Gap shares slide as tariffs loom large over apparel maker's turnaround plans

Gap shares fell 20% after the company warned that potential U.S. tariffs could cut into profits by up to $300 million, despite exceeding first-quarter sales and profit estimates. While Gap is diversifying its supply chain and increasing investment in U.S. cotton to mitigate the impact, analysts predict margin pressure through 2026, leading to price target cuts from multiple brokerages. The company's strategy includes aiming for no single country to account for more than 25% of its supply chain by the end of 2026.

Analysis

Gap (GAP.N) experienced a significant 20% share price decline following a warning that potential U.S. tariffs could reduce annual profits by up to $300 million, a substantial figure not incorporated into its reaffirmed yearly forecasts. This development overshadows a strong first-quarter performance where the company surpassed Wall Street estimates for sales and profit, driven by successful full-price selling strategies in its namesake and Old Navy brands. Despite these Q1 achievements and a 30% stock surge earlier in the month attributed to turnaround efforts in product innovation and store operations under CEO Richard Dickson, analysts now project margin pressure extending through the second half of the year and into 2026 due to these tariff-related expenses. In response, Gap is actively diversifying its supply chain, aiming for no single country to account for more than 25% of its manufacturing by the end of 2026 (current China exposure is below 10%), and plans to double its use of America-grown cotton by 2026. However, the tariff uncertainty has prompted at least three brokerages to trim price targets, with Jefferies reducing its target from $29 to $26, and UBS analyst Jay Sole highlighting that Banana Republic and Athleta likely require considerable reinvestment to drive consistent positive comparable sales and margin expansion. Gap's forward price-to-earnings multiple of 11.69 currently stands above peers such as Abercrombie & Fitch (7.99) and American Eagle Outfitters (10.02), indicating a premium valuation that now faces increased scrutiny due to these emerging headwinds.

Key Decisions for Investors

• Investors should closely monitor Gap's execution of its supply chain diversification, including its target of no country accounting for more than 25% of manufacturing by 2026, and its U.S. cotton investment strategies as key mitigants to the projected $300 million tariff impact.
• The significant share price reaction and anticipated margin pressure through 2026 warrant caution, particularly given Gap's forward P/E multiple is higher than key competitors despite the new headwinds and the exclusion of tariff costs from current guidance.
• Re-evaluate positions based on the evolving trade policy landscape, the company's ability to absorb or pass on increased costs without further eroding profitability, and the progress on reinvestment needs for brands like Banana Republic and Athleta to achieve sustainable growth.