Gap Inc. delivered mixed second-quarter results Thursday, beating earnings expectations with $0.57 per share while missing revenue targets as tariff costs threaten to derail the retailer’s ongoing transformation efforts.
The specialty apparel company reported $3.73 billion in revenue, slightly below analyst estimates of $3.74 billion, as strength at Old Navy, Gap, and Banana Republic was offset by continued struggles at the Athleta athleisure brand.
CEO Richard Dickson, now two years into his turnaround plan, told CNBC his strategy remains on track despite acknowledging disappointment with Athleta’s performance. The brand saw an 11% revenue decline and 9% drop in comparable sales during the quarter.
Tariff Impact Escalates Recovery Costs
Trade policy emerged as the quarter’s defining challenge for Gap’s financial outlook. The company now expects tariffs to cost between $150 million and $175 million on a net basis, up from previous estimates of $100 million to $150 million when it last reported in May.
Gap’s supply chain concentrates heavily in affected regions, with 27% of products manufactured in Vietnam and 19% in Indonesia according to fiscal 2024 filings. Vietnam faces potential 46% reciprocal tariffs that could significantly impact Gap’s cost structure.
The escalating tariff burden is forcing Gap to revise its full-year operating margin outlook downward. The company now projects operating margins between 6.7% and 7%, down from 7.4% in the previous fiscal year, reflecting tariff impacts of 1 percentage point.
Mitigation strategies include:
- Supply chain diversification away from China and high-tariff countries
- Targeted price increases on select product categories
- Sourcing adjustments and supplier negotiations
- Inventory optimization to minimize higher-cost unit flow-through
Dickson emphasized the company won’t pursue “meaningful” price increases, instead relying on operational efficiency and supply chain adjustments to absorb most tariff impacts.
Brand Performance Divergence
Gap’s individual brand performance revealed both progress and persistent challenges within the portfolio. Old Navy, the company’s largest and most important banner, generated $2.2 billion in sales with 2% comparable sales growth, slightly below expectations of 2.2% but maintaining its position as America’s top specialty apparel brand.
The Gap brand continued its recovery trajectory with $772 million in revenue and 4% comparable sales growth, marking its seventh consecutive quarter of positive performance. Recent viral marketing campaigns, including collaborations with global girl group Katseye, have helped restore cultural relevance.
Banana Republic showed surprising strength with 4% comparable sales growth despite a 1% revenue decline to $475 million, significantly outperforming expectations of 0.2% growth. The safari-chic brand has leveraged collaborations and improved merchandising to regain customer trust.
Athleta’s struggles present the biggest concern for Gap’s portfolio strategy. The athleisure brand posted $300 million in revenue, down 11% year-over-year, with comparable sales declining 9% amid intense competition from Lululemon and market saturation.
Digital Transformation and Operational Efficiency
Gap’s digital initiatives continue showing promise despite top-line pressures. Digital sales accounted for 34% of total revenue, growing 3% year-over-year as the company invests in AI-driven personalization and streamlined product cycles.
The company launched an Office of AI to optimize inventory management and enhance customer personalization, potentially reducing overproduction while improving margins. These technological investments require sustained capital commitment amid tariff cost pressures.
Gross margin performance reflected mixed dynamics. While the company achieved cost savings through operational improvements, margins contracted 140 basis points to 41.2% due primarily to increased promotional activity at Athleta and higher tariff-related costs.
Inventory levels rose 9% during the quarter, mostly reflecting efforts to import merchandise before duties increased. This strategic stockpiling provides short-term protection but ties up working capital and increases storage costs.
Market Context and Competitive Pressures
Gap’s challenges reflect broader retail industry headwinds beyond trade policy. Fast-fashion competitors continue pressuring traditional apparel companies through aggressive pricing and rapid trend adoption.
The athleisure market where Athleta competes has reached saturation levels, with established players like Lululemon commanding premium pricing and brand loyalty that newer entrants struggle to match.
Consumer spending patterns also show increasing bifurcation. While premium brands maintain pricing power, middle-market retailers face pressure from both discount competitors and economic uncertainty affecting core customers.
Gap’s new CEO for Athleta, Maggie Gauger, joins from Nike as the brand’s third top executive in two years, highlighting leadership instability that has hindered consistent strategy execution.
Financial Outlook and Recovery Timeline
Despite near-term pressures, Gap maintained its fiscal 2025 net sales growth outlook of 1% to 2%, suggesting confidence in underlying demand trends. Current quarter guidance of 1.5% to 2.5% sales growth exceeds analyst expectations of 2%.
The company expects tariff costs to stabilize rather than worsen in fiscal 2026, projecting no further operating income declines from trade policy impacts. This assumes successful implementation of supply chain mitigation strategies currently underway.
Long-term success depends on three critical factors: containing tariff costs without sacrificing margins, executing Athleta’s turnaround under new leadership, and maintaining momentum at core brands while economic conditions remain challenging.
Gap’s transformation efforts show genuine progress at its largest brands while facing unprecedented external pressures. The company’s ability to navigate trade policy volatility while executing operational improvements will determine whether current earnings beats translate into sustainable recovery.
Management’s disciplined approach to pricing and investment suggests recognition that short-term margin pressure is preferable to losing customer loyalty through aggressive price increases.