. The stock looked quite bearish since 2021, but I see a ray of hope after two years. In a monthly time frame, the stock has formed a double bottom pattern, which is a strong reversal pattern, and in August, the stock price broke the pattern's neckline. So, in my opinion, this setup looks attractive and talking about the price target. The length from the body to the neckline of the pattern is around 65%, so the target from the neckline becomes 65%; that's how a double bottom pattern is traded. Hence, I am bullish on AEO, and I think it has great upside potential.

Should One Invest In AEO?

The company’s financial performance has been impressive, and its balance sheet has improved a lot and is looking quite strong. But despite being fundamentally and financially strong, its share price is down around 61% from its all-time highs. But the technical chart indicates a possible trend reversal. I think the market is overlooking this company and it has a great upside potential. Additionally, its valuation looks quite favorable. AEO has a PEG [FWD] ratio of 0.74x, which is lower than the sector ratio of 1.31x. AEO has an EV / EBITDA [FWD] ratio of 7.08x compared to the sector median of 9.26x. Its valuation also looks favorable, and if we compare it to its peers like BOOT, GPS, and OTCPK:ATZAF, it is undervalued. AEO has a P/E [FWD] ratio of 11.4x, and its peers BOOT, GPS, and ATZAF have a P/E [FWD] ratio of 15.4x, 13.87x, and 21.95x - AEO is undervalued. So, its share price being in a downtrend and trading way below its all-time highs can be a great opportunity for new buyers, as it has solid potential. So, I assign a buy rating on AEO.

Risk

Laws controlling issues like minimum wages, conditions of employment, and overtime pay apply to their retail and distribution businesses. They may need to raise the pay rates of their minimum wage employees and the salaries paid to their other hourly or salaried workers as minimum wage rates rise or associated laws and regulations change. Any increase in the price of their labor could negatively impact their financial situation and operational results. They also compete for talented workers across all of their retail stores, distribution and fulfillment centers, and home office operations in a competitive labor market, which may force them to raise salaries and wage rates, bonuses, and other incentives in order to do so. Their labor expenses may also rise as a result of worker shortages and more staff turnover. This could then result in price increases, which might harm their sales. They run the risk of incurring additional store and distribution center costs as well as operational costs. On the other hand, if they are unable to raise prices to match rising labor expenses due to pressure from the market or other factors, their profitability may suffer.

Bottom Line

AEO posted strong quarterly results with great improvement in margins and profitability. In addition, its balance sheet has improved a lot. So, the company is looking financially and fundamentally with a low valuation, and its technical chart is looking bullish. All the factors look favorable, so I assign a buy rating on AEO.