In what reads as a desperate move, Gap Inc. is spinning off the best part of its business: Old Navy. The market liked the news, sending shares soaring more than 28 percent in aftermarket trading.
The remaining company, which still needs a name, will consist of the namesake Gap brand, Athleta and Banana Republic, plus a couple of lesser known brands. It will have annual revenue of about $9 billion, compared to Old Navy's $8 billion, the company said.
Analysts called the split a smart one—and one the struggling parent company should have considered long ago.
"It's absolutely long overdue. I'm stunned it hadn't happened already. How much more can the strength of Old Navy prop up the rest of the business?" says Wendy Liebmann, CEO of WSL Strategic Retail. "It's almost as if they used Old Navy as a smokescreen to hide the absolute urgency to do some fundamental things with the other businesses."
The Gap brand, which recently recruited a new chief marketing officer from Adidas, has struggled as part of a broader slump for brick-and-mortar retailers, even as the lower-priced Old Navy brand has resonated with discount shoppers. In the latest quarter—the critical holiday period—Old Navy's same-store sales were flat, while Gap and Banana Republic sales were both negative.
As part of the reorganization, the company will slash the store count of the struggling Gap brand by closing 230 locations over the next two years. These closures will erase $625 million in sales.
Gap's struggles have been brewing for some time, from declining mall traffic to operational issues. One of the most famous missteps came in 2010 when the company unveiled a new Gap logo. Some shoppers complained, so it ditched it just a week later.
There's also been a sense that the Gap brand lost its fashion sense, falling out touch with its core customers. The three largest brands were meant to complement each other, with Old Navy pulling in families with discounts, Gap resonating with high school and college students and Banana Republic a go-to for young professionals. The model has frayed in recent years, with the Gap brand under increasing pressure amid complaints about its clothes and messy stores.
"I would invest in the Old Navy spin. I'm not so sure on NewCo; that's still going to take some time," says Jennifer Redding, Wedbush Securities analyst. "I don't think this is the magic bullet but it's positive. There's still work to do."
Art Peck, who's been leading parent company Gap, will maintain that role at the new company. Peck first took charge of the Gap brand in North America in 2011.
"Maybe the board just said, 'What we need to do is stabilize the remainder of the company before we think about a new person at the head,'" Liebmann says of Peck retaining his role. "Gap is not Gap, the brand is not relevant anymore. Look at the store windows, it's all incredibly generic."
Sonia Syngal, now CEO of Old Navy, will keep leading Old Navy when it becomes a standalone company. The transaction is expected to be completed in 2020, if it gets approval.
"They weren't getting any value for Old Navy. They are making the right decision," says Poonam Goyal, an analyst with Bloomberg Intelligence. "It makes so much sense."