By Linda McDonough

Shareholders of Ann Inc. (NYSE: ANN), owner of the Ann Taylor and LOFT women’s clothing stores, woke up to a pleasant surprise on May 18th when Ascena Retail Group (Nasdaq: ASNA), owner of the dressbarn and Lane Bryant brands, offered to acquire the struggling retailer for a 21% premium to its closing price.  Ann Taylor was the lucky one, plucked from the discard pile before stumbling down the rocky path of faltering retailers. Most shareholders of struggling retailers suffer the agony of a thousand earnings cuts as the stock withers away. Although private equity firms are often tossed around as potential suitors in retail, they often wait for the bankruptcy shingle to be hung before stepping up for a declining business.

Ascena is paying $47 per share for Ann Inc., composed of $37.34 in cash and 0.68 shares of ASNA stock.  Before the deal, Ann’s stock was up 2% in the past month. Compare that to Bon-Ton Stores (Nasdaq: BONT), a midwest retailer whose stock is down 22% over the same time period.  Francesca’s Holdings (Nasdaq: FRAN), once a Wall Street darling, has seen its stock wilt 11% and Bebe Stores (Nasdaq: BEBE), a purveyor of flashy women’s wear, has suffered a 23% shellacking.

Selling women’s apparel is a tough job these days.  Finicky taste and an addiction to sales have most female shoppers leaving stores empty handed. Although a squall of poor sales can often be temporary setback due to poor merchandising, many retailers fail to lure lost customers back to their stores.  Once sales start dropping, covering rent and fixed expenses becomes more difficult.

Ann Inc.’s Ann Taylor brand was once synonymous with a sophisticated career women’s suit, but the company has struggled over the past year and a half.  Comp sales, a measure of how stores opened for more than a year perform, fell 1.5% in the most recent quarter and 1.9% in 2014. The rules of office attire have shifted.  The once mandatory suit has been replaced with what the industry deems “separates”; skirts, pants and tops sold individually.  That must have blazer is now collecting dust at the back of customers’ closets.

Ann tried to adjust, introducing tailored but more casual work wear.  It began focusing more on its Loft brand which targeted a younger, hipper customer. Yet sales continued to stumble.  Investors patiently awaited the turn around as the stock treaded water for the past year. Earnings were down 33% in fiscal 2015 (ended February 2015).  

As noted above, Ann is lucky to have been picked up by Ascena at this point in its cycle. Both Bebe Stores and Bon-Ton Stores, retailers who have suffered poor sales for a longer time, are losing money.  Once comp sales turn negative, a retailer typically loses the ability to leverage rent and fixed administrative expenses.  Advertising and design expenses are typically cut and the company slips into a negative spiral of declining sales.

Although Ascena has dubbed the deal accretive, meaning it will increase earnings for the combined company, that is only because it was able to borrow the funds for the deal at such low rates.  If Ann Taylor’s profits are higher than the interest paid on the debt used to finance its purchase, the deal is accretive. While this financing strategy shows an immediate positive impact on earnings, it lowers the flexibility of the acquiring company by either draining cash or adding large amounts of debt.

The jury is out on whether the acquisition will be successful for Ascena.  Ann Inc. is Ascena’s fourth acquisition and its largest by far.  After acquiring Maurice’s in 2004 for $320 million, Ascena purchased Justice for $160 million in 2009 and then Charming Shoppes for $900 million in 2012. The total purchase price of Ann Inc. is $2.1 billion. Although Ascena has been able to improve profits at its acquired chains by consolidating IT, distribution and administrative costs, its track record of improving sales is not as clear. Justice, the tween brand that represents 32% of all sales has reported negative comp sales for 5 quarters and declining profits. It’s a stretch to assume that Ascena’s consolidation strategy is a one size fits all plan for success.