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Russia Can Be A Lucrative Market For Abercrombie's European Business

By: Trefis
Posted: 12/26/2013 1:34:00 PM
Referenced Stocks: AEO;ANF;ARO

Quick Take

Teen apparel retailer Abercrombie & Fitch ( ANF ) is struggling in the U.S. and Europe alike. While less popular merchandise, a mixed retail environment and controversies have troubled the retailer in the U.S., its European business has been weighed down by sluggish economic growth and self-cannibalization. Although the company operates about 110 stores in 12 countries in Europe, over expansion in tourist locations has led to self-cannibalization.

Last year, Abercrombie decided to slow down expansion in the region and target only under penetrated markets. While the company is present in crucial markets such as Germany, the U.K., Spain and France, it is yet to target Russia. We believe that Abercrombie should enter the region soon enough since the region is somewhat untapped by foreign retailers and offers high growth potential.

Our price estimate for Abercrombie & Fitch stands at $40 , implying a premium of about 25% to the market price.

See our complete analysis for Abercrombie & Fitch

Why Is European Business Important For Abercrombie?

The apparel market in the U.S. is highly saturated and competitive, with a good number of established brands. Moreover, sluggish economic growth has affected the industry as well. This year in particular, apparel retailers have struggled to achieve positive growth as cautious consumer spending and a change in spending patterns have weighed on sales. Moreover, teen buyers have been readily changing the brands they favor as trends change without anticipation, which has troubled a number of players. Along with several other retailers, Abercrombie has been at the receiving end of these changes. Its comparable stores sales have declined considerably during the last year and a half, and the near-term outlook isn't looking good either.

It therefore becomes important for Abercrombie to focus on international expansion to diversify its business risks geographically. Presently Europe appears to be the most viable expansion option since Abercrombie is already a well-known brand there. Moreover, the region holds just 7% of the company's store fleet but contributes more than 20% to its revenues. It makes sense for Abercrombie to continue expanding in its existing markets based on opportunities they provide, as well as explore new markets that hold good growth potential for foreign brands.

Abercrombie Should Expand In Russia

In recent quarters, the apparel and footwear industries in Russia have grown at a rapid pace ahead of other European markets. Although average prices have not risen much since the debt crisis, aggressive expansion by a number of retailers has contributed to this growth. The year 2012 alone witnessed the entry of 30 new foreign brands. According to a 2011 McKinsey report, apparel space per 100,000 Russians is only 37,600 square feet, which is just 10% of what it is in the U.S. Even Brazil has a larger average per-store apparel space, despite having lower per capita income compared to Russia. This clearly justifies the aggressive expansion strategies adopted by the retailers.

Additionally, Russians spend more freely on clothing than consumers in other countries. They spend close to 3.1% of their income on apparel, which is noticeably more than China, Germany and the U.S. Through 2015, McKinsey expects the region's apparel market growth (8%) to remain faster than income growth (7%). However, if Abercrombie decides to enter the market, it should keep in mind the fact that Russian buyers are more tempted to buy products at heavy discounts. In 2012, most new outlets started offering 30%-70% discounts from the outset. An interesting fact about Russia' apparel market is the robust growth in the share of online sales. This makes it clear that new players need to target the e-commerce channel to gain a healthy market share. Retailers should be encouraged by the fact that the Russian apparel market is less competitive compared to some of the other developing regions.

To expand in Russia, Abercrombie can target large Russian cities such as Moscow, which are located in the central region. These cities account for about half of Russian GDP and one-third of its retail sales. Interestingly, out of 20 largest apparel players in the region, 17 increased their investments in double digits during 2009-2011.

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